Escherichia coli has long been used as an indicator organism for water quality assessment. Recently there has been an accumulation of evidence that suggests some strains of this organism are able to proliferate in the environment, a characteristic that would detract from its utility as an indicator of faecal pollution. Phenotypic and genotypic characterization of E. coli isolated from blooms in two Australian lakes, separated by a distance of approximately 200 km, identified that the blooms were dominated by three E. coli strains. A major phenotypic similarity among the three bloom strains was the presence of a group 1 capsule. Genetic characterization of a conserved region of the cps gene cluster, which encodes group 1 capsules, identified a high degree of genetic variation within the bloom isolates. This differs from previously described encapsulated E. coli strains which are highly conserved at the cps locus. The phenotypic or genotypic profiles of the bloom strains were not identified in 435 E. coli strains isolated from vertebrates. The occurrence of these encapsulated strains suggests that some E. coli have evolved a free-living lifestyle and do not require a host in order to proliferate. The presence of the same three strains in bloom events in different geographical regions of a temperate climate, and at different times, indicates that free-living E. coli strains are able to persist in these water reservoirs. This study provides further evidence of circumstances where caution is required in using E. coli as an indicator organism for water quality.