petec

Just to add to the dividend discussion, a few years back I collected the following data: Markel CEO pay US$8.9m; Berkeley US$19m and his son $4m; Prem, CA$600k. Personally I've no problem with the dividend (though I accept is it not optimal capital allocation, I like getting the cash). But I would far rather suffer slightly suboptimal capital allocation than have Prem pay himself in line with peers.

Isn't the stock more expensive on a PB than yesterday? The MKT cap has been reduced something like 624M (assuming -4.06%) while the deal financing is 650M I may be being thick but I think the way to think about this is: Old maths: 2014 YE BV ~8360, share count 21.18, bvps 395, price CAD690/USD556, p/bv 1.41 New maths: BV 8360+650=9011, share count 21.18+1=22.18, bvps 406, price CAD660/USD532, p/bv 1.31. So, I think it's cheaper as a result both of issuing above book and the price coming down. I'm not including the equity/consolidated gains for simplicity, and I'm going off memory, so sorry if the numbers are a bit out. P What you are doing is applying a premium to the cash that they just raised, if you do that every equity offering will look good when it is done above book. But when you have a business that is worth 2x book that is raising equity at 1.5x book you will get diluted. I'm not applying a premium to anything. I'm calculating the new P/BV using the new data. And yes, you're right, raising equity above BV will always be accretive to BVPS and raising equity below will always be dilutive. That's why I'd rather they raised above and not below. Actually if you compare FFH's average RoE with their BVPS CAGR over the years there's quite a difference, and I believe it is due to issuing above and buying back below 1x. Bravo, I say.

Pete, Usually rights are offered at much lower prices... Biglari, for instance, has offered for the second year in a row the rights to buy BH stocks at a price far below BVPS after all the rights were exercised. This is why I would have preferred this solution. ;) Gio Well yeah we'd all like a freebie - but that just dilutes anyone who can't, for whatever reason, participate. I'm perfectly happy that they did it this way, at a share price that until a month ago was an all time record.

How did you get to 1.1x? Reported BV was $395 and then I added $20 from roughly $450m of unrealised gains on equity accounted stakes. Prem gave that figure and it got me to 1.3x BV when I did the maths at CAD $670 per share. But I don't think they gave a figure for unrealised gains on consolidated stakes. Did I miss something? You've got to find another $91 in book value per share to get to 1.1x! Which would make me very happy ;) I still don't really get why people would rather a rights issue than just buying more, if it is so attractive!

Isn't the stock more expensive on a PB than yesterday? The MKT cap has been reduced something like 624M (assuming -4.06%) while the deal financing is 650M I may be being thick but I think the way to think about this is: Old maths: 2014 YE BV ~8360, share count 21.18, bvps 395, price CAD690/USD556, p/bv 1.41 New maths: BV 8360+650=9011, share count 21.18+1=22.18, bvps 406, price CAD660/USD532, p/bv 1.31. So, I think it's cheaper as a result both of issuing above book and the price coming down. I'm not including the equity/consolidated gains for simplicity, and I'm going off memory, so sorry if the numbers are a bit out. P

Re stocks, the right stocks (with pricing power and low capital intensity) are good inflation hedges but they will still trade down from current levels going into an inflation because the discount rate rises. Look at the '70's. Re bonds, yes they will be able to reinvest short term bonds at higher rates but the long term ones will take a big capital impairment. Re whether higher investment returns leads to lower underwriting prices: that will ultimately depend on whether management teams aim for a real rate of return on equity or a nominal one. In a 15% inflation environment (for example) a 10% RoE is basically lossmaking, and I'd hope managements would aim for 25% (for example). Interesting. Re Japan, what has hurt those insurecos? Not that this thread is about deflation, but I'm interested. I'm aware that the lifecos have gotten hurt by deflation because it's impossible to earn a return on long dated assets, but what of other insurance? Feels to me like this is the key risk for FFH holders. Not in the sense that it is likely any time soon, but in the sense that it is the black swan that could hurt the most.

