Uccmal

SD, I am not sure I understand what you are getting at. I used The big banks as an example. In December 2011 BAC was around $5.00-6.00 per share. JPM was at 30+-. Based on a few knowings, if you will, you could get at what normalized earnings might look like. These knowings: - banking is a sticky business. - It is universal - Nearly every transaction an American makes will pass through the hands of the big 4 or 5 somewhere along the way. - regulators need the industry it to be profitable or banks from Dubai, or elsewhere will take over. No regulator wants to be on the hook for BAC or JPM failing, or falling into the hands of Prince Alwalaheed. - government needs banks to lend and will ensure they are profitable - most countries do this. - banks need investors to help shore up their regulatory capital. Investors will only invest in enterprises that make money for them - gov't will ensure that banks can make a spread by lowering overnight lending rates as low as zero, or less, as we have seen in the present climate. - Once you cleared away the garbage, BAC, JPM, and all the others had very viable franchises remaining that are protected, and moated. I contend that the regulatory environment is and always will be secondary to the requirement of banks to be profitable. Sure the government sanctions them periodically but that is purely to satisfy the publics need for blood. You can go back through the various BAC threads and my theme has remained the same for over 3 years. Sd, As a Canadian you certainly know the degree to which the Cdn. Banks are protected by government. Note: All of these things above require an understanding of how banks make money and the interplay between banking and government. Not one of them require me to do a DCF or other phony estimate of future earnings. I read ARs and Qs but the most valuable, valuation technique, aside from the very basics, I make use of is 'kicking the tires'. My best investments have been those I have held for awhile and have gotten to know in ways other than purely financial: Seaspan, Fairfax (last decade), Northbridge and ORH, , Mullen Group, Russell Metals, Bell Canada (after the merger collapse), BAC, JPM, Sbux, Axp, HD, Cfx, WFC, and now AIG, and Extendicare. Not one of the best was a Graham style valuation only investment. Many of my worst, conversely, I have had the most information on such as sfk.un/fbk .

I concur. I have never used DCF of any kind - too much BS. I will estimate future net income using back of the envelope usually for when things normalize. i.e. From 2.5 years ago: BAC should earn a minimum of 20 Billion/1 B shares = $2 x pe12=24. There are two many variables when looking at a company to make even remotely useful etimates of the future. I prefer to deal with where we are now, and then focus on the intangibles such as Packer suggests: the business, sustainability of the business model, competition, moats etc. LVLT is a perfect example of something I couldn't being myself to buy because the business model didn't account for wireless which was growing on an annualized basis at a rate that was making landlines obsolete. BAC, AIG, JPM, WFS were much easier to see. They were insanely cheap in turn. Their business has at least weak moats, probably strong moats if you consider that they have been deemed TBTF. Q. I ask: 1) Will the business stay in business - more relevant now than ever. 2) Is it cheap P/B, P/e 3) Can the business return to health. goes back to 1) 4) Can I visualize easily how they make money. Other basic Buffett questions. This value investing is simple but not easy. Anything that gives you a false of actually knowing something such as DCF is dangerous. My mental models basically eliminate whole industries such as mining, E&p for oil and gas, small retail based on fickle customers (lululemon), and badly run retail (SHLD). Anything that requires me to predict the future is dangerous imho.

Geez, Top 1.5%. Is that the best you can do....he he.

Sort of sums up all the arguments in the post in one essay doesn't it. Tx. hyten

I am sure you have all seen this: http://www.bloomberg.com/news/2013-08-05/americans-with-best-credit-in-decades-drive-u-s-economy.html

Flattery will get you everywhere. Anyway, agreed it is a slow process. That doesn't mean it hasn't started.

