Viking

Yes, it is tricky. I am waiting to see what happens when we get balance sheet run off from the Fed. Some are thinking we could see the long end of the curve pop higher when this happens. And that will then allow the Fed to increase rates on the short end. Mt guess is the Fed does not want a flat or especially an inverted yield curve. I think the long end (10 year) is the one to watch. Pretty much everyone things the 10 year will not get much above 2%. But i wonder if this ‘analysis’ is not just recency bias. WHAT IF the 10 year actually moves closer to 3% later this year? What if the inflation numbers remain elevated into 2H 2022 (and don’t moderate in Q2)?

US bonds are breaking higher by 10 basis points across the entire entire curve to new highs. As has been pointed out by Glider in a previous post Fairfax will be a HUGE winner should rates continue to move higher (given the insanely low average duration in their bond portfolio < 2 years). This is a $30 billion portfolio (if memory serves me correctly). Brian Bradstreet likely has a big smile on his face right now.

I am a big believer in Druckenmiller’s strategy of sizing positions based on how asymmetrical the bet is. What are the chances Fairfax’s stock price drops 6-8% after earnings come out? What are the chances Fairfax’s stock price rises 6-8% after earnings come out? (Let’s say in the 30 days after earnings are released.) Today i think the chance of a positive reaction in the stock price from a positive earnings surprise is much higher (70%?) than an negative reaction in the stock price from a negative earnings surprise (30%?). Why? 1.) 7% reduction in share count. Will this not materially impact year end reported book value? In a very good way? - now i really do not understand how the sale of 10% of Odyssey will impact the financial statements (exactly where the ‘cost’ will show up). Or is the cost largely to be borne in the future via payments to lenders of $900 million? 2.) based on reporting from other P&C insurers my guess is Fairfax should report solid top line growth (+15-20%) and a decent CR (96?) 3.) solid investment gains in equity holdings - based on market moves in Q4 My guess is the benefit of the final mark up of the Digit revaluation will now come in Q1 given there have been no press releases on this topic (a +$35/share benefit). With shares trading at US$495 (near historic lows… looking back 5 or 6 years) my guess is there is a higher probability that Fairfax shares trade higher after earnings given all the current tailwinds. ————— What are the key risks? 1.) big increase in reserves for runoff 2.) big increase in reserves for Brit 3.) large losses at Kai - as it continues to scale (or busts) 4.) large write downs on one or more equity holdings - Farmers Edge? 5.) large loss on short position in Tesla… just kidding… couldn’t help myself

