Viking

Here is a pretty good summary (from Aon Benfield) of the current state of the re-insurance industry. Another solid reason to be optomistic about ORH results the next few years. www.aon.com/attachments/AON_Reinsurance_Market_Outlook_2009.pdf www.aon.com/attachments/AB_April_1_Renewals_and_Outlook.pdf

FFH appears to be an animal that most are not able to understand. Two years ago when it was sitting on CDS and gov't bonds and the financial world began falling apart few were interested (but they got very interested at the end of last year). Now they have done a complete about face and they are sitting on muni and corp bonds and stocks, including some financial names like Wells Fargo and GE. Their positions make their investment portfolio much more volatile than most any other insurer. It appears to me that after 7 lean years they again 'have their groove back.' Yes, I would like Mr. Market to attach a 1.2xbook (or 1.5!) value to the shares and keep it there, but this is not going to happen. Instead Mr. Market will continue to fall in and out of love with FFH and we will continue to get great entry points to purchase stock below BV. And at some point in the next year the stock price will run-up again... I am learning to enjoy the ride... I wonder what rabbit FFH mgmt will pull out of their hat next?

My understanding is the reference was Dec 31st to March 31st. This will improve yield and also set up the opportunity for capital gains in future years... Another brick in the wall!

Here a few random notes I took: 1.) 'More recently' they have been purchasing corporate bonds as they feel they are now being paid for the risk. Going forward this will help interest income and operating income. - tax free muni's have increased from $4.1 to $4.4 billion (Dec 31 to March 31) - corporate bonds have increased from $16 million to $1 billion - US treasuries have decreased from $700 million to $415 million - annualized portfolio yield in Q1 was 3.55% (not adj for taxes)... I am not sure if this amount includes dividends... 2.) Regarding OTTI: - once a security is written down you can't in future quarters write it up. If the value rebounds, it will benefit OCI and not earnings. When it is sold the benefit will flow through earnings. - once a security is written down if it falls in the next quarter it must be written down again. 3.) Plan to hedge stock position? No, not right now. But do review on regular basis 4.) Share buybacks? Will not do and sacrifice financial position. Look at cash levels and stock price. As demonstrated over the years, this is their 1st option to deploy excess cash. 5.) 5 year inflation outlook? Not an issue near term; deflation is. 20% (gov't) is spending. 80% is deleveraging. Can 20% change the trend with 80%? Didn't in Japan. Monitor carefully and will likely have a better sense in a year.

Yes, the print media is undergoing a very large change. However, the companies with the biggest problems also have a massive amount of debt (LBO or, like Canwest, they bought at the top off the market). Is print the real problem or is it a balance sheet issue? A small media company I hold a small position in is Glacier Ventures (GVC). Among other things, they publish local newspapers in many small communities in Western Canada. Lots of free cash flow that they are using to either pay down the small amount of debt they have or to make aquisitions. Got this one from Francis Chou (one of his holdings in both Asia and Europe funds).

FFH Watcher, my guess is if they did not communicate the $900 million increase in market value Mr. Market would have punished the stocks of FFH and ORH (still might... we will find out tomorrow). If FFH and ORH do sell off (to below .8 x BV) I think they will begin to purchase shares quite aggressively. If they had not communicated the $900 million and in Q2 purchased significant shares on weakness knowing what they know they may have gotten grief. You said that people can estimate the gains but I think it is quite difficult given the incredible changes in portfolios the past 6 months. Everyone is on the same page right now and able to make intelligent decisions. I am thankful they communicated this information (and also get your point that it is not usual to do this).

Q1 report was pretty much in line with expectations. 1.) Solid operating income = $0.95/share 2.) Investment Losses = $99 million = $1.65/share - not great, but expected and should now be behind us (i.e. Abitibi bonds writedown etc) 3.) Comprehensive loss = $93 million = $1.55/share - not great, but the stocks ORH own simply went on sale in Feb/March 4.) BV = $43.80 (down from $45.37 or $1.57) It appears to me that ORH is evolving. Its operating earnings are becoming more predictable (5% portfolio yield and good CR) and to me this is the big positive out of this earnings release. The unexpected bonus is the communication in the FFH release of $900 million increase in market value from March 31 to April 24. ORH represents 40% of FFH total portfolio which suggests they could represent $360 million = $6/share pretax! It is interesting... last year you held FFH or ORH because of their CDS and US Treasury holdings (bearish stance). Now you hold FFH or ORH because of their municipal bond and equity holdings (bullish stance).... Bizarre! Other notes: 1.) interest and dividends = $78 million x 4 = $312 = 4.2% yield (before tax considerations) - guidance of after tax yield = 5% appears bang on - total investments and cash = 7.5 billion - with additional purchases of bonds and stocks in Q1 we can expect portfolio yield to be a little higher! - this now represents an important relatively stable source of earnings going forward - when they were holding US treasuries the past few years the portfolio yield was coming down steadily, which in turn impacted operating earnings - the analysts should love this as they largely only forecast operating earnings. Perhaps this will get ORH a little more respect and this may help the stock price trade at a multiple closer to that of its peer group 2.) CR = 96.5%, looks to be OK - we will find out more tomorrow but from the conference calls I have listened to it appears the hard market for re-insurance is beginning to develop a little quicker than expected and slow improvements in pricing expected each quarter and continuing until early next year. Bottom line is this is positive news going forward... how positive we have to wait and see. 3.) Investments: looks to me that they spent just over $400 million of cash on bonds and stocks in Q1 which should help portfilio returns going forward.