Al, What data would you point to that would indicate we have exited or are about to exit the deleveraging cycle? Debt to income levels have come down globally and here in the US but nowhere near where they were at the beginning of the 30-year debt cycle. It's pretty well documented that growth is stimied when sent levels are where they are - I don't see where the growth is going to from. bmichaud, Just the economic/stock market cycle: Eventually the debt will be paid down to more reasonable levels, probably faster than we expect. As the economies improve, tax revenues go up, debt goes down, debt service cost decrease etc., etc. There is nothing new in all this, except that this has been a longer and deeper cycle than any in the last 75 years.

Parsad says: Well, HW is hedged 100%+! So either governments can pull off an equally stellar coordinated withdrawal of capital, as they did when injecting it...or the shit hits the fan. Will be interesting to see how Berkshire handles the situation if the hard core guys are the ones who are correct. Cheers! The withdrawal is a highly anticipated event. It will move markets down temporarily, and create some short term dislocation, and perhaps a reasonable buying opportunity. But it is in essence a positive event and a nomalization of the relationship between states and the economies of western nations. Buffett has been ploughing money into Mid-American which will be unaffected by this nonsense. He is also building cash again so he will have lots to deploy if some deals surface. There is no reason to suggest that P&G, KO, or Heinz will suffer as much as many others in a mild recession. On the other hand Bank of Ireland, BBRY, and Resolute will get crushed like bugs.

I think the bear market has just turned to a bull market. This sounds strange but we haven't come anywhere near passing the previous high of 1563 on the S&P. We are at 1709 which is 9% higher but in the interim we have had inflation. For arguments sake lets say 2.5% per year over 6 years. That gives us 1810 or so. In the traditional stock market/economic cycle the markets precede economic recovery. Stimulus is normally used by governments to get things going again through various means such as printing money, extending benefits, government contracts etc. In the present case we had a 1/50 or 1/100 year event which was very deep and protracted. We are just coming out of iit now. What we are seeing is an amplified version of the normal cycle. If you pull up a stock market/bond market cyclical chart most have financials rallying (due to cheap money) off the bottom of the bear. This is followed by economic expansion, and the rallying of non- financials. This episode is very drawn out. Financials are finally rallying. The subsequent bull will be long lasting (with corrections along the way of course). Twacowcfa, Are not some of the mark to mark adjustments due to losses on bonds. I haven't looked in detail but this is certainly contributing to insurers. Also adjustments to DVAs is having some effect. Overlaying all of this is a vigorous period of creative destruction which just complicates market valuations. All that being said I am not finding any compelling values out there. This time around I am avoiding moving down the quality curve so it may be my problem rather than a market problem.

Gio, I dont see any evidence that the equity hedges were put in much above 1060. In statements since they seem to reaffirm the 1060 number. The lack of losses on equity hedges in the last Q reflects the marginal change between March 31, and June 31. Losses will have been booked after the Q end, so far. The CR for NB and major losses will be reported in September. My numbers may still be a little pessimistic, and I acknowledge that. Al

Gio, where are you? No one suggested you go away. From my perspective, what you received from Cardboard was a compliment, and a helpful suggestion. And I agreed with him. I actually read all your posts. Al.

Interesting observation. I agree.

Its the way of things is it not? The banks have run way up in anticipation. The reality will not meet whats been anticipated. I have small positions in WFC, and JPM, which I haven't traded at all for months, years in the case of WFC.

FWIW, We probably wont have to wait too long to find out. I just bought some puts again on my BAC position. I expect the banks will disappoint next week, regardless if JPM and WFC set new earnings records.

Partner, I disagree but it is purely conjecture. In March 2009 FFh dropped 100 per share in a couple of weeks. They get caught in margin raising sales that have nothing to do with them. In fact they had just finished liquifying the last of the CDS and were deploying in those mentioned below. Gio, I agree, not in a hurry. The examples I provided are companies where FFH is or has been involved. They helped stabilize Russell and it has become a powerhouse. They helped finance First Canadian Place in Calgary for H&R when HR couldn't get liquidity anywhere else. And I believe they are still insiders with Mullen via a 100 m pref. holding. Would have to check though. A.