I'm inclined to agree. With an acquisition pending, there is a big advantage to locking in financing at a significant premium to book rather than faffing about marketing a rights offering during which time the stock price could go anywhere. I don't think it's fair to call Prem out on this one. If you want more stock, buy it from Mr. Market - who has kindly marked it down today so you can do just that! What I like less is Prem saying on the call that an equity offering was lowest on the list of options when it appears it was highest. Why not just say, "all options are open"? I can only think because the deal hadn't priced at that point, but it's odd. P

Ahahah!! ;) No, well… When Watsa says 25% of FFH portfolio is in cash, he is thinking about float as well, either be it permanent capital or not! Right? If you use part of that cash to buy other float held in cash, where is the difference? Gio I think float is best regarded as a permanent loan. In other words, if you use float to buy Brit, what you're actually doing is borrowing to buy Brit. That doesn't increase your net worth, it merely reallocates the loan from funding a cash position to funding a position in Brit. Over time, as Brit pays out dividends, that repays the loan, and your net worth rises that way.

I have no problem with that general synopsis. I'd add: 1. China will have big issues before things get better because it has misallocated the most capital, by a staggering degree, and has unhelpful demographics. 2. The West is helped by its willingness to accept immigrants. 3. We might actually be on the cusp of a huge technological revolution. Mobile phones are a massive enabler. Driverless cars could simply transform life and productivity. But it'll be very disruptive; old industries will die and it might take time to replace those jobs.

I completely agree. I would add that the UK had a (relatively) command economy back then, which probably led to a lot of inefficiency and inflation. We only did so well because all the factors I mentioned before were *so* powerful. Maybe that's how you get your combination of inflation but also real GDP growth and delevering. I have felt for a while that the Great Depression is not a good template for the current delevering precisely because it was interrupted by the war which, crucially, changed the psychology around the economy. The other template we have is Japan, though that example also has some unique characteristics that make it a sub-optimal comparator.

Rebuilding the country after the war. It's interesting but I always wonder how good a period that is to study. So much was so different. The world was on its knees after the most awful war in history. So much had been destroyed: homes, means of production, the works. People had cut right back on absolutely everything and lived the most austere lives, consuming nothing and saving everything they could, lending to the government to fund an orgy of destruction. Huge amounts of 'normal' GDP had been destroyed, temporarily replaced by this debt-driven GDP of destruction. The one positive thing that had happened was that technology, developed to kill but usable in peace, had advanced tremendously. And the one thing people wanted to do was forget it all, put the past behind them and get on with enjoying life. Basically I think the scene was set, economically and psychologically, to rebuild the means of production, apply new technology to peacetime innovation, and enjoy consumption. I don't have a clear answer for you on the inflation data but I'm sceptical, generally, that the postwar decades provide a good template for any other period. P

Personally I think 9% is way too high and was boosted by the greatest bond bull run in history (unless the deflation swaps pay out big in which case 9% is not too high!). Also, I don't think you should subtract the full £505m but only the part that is excess reserves and can be dividended to the holdco. They don't actually own the rest. I know you can make an argument about float being permanent capital but I think you're heading towards what I might politely call "Italian fiscal accounting standards" with that argument ;) Still a good deal though.

Ha ha! I'm a little hungover today and you certainly had me scratching my head! Along with a friend who is making my head hurt by trying to persuade me of the benefits of a full-reserve banking system, it's been a taxing day ;)

I think the effect is the same: either way, FFH are paying 2.80 for the ex-div book value of the company.

I think your maths is correct if the earnings are sustainable - probably why the market liked the deal so much. For me it is mildly transformative in that it swings the mix of insurance businesses significantly towards the quality end (Odyssey, Zenith, Fairfax Asia, Brit) and away from the parts that aren't necessarily bad but have struggled more (Crum, Northbridge). That's the impact for me.

I agree 100%. Cheers, Gio Yes. The problem with this is simply that with all these efforts to debase the world's currencies we may get a proper inflation instead. Either way I suspect most asset prices come down initially. I think everything is currently priced for perfection: continued CPI stability in a world of unprecedentedly easy money, high debt, trade imbalances, wealth inequality, record margins, etc etc. Good luck sustaining all that. I've also been thinking about that. The critical issue here is timing. Dalio talked about this, too. I can't remember where I heard him saying it but he said something along the lines you'd get deflation first and inflation later. So, it's definitely something to be aware of but right now I also think of Howard Marks' quote that being far to early with something is indistinguishable from being wrong. I have to add though, that I always have a small fracture of my portfolio in gold LEAPs. I'm fine with losing 1% of my portfolio per year on them but I can't bring myself to buy a significant position. Maybe this will change some day but I find it too volatile to regard it as a "real" currency – the way so many hedge fund managers look at it. Dalio, and also Sam Mitchell at Fairfax, who said the key will be identifying the inflection point from deflation to inflation. I recall Klarman has very long dated, way out of the money calls on gold. Sounds good to me. How long dated can you get leaps? Also just finished reading Ned Goodman's Dundee annual letter which comes across to me at least as a rather poorly written and egotistical rant with some quite wooly thinking - but there's also some good stuff and I'm intrigued by his notion that the Chinese will eventually move the world away from the dollar as the reserve currency by backing the RMB with gold. I don't think that'll happen for various reasons, but it just opened a door in my mind to thinking about how the world might go about dumping the dollar as the reserve currency, and who might want to make that happen.