Smazz, yes we seem to keep coming back to this topic... but I can't help myself! Regarding ORH, now that FFH ownership has grown from 60% to 70% it would appear to make a takeout more likely (30% is much easier to come up with than 40%). Let's apply the same takeout valuation for NB = 1.2xBV = 1.2x$45.37x18 million shares = US$980 million. ORH has $540 million that could (?) be passed up as a dividend (if they were wholly owned). Looks possible but my guess is this sort of thing would compromise FFH financial position too much which would not be great in the current environment. Perhaps what we will see over the next 12 months is for FFH to have a solid year and continue to re-build their cash holdings back up to $1.5 billion (based on 2008 year end earnings they should be able to get solid dividend payments from Crum, NB and runoff should also be paying a special dividend again this year). One concern I have with ORH is that their small float will stop large investors from buying and that this will hold back the share price. On the more positive side, ORH has the ability to purchase another 10 million shares. If shares trade much lower and earnings come in decent this year they will be able to buy at .8 x BV which should put a nice floor price under the shares. Regarding which is cheaper (ORH or FFH), ORH is cheaper when simply looking a share price to book value. However, they are quite different animals when it comes to insurance and I am not sure how one would value runoff at FFH.

basl1, my guess is what we are seeing is the natural ebb and flow. Extreme pessimism followed now by some optomism. But are we out of the woods (i.e. actual recovery in 2H)? My money says no. When realization sets in that this recession (asset deflation) is far different than past recessions and will likely take years to play out I expect more fireworks on financial markets (October?). For now, enjoy the rays of sunshine (afterall, its spring)! I continue to be cautious about the near term outlook for the economy and markets in general.

Given muni bonds is where FFH and subs have much of their bond portfolio I thought it would be useful to understand what has been going on since their purchase in November. Just as I thought, although yields on US Treasuries are trending upwards, yields on tax free AA muni bonds has been coming down. www.munibondadvisor.com/market.htm http://latimesblogs.latimes.com/money_co/2009/04/california-today-became-the-biggest-issuer-so-far-of-a-new-type-of-municipal-bond-that-has-caused-investors-to-rethink-the-mu.html

I wonder how the Quebec government will impact the process. You have an facility that has spent considerable money to remain relatively current and efficient; they just need chips at reasonable cost. What I am learning is how, during one-in-50-year storm, things can go south fast on well run companies. Amazing!

Jack, here are a couple of comments: "BTW, I asked a question a month or so ago about how the TARP gives money at 5% and banks loan at 5% and how this seemingly confused math gets us out of our economic slump, I got a few answers that were all wrong and no right answers which suggested to me that no one here actually understands banking." If you are asking, yes, I am not an expert on banking. That is one of the reasons I like this board... a chance to learn some things I didn't know. "I know WFC and Warren Buffett understand banking. I know from their actions that our government (FED and Treasury and even Congress) understands banking." Perhaps I am taking you out of context, but from the little that I think I know, is the Fed, Treasury and Congress not largely the reason we are in such a mess (i.e. took interest rates to 1%, removed the regulations, allowed the leverage, allowed the derivatives, turned a blind eye to the obvious excesses...)? You may want to read some of John Hussman's stuff... he is not such a fan of what these three groups have been doing recently. But he may not understand things so well either...