Well, time to start banging the table again regarding how cheap Fairfax stock is today at US$490/share. Now part of the challenge today is the stock has increased 100% after hitting its pandemic low in April 2020. The stock was up 45% in 2021. So it is natural for investors to think Fairfax stock HAS to now be fully valued (or close to it) after such a spectacular increase over the past 20 months. To help me get some perspective i like to look at what their trading range for the stock looked like over the past 5 or so years compared to where it is trading today. And to overlay how the business is positioned (fundamentals) today compared to the past. This approach helped me when i was looking at oil stocks in December. Many large cap oil stocks were up +100-200% from their lows in 2020. So the natural conclusion is ‘missed that one’. But when i looked at oil stock prices from the past 5-10 years it was clear that most oil companies were still trading at or below historical levels. MAYBE oil stocks were STILL cheap? So i dug into the fundamental picture and discovered: record levels of free cash flow, aggressive debt pay-down (putting balance sheets in great shape), record oil demand, constrained oil supplies etc, etc. The conclusion? Oil company stocks were still cheap even after the big move higher in 2021. And oil stocks have rocked to start the year (timing was a fluke but, hey, that happens sometimes). And it looks like the run could continue given how poor sentiment was towards energy stocks at the start of the year (energy was VERY under-owned as an asset class). Everybody is loving energy today… what a pivot! Funny what a RISING STOCK PRICE does to investor sentiment (eventually). The shift in investor sentiment from fear to greed is usually a VERY good thing for share prices (that PE multiple expansion thing). When i look at Fairfax today i see many of the same things. Fairfax’s current stock price today (US$490) is about where the stock was trading 7 years ago. COULD IT STILL BE CHEAP? What do the fundamentals say? The insurance side of Fairfax HAS NEVER BEEN POSITIONED BETTER. And it is not even close. The hard market has been driving top line growth for years (+20% just in 2021) and is poised to continue double digit growth in 2022. Supported by the hard market, underwriting profit should continue to increase and could come in at a record level in 2022. The equity part of the investment portfolio is very well positioned to deliver solid results in the coming years - backstopped by its 2 largest positions Atlas and Eurobank (both of which look like they are breaking out higher). The bond part of the portfolio is positioned perfectly for a rising interest rate environment which is exactly what is expected in 2022. Interest income is the one negative (down substantially the past few years); however, with interest rates now headed back higher this will flip from being a headwind to a tailwind in 2022. (Low interest rates is impacting ALL insurers and is a key driver of the hard market.) Importantly, we are also seeing a meaningful reduction in the share count - the Dutch auction in Dec lowered shares outstanding by 7% and we will likely see more of the same in 2022. And, yes, Fairfax will report blow out earnings for full year 2021 when it reports Q4 next week. And 2022 is positioned to be another very good year for earnings. Any way you look at it, Fairfax shares are ‘table pounding’ cheap at US$490/share. ————— My read is investor sentiment, while still low, is improving for Fairfax. Why is sentiment improving? The company is making good decisions. The company is executing well. And earnings are smoking. More of the same in 2022 and sentiment should continue to improve… and that should in turn drive multiple expansion.

Chubb released strong results yesterday. On the conference call the CEO expected strong top and bottom line results to continue into 2022… bottom line, no end in sight to the current hard market. Another positive indicator for Fairfax and Q4 results. And should be a continued strong tailwind for Fairfax in 2022. A little crazy that Fairfax is trading at US$490 given their actual performance in 2021 and all the tailwinds as we begin 2022. What is driving hard market today? 1.) social inflation - litigation - casualty 2.) inflation - property 3.) increased frequency of catastrophes 4.) climate change 5.) growing threat of cybersecurity

Thanks for the correction… i have not followed Fairfax’s fixed income portfolio very closely. Once they release the Annual Report perhaps more of a deep dive on that part of Fairfax’s investment portfolio is in order… Especially if inflation stays ‘persistently high’ into Q2 and bond yields continue to move higher over the year.

————— @glider3834 ‘s chart on duration is very instructive. I expected Fairfax’s fixed income portfolio to be well positioned compared to peers. I did not expect them to be BEST POSITIONED among peers to benefit from rising rates. ————— Doesn’t Fairfax have like $15 billion just in cash and short term investments? We have seen about a 1% increase on the very short end so does this not suggest we should see interest income increase @ $150 million = +$10 million per month. What i like is Q4 should be the bottom in interest and dividend income; importantly, we should see that bucket shift from a headwind the past 2 years (dropping every quarter) to a tailwind moving forward (increasing every quarter). If the Fed actually increases rates 4 times in 2022 we should see short term rates move even higher. The interesting thing to watch is what happens to interest rates further out on the curve when the Fed starts to shrink its balance sheet later this year (June?). Chubb suggested we could see a steepening of the yield curve when this happens. The bottom line, IF interest rates (across the curve) continue to move higher Fairfax is exceptionally well positioned. Of course, they have to act. Their long term track record with the fixed income part of their investment portfolio is pretty good… so i am optimistic they will make some moves this year that will benefit shareholders.