Thanks ni-co. I find Pettis' work excellent but as you say it can be counter-intuitive, so I find I have to think it through every time. Not helped by the fact that although I have read the China book, I got TGR on Audible and I have discovered my concentration as a listener is no match for my concentration as a reader! P I've also bought it on Audible. What works for me is taking it with me when I go for a walk. And I've listened to it twice and I'm going to listen to it at least a third time :D I've just started the second run - but my mind wanders a LOT more than when I am reading I find. He is excellent though. I find it very hard to fault his logic. And the China book was revelatory.

My understanding is that the 25p will be paid in 2015 and will all go to FFH as the 100% shareholder on the record date. So they pay 305 and get 25p back, rather than paying 305 after the 25p has gone to the previous owners.

I've had a deflationary bias for years, but it is clear that the policy response to deflation is pretty inflationary and inflation is a risk that can't be dismissed lightly. Fairfax is well-prepped for deflation: the swaps, the bonds, and also the likelihood of good combined ratios as costs of claims decline in a deflationary environment. In fact, one could argue that deflation isn't much of a risk to insurance companies anyway given their bond portfolios and the likely impact on the combined ratio. Inflation, on the other hand, could be an absolute killer. This is my one criticism of Prem over the last few years: he's described a lot of what he has done not as outright bets but as protecting the company against a worst-case economic outcome. But I don't think deflation is the worst case economic outcome for insurance companies. I think inflation is. We have plenty of good inflation vs. deflation coverage on other threads, so let's not repeat that here. But what are your thoughts about how Fairfax (and other insurers) would perform in an inflationary environment? Have I missed something? Pete

I agree 100%. Cheers, Gio Yes. The problem with this is simply that with all these efforts to debase the world's currencies we may get a proper inflation instead. Either way I suspect most asset prices come down initially. I think everything is currently priced for perfection: continued CPI stability in a world of unprecedentedly easy money, high debt, trade imbalances, wealth inequality, record margins, etc etc. Good luck sustaining all that.

Thanks ni-co. I find Pettis' work excellent but as you say it can be counter-intuitive, so I find I have to think it through every time. Not helped by the fact that although I have read the China book, I got TGR on Audible and I have discovered my concentration as a listener is no match for my concentration as a reader! P

Trying to work this through in my head - can you elaborate?

This makes more sense. Once you had adjusted for the fair value of their associates, the stock only traded at 1.1x book from what I could calculate back of the envelope. Hardly an expensive price for a company that seems like it will do moderately well no matter what environment. Yeah, makes a lot more sense. Looks like a very nice acquisition to me. Yeah, sorry about that - I had an early transcript which said "is expensive". It's been corrected since!

Remember the 15% is local fx, including inflation. The real numbers are going to be different. Exactly. Indian rates have exceeded US rates by about 6-7% in the last 15 years, and by 8-9% in the last 5-6 years, so a 15% nominal return would get FIH only about 6-7% in USD. Of course, there's still the 1.5% management fee. Investing in FIH is tantamount to expecting at least 2.5% alpha. If FIH gets 17.5% in INR instead of 15% in the SENSEX, that might be 9.5% in USD, and FIH would pay FFH 1.5% + (9.5-5)*20% = 2.4%, and FIH would break even with the Indian market index; higher alpha is gravy. Assuming, of course, that the Indian market continues to do what it's done before ;) Admittedly, there are a lot of assumptions here, but the assumption that the Indian market might go up 15% a year, or 6-7% in real terms, is not a heroic one. This is almost exactly the average real total stock market return, according to Siegel. Fair point. I was thinking about it from the perspective of the -ve correlation between stock market returns and GDP growth. It's a complex relationship, but if Modi does transform India I think it's quite possible that the overall market will disappoint as markets are opened up to competition and capital floods in.

From the call: "And all of that just to say, in terms of our common stock, we think our common stock with a book value of $400 a share and a stock price – with a market stock price to book value of about 1.3 times, we think it's expensive." Er...did he actually just say that?! ;)