giofranchi

As to whether it's worth more than 1.5BV if a 'Kaboom' moment is coming, Mr. Gundlach's fund can be invested in without any premium to book value whatsoever. The market is having trouble valuing FFH at a high premium to book value because the market itself is the one setting the value of the underlying portfolio investments -- it would be truly bizarre for it to say that JNJ is worth more in FFH's portfolio than outside of it. Thus it's down to the operating income and growth assumptions of the insurance operations for the market to use as it's input for setting a PB multiple on the stock. ERICOPOLY, I think the market is extremely allergic to those “lumpy results” Mr. Watsa is used to referring to. FFH has not meaningfully increased BV per share for some time now. That’s why, in my humble opinion, the market is completely mispricing FFH today. Because lumpy results in a secular bear for stocks are the only sustainable results possible. My best guess is the market sooner or later will recognize that Mr. Watsa & Company are right, and that will be the moment when BV per share starts to rise again very quickly. Until then the market might not have patience, but FFH shareholders must have it. giofranchi Yes, BV will no doubt rise quickly when their investments rise quickly. But that isn't in itself in any way warranting a high book value multiple. It merely results in very high rates of compounding over time, which is just dandy anyhow. There are no investment funds compounding at a high rate that command a high multiple to their underlying portfolio investments. FFH by definition should always trade below intrinsic value, otherwise it would be overvalued. That's the nature of gaining much of your intrinsic value by making shrewed equity investments. The place where they do command some kind of BV multiple would come from evaluating their insurance operations and their wholly owned non-insurance subs. Figure out some sort of value of what the float+floatgrowth+underwriting results brings to the table, and then add that to the BV to get some sort of BV multiple. But the lumpy capital gains... I don't see them worth anything more than portfolio mark-to-market value. ERICOPOLY, I am well aware of the fact that almost nobody wants to hear about discounted valuations on this board… And I agree that they are not very useful. But let’s just make a simple exercise, and calculate the discounted value of equity (VOE) of FFH 20 years from now. To do it, I will use Professor Penman’s formula from his book “Accounting for Value”, page 68, Columbia Business School Publishing: Present value of equity = B0 + [(ROE1 – r) * B0] / (1 + r) + [(ROE2 – r) * B1] / (1 + r)2 +[(ROE3 – r) * B2] / (1 + r)3 + … + [(ROE20 – r) * B19] / (1 + r)20. Assumptions: B0 = book value today = $360, ROE1 = return on equity in year 1 ROE2 = return on equity in year 2 … ROE20 = return on equity in year 20 r = interest rate Let’s say our required minimum return is 9%, so r = 9%. Let’s assume that ROE in year 1 and 2 will be equal to their stated goal of 15%, and then, from year 3 to year 20, it falls to 10% (just above the minimum required return). Under these assumptions we get to a present value of equity: VOE = $570.24, or 1.584 x B0. If we assume that a ROE = 15% will be sustained for the next 20 years, we get to a present value of equity: VOE = $1,112.39, or 3.09 x B0. If, instead of using our required minimum return, we choose to use FFH’s cost of capital as interest rate, so that r = 2,8% (until year end 2011 the weighted average cost of float for FFH since inception has been 2,8%), future ROEs just have to average 6,5% for the next 20 years, to get to a present value of equity that is 2 x B0. My intention here is not to put a precise number on VOE, but simply to argue that the market always has a very hard time valuing properly a machine that can compound capital at high rates of return for a very long time. That’s why I think that, even if FFH might not look “statistically” very cheap, right now it is, like Sir John Templeton was used to saying, a “true bargain”. Something that’s trading below book value is worth more dead than alive… Now, please read how Mr. Watsa answered to Mr. Shezad, when he asked if FFH shareholders had to expect other 7 lean years (Q3 2012 results conference call): “Yes, that was -- Shezad, that's a good question. And so the first thing, just to say you is we've always focused on the long-term and when we went through our 7 lean years, Shezad, we were turning around our company. We were turning around Crum & Forster and the -- take reinsurance and all of that, and that took sometime to turn it around. Today, our companies are in excellent position, they're underwriting-focused, they are well reserved, they've cut back in the soft markets and they are well- positioned to expand significantly at the right time. And then as we are expanding today, you're seeing that in Zenith, and you're seeing it in Crum & Forster, you're seeing it on Odyssey. And the Canadian market's always lag -- have lagged in the past and you'll see it in time in Canada. So underwriting operations are very well-positioned, and our investment philosophy and position -- they're always long term. So when we had credit default swaps in the past, it took a few years for it to work out and as you know, we made a lot of money. And so right now, it's very important not to reach for yield because if you do reach for yield, if you put money into the stock market at these prices, you could suffer permanent losses. We'll take temporary losses but we don't like taking permanent losses. So I don't think we'll be at a position where our results will be poor for a long period of time but you're right for the last year and a half, it hasn't been good. But our results for year ending 2011, for the 5 years, is among the best in the business and of course, for the 26 years ending 2011, it's better than anyone else in our industry. So we're focused on the long-term and we continue, we've always been focused on the long-term, and continue to be focused on doing well for our shareholders always.” It really doesn’t sound to me as something worth more dead than alive! :) giofranchi