Fairfax has had an outstanding 2021. In fact it was one of the best years in Fairfax’s history. Below is a Top 10 list of what drove value for shareholders of Fairfax in 2021. What is missing? ————— At the bottom of this post are links to similar lists compiled for 2019 and 2020. ————— I would characterize 2021 as the year the ‘new Fairfax’ finally started emerging for all to see. Fairfax had been making important changes under the hood for the past 4-5 years and 2021 was the year all the hard work finally started to be reflected in the reported financial results. The Fairfax 'super tanker' finally appears to be headed in the right direction and building value at a solid rate for shareholders again. FFH stock price increased 45% in 2021 - Dec 31, 2021 = $492.13; Dec 31, 2020 = US$340 BV increased 18% in the 9 months to Sept 30 (BV will be higher when Q4 is reported) - Sept 30, 2021 = US$561.88; Dec 31, 2020 = US$478.33; Dividend of US$10 dividend was paid Jan 2021 1.) net gains on investments of $2.5 billion (to Sept 30) = $96/share - equities, Digit revaluation and FFH TRS - does NOT include pending gain on Digit of $1.1 billion (Digit should be on its own but i decided to include it here). - FFH TRS: 1.96 million shares at cost of US$396/share. Classic Fairfax move: creative, unconventional, opportunistic, smart, well timed, profitable 2.) increase in fair value of Investments in associates of US$1,372 million (to Sept 30) = $53/share - this gain is in addition to ‘gains on investments’ summarized above. - this gain is NOT captured in BV. 3.) significant increase in net premiums written of US$2.3 billion (to Sept 30) = growth of 20.5% - hard market that began in Q4 2019 is continuing as we begin 2022 4.) US$1 billion share buy back Dec: 2 million shares purchased (7% of shares outstanding) at US$500/share - financed through sale of 10% interest in Odyssey for US$900 million - share buybacks done below intrinsic value are very accretive for long term shareholders. - second classic Fairfax move of 2021: creative, opportunistic, smart, well timed 5.) debt reduction: total debt was paid down. Combined with significant earnings in 2021, debt ratios have improved considerably. - largely paid with proceeds from sale of the remainder of Riverstone for US$700 million and 14% interest in Brit for US$375 million. 6.) underwriting profit increased $182 million (to Sept 30) - YTD Sept 30, 2021 = $330; YTD Sept 30, 2020 = $142 million - given hard market we should see continued improvement in underwriting profit in 2022 (as written premiums become earned) 7.) Fairfax’s two largest equity holdings look exceptionally well positioned as we begin 2022 and the shares are very cheap: - Atlas: executed and completed financing on very aggressive new build strategy in 2021. Should drive 15-20% EPS growth per year next 3 years. - Eurobank: completed multi-year fix of balance sheet in 2021 and is now poised to grow business and earnings and leverage improving Greek economy 8.) Gulf Insurance Group: completed acquisition of AXA Gulf, increasing size by about 40% 9.) a number of Fairfax equity holdings completed significant stock buy backs in 2021, significantly increasing Fairfax’s ownership percent: Fairfax India, Stelco, Resolute Forest Products 10.) changes at private holdings: - Eurolife stake was increased to 80% - Pethealth was folded into Crum (Jan 1, 2021) - Toy ‘R Us retail operations were sold (kept real estate) - Boat Rocker IPO - raised C$170 million - very opportunistic - Farmers Edge IPO - raised C$125 million -very opportunistic (even though the business continues to struggle) The bad 1.) drop in interest and dividend income of $109 million (to Sept 30) - Sept 30 2021 = $496 million from Sept 30, 2020 = $605 million - decline is due to Fairfax reducing duration on bond portfolio - this strategy (low duration) carries a short term cost - however, should bond yields move higher (as is currently happening as we begin 2022) Fairfax is well positioned to benefit 2.) continued losses from what is left of runoff; what will average loss be moving forward? -$25 million/quarter? ————— 2020 list: https://thecobf.com/forum/topic/17401-fairfax-2020/page/34/ - scroll down to Dec 28 ————— 2019 list: https://thecobf.com/forum/topic/16444-fairfax2019/page/5/ - scroll down to Dec 28

Agreed. Especially if we get a CR that comes in under 96 on average in 2022. Operating earnings coming in each quarter should be able to take out a nice slug of shares under the NCIB. Sometimes hitting a couple of consecutive singles gets the base runner across home plate too.

