Michael, firstly, may I say that your site is what led me to the trading style that i now use as a proprietary trader for an institution. In that sense, the value in the material presented here over many years has benefited me (and others) significantly. Additionally, I was in the audience when you presented at the CLSA Asia Pacific Investment Conference in Hong Kong in 2006. So at the outset, let me say thanks for the work you have done.

However, without wanting to offend either you or anyone else, this particular exchange is both superfluous, and in some regards, ignorant.

Ignorant because it suggests that there is not a full understanding of what so called “value” investors actually do. I have worked on both sell-side insitutions such as Morgan Stanley, and on the buyside as a fund manager and prop trader and the public’s perception of a “value’ investor sometimes couldn’t be further from reality.

Firstly, your site refers to Bill Miller, of Leg Mason fame (a “value” house). Bill has been particularly adept at outperforming benchmark indices for longer than most of your readers have been alive. I have marketed sell-side research to Leg Mason when I was a sell-side analyst, and their style incoproates elements of relative strength (momentum of a security relative to a comparison security, usually an index), and singular security momentum. Does this suggest to you that Bill Miller is deliberately misleading investors about his “value” style?

No he is not because as we all know, Charlie Munger (Buffet’s long time business partner and friend) has stated before, the “value” and “growth” argument is (I quote) “twaddle”. Being a value investor (and presumably a savvy one) simply means that you are trying to value an asset and buy it at as big a discount to theoretical value as you can. You can easily be a value investor, yet purchase Google if you believe you are purchasing a good business at a 30% discount to theoratical value. Then, your trick is to discount this value discrepency, and hope to earn and annual return on investment that is higher than other potential investments that you have run your ruler over…in this case, maybe Yahoo.

Second, what buffet is trying to do is earn respectable returns over the long run. His “margin of safety” concept simply raises the probability of his success as he buys cheaply relative to his target price. Selling puts is a bullish strategy and completely compatible with a “value” strategy. As a value investor, using derivatives in such a way allows you to do three things to help your investors and shareholders by selling puts. Firstly, you have the right to buy assets in the future that you have previously valued as being worth alot more than the current price, cheaper than you can right now. Secondly, you are being smart in that you are making an allowance for potentially better value in the stock to emerge (if you expect a market downturn). This is particularly helpful if your time horizon for realisation of superior returns is extended in length, as a value guy is. Lastly, selling the puts, with the full expectation of buying valuable assets at a cheaper price, enhances your returns by the value of the premium over the expected capital required to make the additional purchases when the price falls.

Personally, as price or momentum trader, I am seated right near more value oriented prop traders than myself. The input that I can provide my more value oriented colleagues is this: should I expect market weakness, or, as is more the case, should my trend following models tell me to operate on the short side of the market, by selling futures on an index, I can suggest to the value trader that he should either wait to purchase his great “value” idea, or he can sell puts, collect premium, and then buy later at lower prices, when I am buying my short futures back when my trailing stop, or reverse model tells me to exit my shorts. This way, we both make money, yet couldn’t be more different in “style”. He remains a value trader. I remain a price trader.

Derivatives are completely compatible with a so-called value strategy. In fact, more and more value houses on the buyside are employing derivative experts to help enhance returns for both investors and shareholders. Personally I think the value community are doing their job, and doing it well in some cases like Bill Miller, and Warren Buffet.

Thanks for listening, and again, great work.

Best Regards