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Prudential/Legg Mason

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By howardroark
December 9, 2002

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Meanwhile, Legg has picked up huge amounts of Amazon stock. As long as they are willing to buy more, they can keep the price up and preserve the Net Asset Values of their funds....My guess is that they know how to manipulate the market to boost fees in the short term at the expense of long term shareholders....Perhaps Legg Mason really likes Amazon and Nextel and is willing to bet a huge portion of their future on the companies. Nah...

You know, I have a few problems with Legg's handling of its Amazon ownership, such as its brokerage arm's simultaneous effusive coverage of the stock, but I thought this allegation was radically off base, especially considering how serious it is. If you think Legg owns Amazon in order to control the market and artificially boost it's NAV as opposed to drinking the JB Kool-Aid, you haven't been paying close enough attention. Legg has long been a true believer in Amazon, in the Joan of Arc spirit of true believing, and in 2000 there were more Legg minions proselytizing Amazon's merits than sock puppet key chains for sale on Ebay. You couldn't take two steps without hearing from some Leggite that Amazon generated $600mm in sale on only $28m in capital, or how Brian Arthur's work on Chaos theory at the Santa Fe Institute somehow meant that everyone would soon be buying cement mixers online. In Bill Miller's 1999 letter to investors, he actually devoted a substantial portion to a William James-inspired essay called "Amazon and the Ethics of Belief," where he enthusiastically argued that Amazon was worth more - maybe a lot more - than its then-market price of $30 billion ($75 a share). They clearly don't own Amazon because they can use it to manipulate the market (so many better candidates for that), but because they (they being Miller, Rapuano, Hagstrom, Befumo, and anyone else who sleeps on Bezos pillowcases at night over there).

Incidentally, Legg can't even come close to controlling Amazon's price, give or take a window dressing type daylong type impact. They owned a bit under 63 million shares at Q3-end as an institution. They actually owned a bit over 64 million to start the year, meaning they've actually been slight net sellers in a year where Amazon has made its biggest move since Legg has owned it, going from $11 to $23. Moreover, Amazon is incredibly heavily traded, Legg isn't exactly anchoring the float. Its entire position has been bought and sold three times over in the last month. On the other hand, in 2000, Legg went from holding only a few million shares to holding over 33 million at year end, its biggest 12-month buying spree in the issue, yet the stock sank during that time from $90 a share to $15 at year (and hitting Value Trust pretty hard); not a great job of manipulation. During 2001 the stock sank again, downs to $11, even though Legg was increasing its position to where it is today. In fact, Legg's biggest buying spree came from Q400 to Q201, a [period] during which Amazon lost over 70% of its value. I just don't think it's credible to accuse these guys of owning Amazon because they think they can manipulate the price, but if it were true, they haven't done a good job.

The convertible debt was also likely purchased at a steep discount, so in the short term it yields a significant multiple of the 4.75%, but in the long term it may end up being worthless.

The bonds are marked to market, so to the extent that the market is pricing them as if they're going to be worthless, Legg gets no special advantage from the dividend. And Legg hasn't been buying AMZN converts for over a year in its reporting accounts, so it's not them that's impacting the market price (more likely its Amazon's improved operating results). Legg owns reporting positions in $260m par value of Amazon converts, split almost evenly between Special Investments and Opportunity. Special Investments didn't exactly vulture in at a steep discount, they paid around $82K for its $120K in face (all before Q400), so they are actually probably slightly down on the position overall. Opportunity bought half its position too early (including some at par) and half late, and they're probably up on their net bond position but it hasn't exactly been a bonanza for them, either.

To invest in a Legg Mason mutual fund, however, is to buy a piece of a ticking time bomb.

Well, I might agree that I'd sooner buy into the Bernie Ebbers Venture Capital Comeback fund than put my money in something that, like Focus Trust, has 1/4 of its assets in Amazon and Nextel Equity, or even something like Opportunity Trust (with due respect to Dale W.), that has almost 1/3 of its assets in AMZN and LVLT debt and equity, but I don't see the support for your argument that they are using their buying power to prop the stock.

By the way, did anyone know that LMVTX wrote 10K put contracts at K = $75 expiring in November of 99? Good thing they weren't LEAPS.

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