Great results from WRB. Top line growth of +25%? Nuts. CR sub 90 means strong earnings from underwriting. Most important: no end in sight to hard market. This is VERY BULLISH for all insurers. The other item WRB highlighted: “do not underestimate the leverage in the investment portfolio”. Their bond portfolio has short duration. “This positioning came with a short term cost.” They are poised to take advantage of higher rates. WRB says “2022 will be an excellent year.” Why? Hard market + higher interest/dividend income = much higher operating income = much higher earnings. ————- The hard market continuing to roll along is very good news for Fairfax. My guess is we see net premiums written growth of +20% in Q4 and it appears 2022 is starting the same way. In 2021 one of my big reasons for holding Fairfax in size was the leverage in the investment portfolio from HIGHER STOCK PRICES. In 2022 perhaps the higher leverage for Fairfax’s investment portfolio will come from the cash/bond portfolio and not the equity holdings. They are VERY short duration. If they are able to redeploy a meaningful amount of their cash/bonds into higher yields their interest and dividend income will pop. Much higher underwriting income + much higher interest and dividend income = much higher operating earnings. Mr Market pays a premium for this type of earnings. Perhaps this is the path to a higher multiple for Fairfax’s stock price.

Well the Fed update is over…. And bond yields are spiking higher across the curve. IF bond yields continue higher it will be very interesting to see where the more speculative parts of the stock market goes. The Fed clearly sees inflation as public enemy number 1. Rate increases are coming in March and balance sheet run off is coming shortly after. Markets look pretty rational right now.

Looking 30 years into the future my guess is a stock portfolio will exceed (perhaps greatly) the return of a real estate portfolio in Canada IF NO LEVERAGE IS TAKEN INTO CONSIDERATION. If leverage is included, i think it is close enough that both likely make sense largely to get diversification. Prices in Vancouver and Toronto have increased so much the past 20 years they make Peleton at $80 look cheap…. But perhaps real estate in Canada pulls a Tesla and goes to $1,300. As we keep learning in financial markets… anything is possible. For a while (and real estate cycles last decades). From my perspective the key benefit of real estate is leverage… and this has been mentioned a couple of times already. I also subscribe to the Peter Lynch school of getting wealthy… the first thing you should do is buy a primary residence (but he was talking about something that was your home and not strictly an investment). The problem with real estate in most of Canada today (Alberta and Sask excepted?) is there is no margin of safety; it looks to me like the greater fool theory at play except it is not liquid (tough to exit quickly). What i love about stocks is if you are patient you will get a crazy good entry point every couple of years. Like what is happening right now. I only put my very best ideas in my TFSA. But getting wealthy exclusively with stocks is slow and takes 15-20 years (unless you are a Buffett or Druckenmiller). The key is getting your portfolio to the hockey stick part of the compound interest chart. Most people don’t get there so they don’t understand power of compounding year after year after year. They start too late. Or their rate of return is too low. Or they pull money out to spend it. it also depends on what you love. I love stocks/financial markets/economics/politics… always have. Houses have always been a place to live; put simply, i do not love real estate. Good luck! My experience is if you think long and hard… learn… your brain will figure things out for you (even when you are sleeping). Eventually, a light bulb will go off in your head and it will be clear what you need to do. The next step in the journey. And a couple of years later you will look back with no regrets. ————— Every day a new train stops at everyones door. Whether they realize it or not. It is there waiting for them to get on. Don’t let fear rule your life. Be very rational. And don’t be afraid to get on the train (go after the right opportunities). It is crazy where you can get to 15-20 years later.