I suspect that the reason is that not everybody wishes to hold FFH for a decade like you and me. Some people are more active investors and want to pick up a 50-cent dollar and then turn around and sell it for 80-cents in a year or two. People who are able to do that reliably can have a better return than just holding FFH or BRK for lengthy periods. I suspect that people are now looking at FFH as an opportunity to buy very cheap and sell a little bit less cheap sometime during 2013 for a quick 20%. As an observation, back when ORH was still publicly traded, many of us made good money by flipping back and forth between FFH and ORH depending on which looked more attractive. For whatever reason, the relative valuation of the parent and subsidiary would swing perhaps 30% back and forth a couple of times per year so you could play the relative valuation while retaining a long-term exposure to the basic P&C business and to the investing prowess of Prem et al. Too bad we can't do that anymore! SJ Thank you SJ! And yes! I was suspecting the same reason. But, let’s say that FFH is worth 1,5BV (it is worth much more, especially if the ‘Kaboom’ moment Mr. Gundlach talked about is really in our future, but let’s keep it simple!): when people buy FFH at $370, they are buying $1 bill for 68.5 cents; on the other hand, when they buy FFH at $350, they are buying $1 bill for 64.8 cents. Again, not such a dramatic difference! Anyway, it was just a passing thought of mine… by no means an interesting remark! giofranchi Gio, I am afraid the 'Kaboom' moment Mr. Gundlach mentioned doesn't necessarily mean that will benefit FFH If I was reading correctly, he was worrying about sovereign debt explosion and high inflation, will that necessarily lead to market crash ? Or deflation first and then high inflation later ? If the later case, FFH will benefit Plato1976, it seems to me that markets at this point are very fragile… I think any scare could make them decrease significantly. Don’t know when or why, but it is a danger we’d better be very well aware of. And yes, I still see a deflation threat, before high inflation might become a problem. From 1932 to 1937 a lot of money was printed and the dollar was devalued many times. Talks about very high inflation were the order of the day… we all know what actually happened from 1938 until WWII. Japan during the last 20 years printed a ton of money, yet it is still in chronic deflation. And I think that the US in the ‘30s and the last 20 years in Japan are the most relevant periods for what we are living through today. giofranchi