Here is my take. Please feel free to point out my errors or overly optimistic assumptions: 1.) Underwriting: CR = 98 = $50 million 2.) Interest & Dividends = 5% x $7.9 billion = $380 million 3.) Operating Income = $430 million 4.) Net Gains on Investments = 4% x 7.9 billion = $316 million 5.) Interest Expense = $33 million 6.) Other Expense = $20 million 7.) Pre-tax Income = $693 million 8.) Tax Rate = 33% = $229 million 9.) Net Income after Taxes = $464 million = $7.70/share = 17% growth in BV 10.) Shares Outstanding = 60,243,000 11.) Book Value per Share (Dec 31) = $45.37 12.) Share Price (Apr 27) = $38.00 To be even more safe, let's knock growth in BV down from 17% to 15%. Looking out 5 years, the market will finally appreciate the ORH business model and will give it a book value multiple of 1.2. In 5 years this gives us a stock price = $109.51. With the stock trading today at $38 (0.85 x book) this would provide a compound annual return of just under 24%. Not too shabby. I believe the downside risk (stuff I have missed) is about the same as the upside potential (being too conservative). Also, given the (small) size of the company, I will limit my position to a max of 15% of my total portfolio. Odyssey Re has the ability to pull $544.8 million in dividends in 2009 from Odyssey America (sub) if they so chose. I believe they plan to leave the cash with the sub and to utilize to grow their business as the markets harden in the future. Bottom line, this value is not built into the above analysis (i.e. they could pull this money up and buy back another 10 million shares to grow shareholder value). See p. 83 of ORH AR. Regarding estimates, I am looking for a 5 year average and I am trying to be reasonably conservative: 1.) Underwriting = 98%. My guess is the market begins to harden in 2010 or 2011. This should give ORH a 5 year average CR of 98. - Adverse Development: since 2001 ORH has had favourable = $868.4 million and unfavourable = $174.2 or net favourable development = $694.2 million. The issues regarding adverse development are really for accident years prior to 2001. Most importantly, since 2004 the cumulative development has been decreasing each year and was +$10.1 million in 2008. Bottom line, looks to me that the adverse development issues are largely behind us adn one could reasonably expect for positive development on a cumulative go forward basis. See p. 22 of ORH annual for more details. 2.) Interest & Dividends: From the Q4 conference call 'As a result of this portfolio restructuring, the yield on our overall portfolio at Dec 31, 2008, was projected to be 4.1% or 5% on a tax equivalent basis.' The yield in Q4 was only 2.75%! 3.) Net Gains on Investment: Since 1986, Hamblin Watsa Total Return on Avg Investments has been 9.8% (see p 142 of FFH Annual Report) and for the past 10 years I estimate it has been 9.1%. If we assume similar returns (to 9.1%) going forward and the current portfolio yield is 4.1% we could reasonably assume a Net Gain on Investments going forward of 5%. For this analysis I went with only 4%. Further, one could assume with with all the stock write downs in Q4 and the fact that most purchases have been made 50% (or more) off from recent market highs that the Total Return on Avg Investments should outperform over the next 5 years the performance of the past 10 years (i.e. a 10% total return is not a crazy number). Other notes: FFH Asia: ORH also owns 26% of FFH position in ICICI Lombard. It is carried on the books at $67 million. I think their share is worth perhaps twice that meaning BV is understated by perhaps $0.50 to $1.00. See p. 123 of ORH AR. Balance Sheet: ORH has low amount of debt ($489 million) and no maturities are due before 2013.

Bargainman, yes the 'margin calls resulted in much forced selling. On the other hand 'financial innovation' and leverage for years drove a lot of earnings that simply were not real. Bottom line is I think it is difficult to really understand much when you have an economy built on steroids. I like the comment from Microsoft about the economy needing to 're-set' at a lower spot from which we will stabilize things and start to grow (at a more nomalized rate).

I just finished reading their April 20 letter. They feel the lows have been hit and it is clear sailing ahead with stocks clearly positioned to outperform all other asset classes for the next 10 years. A very different perspective than Van Hoisington! Interesting...

For those history buffs, here is the link to the Fisher article referenced by Hoisington: http://fraser.stlouisfed.org/docs/meltzer/fisdeb33.pdf

What is the least expected outcome with most people? Deflation. I like reads like Hoisington because nobody believes it will happen (including Prem!). Clearly, what is happening right nos is MOST SIMILAR to what happened in '29 and during Japan's '89 crisis. Why do we not expect a similar protracted (10+years) of pain? Why do we think the government has the power to change things? Didn't work in Japan! My dilemma is Buffett clearly is of the opinion that all this stuff being done by the Fed/Treasury/Gov't will be inflationary at some point... If I had to make a call today, I would vote for deflation (actually, I did! Thanks Grenville)!

Uruhu, I should point out that FFH gains over the years have covered up a number of smaller losses (although my long return is about 18%). Also, with FFH, I never went from zero to 90% on one purchase. I always started buying when the stock looked cheap and as it kept going lower I always bought more. And when it got insanely cheap (i.e. $100 a couple of years ago) I went pretty much all in. If FFH went under at the same time the stock price was cratering I would have been pretty much cleaned out. Also, during the short periods when I was 'all in' it was very difficult for me to keep things together mentally. High risk... high reward. Gambling? Stupid? I do not have the answers. Bottom line, I have learned that I do have a predisposition to do something that is quite dangerous (go overweight). I am trying to get better at getting a little more diversified but not too much (as I believe concentrated portfolios are the best way to go). And despite having a pretty good long term track record I still am not sure if it is skill or luck! I just try and keep reading and learning and getting a little better every year...