@MikeL if you are new to investing hopefully that means you are also young. Being young usually means you are adding lots of new money to your portfolio (that savings thing)… New money often increases portfolio value faster than portfolio return. At least it did for me when i was young. I tell all young family members to train their brains to pray for BIG market sell offs. And when they happen find as much money as possible and buy… Dollar cost average, but try and go bigger when markets sell off. ————- Now if you are retired and trying to protect your nest egg (versus grow it quickly) then you can stop praying for a stock market sell off… and pray for something else instead.

My biggest mistakes in investing the past 10 years have happened by not paying enough attention to what the Fed was doing I understand other investors ignore the Fed and earn very good returns. Just another example of there is no ‘right’ way to make money in financial markets. The trick for each investor is to find a ‘way’ that fits their life situation AND their intellect and how they are wired. And that is why i like and get so much value out of what people post on this board. Even when they sometimes drive me a little nuts (and i say that with a smile on my face). Just like my wife drives me a little nuts some days…

My point was what CAUSED the sell off both times to quickly reverse? The Fed’s communication and actions. We are seeing a big sell off in stocks to start this year. I am simply saying, if history is any guide, what the Fed does on Wed matters to where the stock market goes from here. i am not out of the stock market (100% cash) like i was in March 2020. I am about 35% cash and was adding to my oil position this morning (currently my biggest weighting). Macro stuff usually does not matter. Except at inflection points. If the Fed ‘put’ is gone and the Fed actually starts to tighten and shrink its balance sheet (to bring inflation back under control) then the stock market will continue to be volatile. My solution is to simply carry a higher cash balance to be able to take advantage of the volatility. I am not a bear. And i am not a bull. Rather, i am just trying to preserve my wealth and make an adequate return on my investments

What stopped the 20% decline in stocks in Dec 2018 and caused the market to quickly reverse? THE FED. It did a complete 180 turn from hawk to complete dove. What stopped the 30% decline we saw in March 2020 and caused the market quickly reverse? THE FED. It pumped a historical amount of liquidity into the system. Is the Feds significant impact on the direction of the stock market not obvious?

The Fed is usually the cause of an economic slow down. Due to all the liquidity they have been pumping into the economy for years (and especially the past 2 years) the Fed has finally gotten their wish… inflation. Except they have way, way too much (7%). They also have asset bubbles in financial assets and a ripping real estate market. The genie GOT OUT OF THE BOTTLE. They got too much of what they wanted. But hey, that’s what happens when you run experiments: sometimes they produce outcomes you are not expecting To combat inflation/asset bubbles the Fed now needs to quickly remove the liquidity. Except this WILL LIKELY RESULT IN AN ECONOMIC SLOW DOWN. And the air is starting to come out of some asset bubbles (spac, bitcoin, small cap tech etc). Now the stock market is throwing a tantrum. As expected. We will find out on Wed if the Fed ‘put’ still exists. ————— It should also be noted, in actions, the Fed is still accommodative. It is only TALKING about removing liquidity. It actually hasn’t even started yet. And the stock market is already freaking out.

My read is the big risk today is the economy. PMI’s today were weak. Is this due primarily to Omicron (makes sense)? if the economy is ok then my guess is we having another buy the dip moment. If the economy is slowing AT THE SAME TIME inflation in the US is ripping 8% then my guess is markets will drop further. I will remain open minded… What you own is probably supremely important today. Companies with real (and growing) earnings trading at a low multiple should hold up better if we are actually in a 1999-2003 type market (where the speculative/super high multiple stuff got crushed).

@ValueArb no idea. My read is the risk for housing today is not rising interest rates. It is a slowing economy. The PMI’s today were weak… due to Omicron? Or is the economy rolling over?