As to whether it's worth more than 1.5BV if a 'Kaboom' moment is coming, Mr. Gundlach's fund can be invested in without any premium to book value whatsoever. The market is having trouble valuing FFH at a high premium to book value because the market itself is the one setting the value of the underlying portfolio investments -- it would be truly bizarre for it to say that JNJ is worth more in FFH's portfolio than outside of it. Thus it's down to the operating income and growth assumptions of the insurance operations for the market to use as it's input for setting a PB multiple on the stock. ERICOPOLY, I think the market is extremely allergic to those “lumpy results” Mr. Watsa is used to referring to. FFH has not meaningfully increased BV per share for some time now. That’s why, in my humble opinion, the market is completely mispricing FFH today. Because lumpy results in a secular bear for stocks are the only sustainable results possible. My best guess is the market sooner or later will recognize that Mr. Watsa & Company are right, and that will be the moment when BV per share starts to rise again very quickly. Until then the market might not have patience, but FFH shareholders must have it. giofranchi

I suspect that the reason is that not everybody wishes to hold FFH for a decade like you and me. Some people are more active investors and want to pick up a 50-cent dollar and then turn around and sell it for 80-cents in a year or two. People who are able to do that reliably can have a better return than just holding FFH or BRK for lengthy periods. I suspect that people are now looking at FFH as an opportunity to buy very cheap and sell a little bit less cheap sometime during 2013 for a quick 20%. As an observation, back when ORH was still publicly traded, many of us made good money by flipping back and forth between FFH and ORH depending on which looked more attractive. For whatever reason, the relative valuation of the parent and subsidiary would swing perhaps 30% back and forth a couple of times per year so you could play the relative valuation while retaining a long-term exposure to the basic P&C business and to the investing prowess of Prem et al. Too bad we can't do that anymore! SJ Or it could be that FFH at the current price meets these investors' hurdle rates for investing. I can tell you that I don't just go by the rule of thumb that FFH will increase BV by 15% and, therefore, I will get a 15% return over time if I buy at BV. I have my own assessment of when I think FFH is cheap, and it's not dependent on nominal IV (i.e., BV). txlaw, I didn’t want to upset anyone… I am sorry if I did! Certainly not you, because I really enjoy your posts! Anyway, I said 15% annual increase in BV per share just because that is their stated goal. But the math doesn’t change if you use 10%, 5%, or if you use 20%. Personally, I do not have any idea of what their future results will be… But I think I understand what they are doing, why they are doing it, and how they are doing it. And that’s what really matters to me. If I have studied history enough, and I understand the historical period we are living through, so that caution is really warranted here, FFH might turn out to be one of the best investment in north America for the next 10 years. An entry point today at $350, instead of $370, won’t make any meaningful difference. Of course, that’s just my humble idea. And many of you might now think I am nuts! :) giofranchi

I suspect that the reason is that not everybody wishes to hold FFH for a decade like you and me. Some people are more active investors and want to pick up a 50-cent dollar and then turn around and sell it for 80-cents in a year or two. People who are able to do that reliably can have a better return than just holding FFH or BRK for lengthy periods. I suspect that people are now looking at FFH as an opportunity to buy very cheap and sell a little bit less cheap sometime during 2013 for a quick 20%. As an observation, back when ORH was still publicly traded, many of us made good money by flipping back and forth between FFH and ORH depending on which looked more attractive. For whatever reason, the relative valuation of the parent and subsidiary would swing perhaps 30% back and forth a couple of times per year so you could play the relative valuation while retaining a long-term exposure to the basic P&C business and to the investing prowess of Prem et al. Too bad we can't do that anymore! SJ Thank you SJ! And yes! I was suspecting the same reason. But, let’s say that FFH is worth 1,5BV (it is worth much more, especially if the ‘Kaboom’ moment Mr. Gundlach talked about is really in our future, but let’s keep it simple!): when people buy FFH at $370, they are buying $1 bill for 68.5 cents; on the other hand, when they buy FFH at $350, they are buying $1 bill for 64.8 cents. Again, not such a dramatic difference! Anyway, it was just a passing thought of mine… by no means an interesting remark! giofranchi