Graham/Schloss style investing doesn't work so well with the investment amounts FFh is using. This is in a big part why Buffett/Munger moved to the wholly owned cash flow machine GARP investing. Buffett himself has said he could generate 50 % returns if he was dealing in lower millions. The problem is that the companies you are getting for so cheap are huge and really do have serious problems. TIG, C&F, ABX, and RIm, and Canwest Global, are all examples of this. I hold more hope for BKIR, Greek property, etc. Buffett purchases business that push cash onto his balance sheet from the moment the deal closes. The 1.2 Billion FFH has spent on RIMM, and ABX could have been spent taking H&R Reit private for example, Russell Metals, or Mullen Transport, Immediately you would get your 16% returns, adjusted for the insurance leverage used, onto your balance sheet.

Hi Sanjeev, What percentage of your funds is in FFH right now? Al

BTW, I dont think succession is the same issue at FFH as BRK.

Sanj, My argument is that FFH is likely dead money for sometime. Coupled to that is the inevitability that FFh stock will go down in a market panic. On the flip side they will not go OOB, by any means. The money I have taken from FFH is staying as cash to deploy when markets or specific opportunities are cheaper. I have by no means moved up the risk curve. If anything, overall my total risk is much much less. Taxation avoidance is not a valid means to protect ones portfolio, at least in Canada where I will pay 15% on the gains from FFH. Buy it back 30% or even 40 % cheaper and that problem is solved. Good point on Thomas Cook. Things have changed at FFH in terms of amount of capital that needs to be deployed. They need to change with the capital levels as Buffett did, and Markel is doing. How much FFH does your fund hold now, percentage wise? Al

GIo, HWIC has made mistakes as we all do. Its easy to be an armchair quarterback. Shalab has summed it up and I have seen this with FFH before. They have trouble admitting mistakes. There have been numerous high profile goof ups over the years such as the biggie with TIG and C&F, listing on the NYSE in the first place, 2006 restatements, Canwest Global, and now the hedges without protection on the other side. The are handling vast amounts of capital now, and really need to shift focus to buying great, large businesses at reasonable prices like Buffett does. They probably need to hire someone to identify these choices, who is from outside the org. chart and is not infected with too much Ben Graham. The investment in ABX (Res) is particularly disturbing. 500 M or more invested in a crap business. Dont you think the 1.2 billion between Rimm and ABX would be better spent on an operating business that spins off 10% cash per year levered through insurance would be better than hoping for a turn around on those dogs? One thing I really like is the Kennedy Wilson alliance. These guys are really good at what they do. I would like to see a whole new direction that minimizes the macro, and focusses on real operating businesses. It is now less than 10 % of my portfolio.

I wrote a really nice post last night but goofed on sending it. Our power has been out for two days. I charged my IPad on a generator. RE: Insurance loss estimates: I was thinking in aggregate. Calgary, Toronto, Tornados. Commercial insurance is not the same as personal insurance. If Shell, Suncor, or Bell Canada make a claim, FFH is forced to reach a settlement or lose the client forever. Too say that flooding is not covered is to put yourself into a legal battle and lose a client at the same time. Re: Hedge losses. The hedges were written around 1060 S&P 500, Russell, and other indexes at equivalent levels. 1662 to 1060 is a 40% drop Just to break even. Does anyone think that FFh will sell these hedges somewhere on the way down and take their losses. I dont. FFH has drank the Jaoan Koolaid, against all demographic and economic evidence to the contrary. Also, if the S&p drops 40% what happens to RIM, Bkir etc. Rim is OOB. BKIR has to run another stock dilution. ABX (resolute) is OOB. The way I see it the losses from the hedges are permanent. FFH could easily have capped the effect of these hedges on the topside. They didn't. Why? It would have been dirt cheap back when the S&P was at 1100. They have a very serious blind spot. I figure FFh is dead money pushing forward at least 5 years. I have been a long term shareholder, but am steadily losing the faith. I can buy the stock back in the mid 200s. I am down to 15 % of my portfolio.