My weightings have varied from 90% to 0%. When the stock fell to $220 18 months ago and it was positioned so well with its CDS and long US treasury positions I backed up the truck and moved to 90%. I went to a similar weighting a couple of years ago when it fell to just over $100. I also reduced my position to 0% each time after purchase the stock went up significantly (as fears proved false or investment results smoked). I have never planned to go so heavy. And I got VERY lucky in that the bottoms were temporary and the stock made very significant moves upwards shortly thereafter. My net worth is now large enough that I do not want to take on the additional risk of concentrating on one company. Currently I have about 12% in FFH (of my investable assets) with my avg purchase being about CAN$285 (I was at 0% at the start of the year). On a go forward basis I doubt that FFH will trade as cheaply as it has in the past. I will be happy to buy when it falls below 0.8 x BV but will limit my exposure (perhaps 25%). I will also continue to lighten up as the stock appreciates... I like the company alot and feel it will perform quite well looking out 3 to 5 years. And the results will be lumpy. I will get more excited about FFH once the insurance market begins to harden...

"Fairfax regrets Abitibi, CanWest deals" "Prem Watsa says he underestimated the effect of the recession on newspapers" http://www.globeinvestor.com/servlet/story/RTGAM.20090415.wfairfax0415/GIStory/ Similar comments to those from Francis Chou and this helps me understand things better. It is one thing to buy great companies that are trading cheap and to be early with your purchases as over time you will likely still do very well. Buying troubled companies early carries very different risks when you are early and their business model continues to deteriorate. For those of you who were at the AGM, can we assume that both Abitibi and Canwest were largely written down in Q3 & Q4 or will their be further large write downs in Q1?

I am in the process of reading 'Investing the Templeton Way' and also like the book very much. The book provides many historical examples of that Templeton did at various times which I am especially enjoying. The book is also a simple read (i.e. likely targeted for novice value investors). My key take away is I wonder if Prem's style is not closer to Templeton than Buffett: - Prem invested heavily in the Indian stock market a couple of years ago - Prem also is buying international insurance operations (i.e. India) - Prem is very much an active investor (buy low and sell high) not buy and hold forever - Prem will take large short positions

Milton obviously is an incredible salesman... The real question is who continues to fund this train wreck? When they restructure who is it that will continue to buy the new bonds and/or stock? I thought about Westjet as an opportunistic investment....

Basically, we aqre getting two basic kinds of calls: 1.) things are likely going to get worse (Roubini & Taleb) 2.) things are likely going to bottom out in 2H 2008 and get better next year (Bernanke) Bottom line is, more than at any time in the past 50 years, economists (and pretty much everyone else) really doesn't have much of a clue as to what is going to happen in the next 12-24 months. Inflation or deflation? Are the gov't programs helping or hurting? Are the banks solvent or insolvent? U shaped recovery or L shaped depression? Should we care? My answer is absolutely! What does it mean for investing? My 'big' guess is we will see lots of wicked volatility. What this means for me is when the value stuff I really like gets dirt cheap I will buy (and perhaps a lot). And when it runs up 20-50% I will sell. Until I get better visability as to just what the future holds I will be content to hold lots of cash and simply pick my spots with my inverstments and play the volatility. This strategy has helped me largely miss the sell off last year and earlier this year (i.e. capital preservation) and actually generate decent returns.

Who at AIG is thinking long term right now? My guess is morale is bad and people are simply trying to keep things 'looking' good for as long as possible. Assuming AIG is playing for market share and not long term profitability, the question I have is how long would it be until we know if they have been underpricing in their P&C business? Second issue this raises is who would want to buy the AIG pieces if there was a decent chance underwriting discipline was not happening? The next 6 months will be interesting as we continue to learn who has been swimming naked!

Jackriver, do you not agree that many people have sold their businesses to Buffett over the years (Buffett, not BRK). They trusted and like the man. Yes, they are now part of the BRK umbrella but Buffett was the key. I have worked for terrible bosses and I have worked for great bosses. Makes a big difference. Buffett looks to be about as good as it gets. My point is simple... if BRK gets another great manager (or two) to step into Buffetts shoes things will be fine. If they get an average to poor leader performance over time will suffer. I just do not see it as being a slam dunk that when Buffett is gone the company continues on its merry way. Note, I also do not see it is a done deal the company underperforms... I think the risk of underperformance increases. To me this is pretty straight forward and logical. Regarding return, yes, 20% is not realistic (I used that number because that is close to the historical number)... 10%-12% is likely a much more realistic medium term number top use.