Sorry, I have read again what I wrote and I now understand that it is not clear. What I meant follows: If you buy FFH today at $370, and FFH increases BV per share at 15% annual for the next 10 years, and in year 10 it trades at BV, you will get a 14.68% CAGR of your investment. On the other hand, if you buy FFH today at $350, you will get a 15.32% CAGR of your investment. I understand that 15,32% is better than 14,68%, but they are not dramatically different! So, I was surprised to find so few people interested in FFH, when it was trading slightly above BV, and so many people who are now buying into it, just because its share price fell slightly below BV… I hope now it is clearer. giofranchi

Thank you for this insight! It is very similar to what I am doing. And yes, it surely is quite hard! giofranchi

Interesting “montage” piece by Mr. David Hay. giofranchi 575_eva11.30.12na.pdf

It is a bit curious to me that when FFH traded at $370 almost nobody wanted to look at it… Now that it is trading at $350 everybody seem to be very interested to invest in FFH! I have increased my firm’s investment in FFH, but my view on the merits of the investment has not really changed. FFH has the know-how and the culture to compound capital at very satisfactorily rates of returns, while running very low risks, for the next 20 years. It seems to me that, if you invest in FFH, those merits are almost the same, whether its shares are traded at $350, or they are traded at $370. :) giofranchi

I agree, I think it is a very good piece. But… it seems to me that it fails to address the most crucial questions of all: how much capital to put into stocks today? And what to do with the rest of it? He makes this example: “Let’s say you think equities are priced to generate 5% real.” I understand that example is very useful to explain Exhibit 7, but what about the present situation? Previously he stated: “GMO’s current S&P500 forecast is 0% annually”. So, if I read Exhibit 7 correctly, when equities are priced to generate 0% real, it doesn’t really matter whether financial repression lasts 5, 10, or 20 years: your % weight in stocks should be 0 anyhow. Right? But let’s make a more optimistic scenario for stocks, let’s assume the S&P500 is priced to generate 4-5% real and financial repression lasts 20 years. Even under these conditions you should not allocate to stocks more than 50%-60% of your capital. So, two considerations: 1) How many on this board are 40% out of stocks? I guess almost nobody. 2) Even if you think it is right to be 40% out of stocks, where else to put your money? From the beginning of the piece it is very clear that bonds are not the place to be, and cash will lose its purchasing power. Gold? Well, if you look at gold as cash that cannot be printed, maybe 5-10%… You are still left with 30% of your capital to allocate… where?! It doesn’t seem to me Mr. Montier answered that question satisfactorily enough. giofranchi

Latest White Paper by James Montier. giofranchi The_13th_Labour_of_Hercules_Capital_Preservation_in_the_Age_of_Financial_Repression.pdf

IceCap Asset Management Global Markets November 2012. giofranchi IceCapAssetManagementLimitedGlobalMarketsNovember2012.pdf

Thank you for this insight! Very interesting. I am not a JCP shareholder, but I have a great deal of respect for Mr. Ackman and I would like to see him successful in his JCP endeavor, as he was in many others before. giofranchi

Well, I have not done any homework on linta yet. But I will surely do. Thank you both rimm_never_sleeps and Sportgamma! giofranchi