Gio, I respect your position with betting on Fairfax. Obviously, I have held it continuously in various forms since 1998. I will note that I would have made almost no money on FFH had I not been very opportunistic, vastly reducing my position at times, and loading up with options, and common when things were not being recognized. There has been a disquieting trend at Fairfax to do outsize macro bets. These are killing performance. People draw comparisons to the CDS bet in comparing the equity hedges, and deflation bets of today. The two are quite different. The CDS bet was small and asymmetric, with limited downside, and huge upside. The equity hedges have limited upside, and essentially unlimited downside. They are so far out of the money that only an absolute market catastrophe will make them worthwhile. What do we know about FFh today: Positives: 1) Certain equity investments and real estate that should work out over time. 2) An apparent trend toward buying whole businesses, although I am not convinced they have a good handle on this. 3) Good stock pickers. Negatives:' 1) Insurance operations, particularly North American. We are into a hard or at least a stable market and the low combined ratios are just not there. I dont believe they ever will be. Especially not after this quarter. 2) Equity hedges. The S&P has to drop 40 % before these even break even. In the meantime we get further and further from break even, and lose more and more on the way. The problem right now, in my mind is that the negatives are going to keep the stock moribund for years. Meanwhile I am getting 20 % returns or greater per year despite a 25% position in Fairfax. What would you do, if you always outperform FFH?

I am seriously considering selling all my FFh and buying back at a later date. We are under absolutely saturated conditions inToronto. Now I know flooding is not directly covered but all sorts of ancillary coverages are provided that relate to Canada's largest city being flooded. Also, you tend to honour large commercial customers when they make claims, if there is some ambiguity. If I were a betting man I would suggest that FFH is probably looking at a billion or more in losses this quarter from the assorted events. Add in another half billion from the hedges. Another major hit from Rimm. I am putting book value under 300, after today.

Great topic, awesome comments. For me its a case of fear being a healthy thing. Many days I have to work to keep the fear in check. Since I am often investing in opposition to a crowd, I have to actively work to control my emotions. I.e. A week or so ago Wells Fargo issued a report on Seaspan calling it a sell and reducing the target price well below $20.00. The price has come down and I increased my position by around 40%. It is one of my largest common positions. IMHO, I know more about Seaspan than a Wells Fargo analyst. They are downgrading it due to its exposure to China. This exposure is irrelevant to SSWs short and medium term operations. What I get is a stock with growth potential, and a dividend that has been increased at 25% the last 3 years. I didn't get much fear with this but there is a healthy dose of self doubt. Every couple of weeks the markets churn up fear about QE. If it is to be continued the banks stocks are seen to be a good thing. If it is going to be stopped the bank stocks get kicked. I completely dont see it this way. From my perspective stopping QE and evening draining liquidity from the system indicates that the system may be healthy enough to stand on its own. It tells me that the central banks can start to rebuild their firepower for the next round which strikes me as a good thing. So the fed announces that Qe is going to be reduced, Markets tank, I buy AIG, and BAC. As people get used to the idea the stocks rise back up and I slowly sell off. As Kraven does I act quickly on ideas often with limited knowledge. What I have a good handle on is what I dont know. I think this is where Buffett excels. Does anyone believe that he knows what is really on Goldman Sachs or GEs balance sheets? Not a chance, but he knew in 2008 that an investment from him would protect those companies from becoming fatalities. Same with BAC in 2011. Handicapping describes it best. I dont watch business TV at all. I prefer to get my information through passive means that lack that direct connect to my reptilian brain that TV and Video seem to tap. "fear is the mind killer" Bene Gesserit saying "we have nothing to fear but fear itself" Winston Churchill "feel the fear and do it anyway" Susan Jeffers - book title "best time to invest is when there is blood on the streets" Baruch

Until you sell the stock: Then its: Final Sale Price - (exercise price + price of option + all fees) = taxable gain or loss