No, I hadn't watched it yet! Thank you very much again! :) giofranchi

Hi Sportgamma, actually I tried to give a value to their cable operators business (Starz), while admitting that valuing their portfolio of investments is hard. And the reason is exactly what you have written: Anyway, their track record as value creators is extremely good (just yesterday Cristopher1 suggested me to read “Cable Cowboy”, which I have bought and contains this amazing feat in the first chapter: TCI share price enjoyed a 45% CAGR from 1974 to 1997! Awesome!) and I said I am just confident they will unlock much value from their current portfolio of investments going forward. In attachment you find the list of all their investments as of September 17,2012: “Liberty Media Corporation owns interests in a broad range of media, communications and entertainment businesses. Those interests include subsidiaries Starz, LLC, Atlanta National League Baseball Club, Inc., and TruePosition, Inc., interests in Sirius XM Radio Inc., Live Nation Entertainment, Inc. and Barnes & Noble, Inc., and minority equity investments in Time Warner Inc., Time Warner Cable Inc. and Viacom Inc.” A sum of the parts analysis might be possible, but certainly is not easy to do! For instance, I think TruePosition has a very bright future, it is an asset I like very much to own. But how to properly value it? They have a portfolio of high-growth companies and they can afford to invest that way, because of a lifetime of experience in the media sector, which gives them a true competitive advantage. But what about me? I confess I don’t feel I am very good at valuing high-growth businesses in the media sector… Like most of my investments, I think the business is good, I think the sector has bright prospects, I pay very much attention to the price, but finally also LMCA is most of all a jockey bet: I think I am partnering with outstanding individuals. Thank you for the LINTA suggestion: I will surely check it out! giofranchi LMC-Asset-list-effective-9-17-2012.pdf

Yes, very good advice indeed! I will certainly do it asap! Thank you very much, giofranchi rimm_never_sleeps, I have checked out and here is what I have found: Q3 2012: share repurchased $22.3 million, average price $105.72, Q2 2012: share repurchased $95.9 million, average price $85.03, Q1 2012: share repurchased $120.1 million, average price $86.53, Q4 2011: share repurchased $37.3 million, average price $76.72, Q3 2011: share repurchased $50.7 million, average price $62.85, Q2 2011: share repurchased $4.3 million, average price $78.27, Q1 2011: share repurchased $31 million, average price 72.34. Actually, in Q3 2012 the amount of money spent in share repurchases was much lower than in Q2 and Q1 2012, nonetheless they didn’t stop buying back shares. Moreover, the amount of money spent during Q3 2012 in share repurchases was very much in line with the money spent during 2011 for the same purpose ($30.8 million per quarter on average). Even though the stock price in 2011 was much lower. They are constantly increasing their stake in Sirius, so it is reasonable that, after buying a lot of shares back in Q1 and Q2 2012, they decided to allocate less capital to share repurchases in Q3 2012. This is what Mr. Steven Bregman had to comment about LMCA on last August 28, 2012: “The price right now is probably about $104 a share. If I think about a company in terms of the quality of the business platform, and I might say that in terms of cable channels—not cable infrastructure, which he left quite a long time ago and sold to AT&T, which was a fool for buying it from him—that’s on the right side of the content divide. There’s a lot of foment in the media and technology sector. It’s really a very, very high quality business, with a very, very long product lifecycle. It’s got a lot of intangible assets associated with it, a lot of free cash flow. It’s a wonderful business in terms of quality of platform. It is bizarrely priced. It’s really a wonderful investment. In terms of risk/reward profile, I would say that comes near the top in terms of selection.” My best guess is that, if at $104 LMCA was “near the top in terms of selection”, at $109 it might still turn out to be a pretty good investment. As always, though, I would buy leaving a lot of room to average down aggressively, as soon as the market gives me the chance to buy more at lower prices. giofranchi

Yes, very good advice indeed! I will certainly do it asap! Thank you very much, giofranchi

Thank you, rimm_never_sleeps! I think that Operating Income is so variable from year to year because of Mr. Malone’s “nice habit” to create value through spin-offs of numerous businesses. Operating Income is generated by businesses Liberty Media possesses in their entirety, as opposed to “Dividend and interest income”, “Share of earnings of affiliates”, and “Realized and unrealized gains on financial instruments”, that are generated by their portfolio of investments. Today the most significant business they possess 100% is Starz, and that’s why the great majority of operating earnings are coming from Starz. Right now Mr. Malone and Mr. Maffei are in the process to spin-off Starz, while they seem intent to purchase the entirety of SiriusXM (of which they already own 49,2%). Also, they usually target high-growth companies: for instance, Starz increased Adjusted OIBDA at a 16,7% CAGR from 2009 to 2012. So, also the operating profits it generated increased much from 2009 to 2012. Given the very dynamic nature of Liberty Media, my only intent was to assign a tentative value to what I would be buying today. Knowing that tomorrow the whole company might be quite different, but also believing that Mr. Malone and Mr. Maffei would always strive and do their best to increase its value at a satisfactory rate. giofranchi

Liberty Media is near 52-week high. And generally I don’t like buying things at 52-week high. LMCA, though, seems to be an exception. Please, take a look at the presentation in attachment: on slide n.4 you see that LMCA’s portfolio is worth $11,540 million at market value. If you subtract $541 million of debt, you are left with an $11 billion portfolio. On slide n.7 you see that operating earnings for the past 12 months were $594 million. Interest expenses for the past 12 months were $33 million, and the tax regimen LMCA is subject to is 28%. That leaves us with a net income for the past 12 months equal to $400 million. If we use a multiple of 6.66, it means we are getting a 15% return after taxes the first year of our investment: $400 million x 6.66 = $2,664 million. Given the fact I am inclined to think that Mr. Malone wouldn’t keep an investment portfolio if he weren’t expecting it to compound at least at 15% a year, it seems to me that, as long as LMCA’s market capitalization doesn’t exceeds $11 billion + $2.6 billion = $13.6 billion, we have got the chance to partner with Mr. Malone at very satisfactorily rates of return on our investment. As of last Friday LMCA’s market capitalization was $13.11 billion. The largest investment by far in LMCA’s portfolio is SiriusXM, which is an impressive business. FCFs it generated during the last 5 years are as follows: 2008 $(552) million; 2009 $185 million; 2010 $210 million; 2011 $416 million; 2012E $700 million. It has already grown very fast, but Mr. Malone thinks there is still a lot more growth that can be accomplished. So, what am I missing here? A very high-quality business, near 52-week high, that gives us the chance to partner with one of the most accomplished businessmen and investors in America, and provides us with an expected 15% CAGR for our investment? Sounds too good to be true! Anyone knows LMCA well? If some of you have followed it for a long time, do you find something wrong with my reasoning? Thank you in advance, giofranchi Q3-12-Conf-Call-Slides-LMC-Final.pdf

A sort of farewell letter and a very good lesson on robustness. dcollon, thank you for posting! giofranchi

Portfolio asset allocation on a value basis. giofranchi A-Brief-Update-on-Portfolio-Strategy-Nov-12.pdf

Well, I guess that’s right! But how could it be different? I run two businesses personally every day, and the most important thing I have to do is to judge correctly the behavior and the abilities of my associates. Every time I fail to do that, something bad, or just stupid, happens. And my firm loses money… Simply put, that’s the job of every entrepreneur! Otherwise, as a “passive” investor, you could do like Mr. Murray Stahl suggests: “if you listed all the owner-operators in the world, of which there are more or less 100, they’re in different businesses, run by different people, in different companies, with different mindset. … Almost all trade at big discount to book value.” If you don’t feel like choosing among them, just partner with 100 outstanding managers! giofranchi

Giofranchi, curious, do you tend to look\find the type you are looking for more in the US or Europe? In Europe just Lancashire and Third Point Offshore (which has recently sent my firm a very welcomed Xmas present, declaring a substantial special dividend! :) ). I looked at Pargesa SA, but wasn’t convinced... The rest of my firm’s investments are US or Canada based. I basically agree with Mr. Kyle Bass, when he says that investing in Europe now is like picking nickels in front of a bulldozer… But I don’t trade, I don’t jump from one undervalued security to another. I just buy owner/operators in the investment business (the best business, paraphrasing Mr. Buffett), when they are offered at good prices, and I stick with them. Always keeping a lot of powder dry to average down aggressively, if I get the chance. For anyone who trades, instead, Europe might certainly be fertile ground right now. It is just not a game I like to play. giofranchi

Yes, I think so! But don't worry: you ask and I answer! ;D ;D giofranchi