Well the S&P is now down 10% from highs so we have officially entered correction territory. Russell is down 20% so that index has entered bear market territory. Everything is getting hit now. Weak PMI numbers are just throwing gasoline in the fire. Netflix is now $365. Netflix was trading at these levels back in May 2018! Forget about pre-pandemic levels… And Tesla is at $890. Down 25%. And was trading at $45 in Nov 2019… Perhaps we need to change the title of this post to: The Bottom is Coming…

It is interesting to compare Fairfax’s current situation to what happened when we had the last big financial market dislocation in March of 2020. In March of 2020 Fairfax: 1.) insurance: losses from pandemic were unknown; lock downs were throttling business activity 2.) equities: many of Fairfax’s holdings were getting crushed (cyclicals, small cap, hospitality, financials, emerging markets). 3.) bonds: more of a mixed picture for Fairfax. Plunge in government yields would increase earnings and BV of holdings. Short spike in higher risk yields of higher risk bonds were an opportunity. Pain from much lower yields would only be felt in future. Bottom line, Fairfax BV and earnings cratered. And the shares cratered. Fast forward to today: 1.) insurance: hard market continues to roll. Economy expected to expand above trend in 2022. Prospects took very good. 2.) equities: we are seeing a bear market in speculative Nasdaq stocks. Fairfax’s top positions (Atlas, Eurobank, FFH TRS) are holding up well (so far) 3.) bonds: with yields across the curve spiking Fairfax should see interest income start to move higher again. There will be a hit to earnings and BV as current bond holdings are re-valued at quarter end (but Fairfax will be hit much less than most other insurance companies who have much more duration in their bond portfolio). If Fairfax is able to re-deploy some of its significant short term cash/holdings into longer dated bonds (yielding higher amounts) that will be a big, big win for shareholders (boosting interest income and locking in higher operating earnings in future years - something that would be highly valued by investment community). Bottom line, Fairfax in a much better situation to withstand the current market turmoil. And that is likely why we are not seeing shares sell off aggressively. At least not yet

For people who have a rational framework and follow it and some experience… lots will be able to get through drawdowns like we are seeing right now. However, for the other 75% of the market (Cathy Wood disciples, momentum crowd, new money retail investor, index investor) it looks to me like there is more pain to come (and maybe lots more). Netflix cracked today; now down 40% from its highs. My guess is we will see all of big tech/Tesla roll over before we can start to talk about actually hitting a market bottom. Tesla is still at $1,000… Seriously? The Nasdaq was trading at 9,800 in Feb of 2020 (pre-covid) and today it closed at 14,100. Do people think it has corrected? It is still up 40% from its pre-pandemic high (when it wasn’t exactly cheap)… doesn’t look like much of a correction to me. This is all happening because the Fed talking about tightening. Liquidity is the key. This has been the driver of financial markets for 10 years. When the Fed pumps money into the system you buy stocks. When the Fed takes money out of the system you better have some cash on hand. Also, the Fed is STILL PUMPING MONEY INTO THE SYSTEM… It hasn’t even started removing liquidity/tightening. Think about that for a minute… Wait until they actually start raising interest rates and running off their balance sheet. What we have seen in financial markets the past 3 weeks is just foreplay… the real action is coming in the months ahead. And that is because the market is used to throwing a tantrum resulting in the Fed IMMEDIATELY reversing course (from tightening to easing). But the market has not figured out that the Fed ‘put’ is gone. When financial markets figure this out that is when things will get ugly/interesting. Like when we were kids and we discovered one one day that Santa Claus was not real (sorry to break the news to those of you who did not know this already…). Inflation data is going to be terrible the next couple of months (look at the price of everything including oil) - like continuing to rip at 7% ugly. The Fed is so screwed - watch Jay Powell squirm in his seat next week trying to keep financial markets and inflation hawks happy at the same time. When i ran a financial literacy club when my kids were in high school i started out the investing unit by showing the kids a picture of a person puking over a toilet… Most people are NOT buy and hold because they are not emotionally able to handle big sell offs in the market (of 20% or more).

KB Homes had their quarterly conference call last week. They were asked about higher rates. The CEO said higher rates will have no impact on their ability to sell new homes. And that is because most people buying are making a ‘needs based’ decision. So they will eat a higher mortgage rate. He said they have thousands of people on lists nationally who want to buy right now. The issue is supply - can’t make houses fast enough due to supply chain constraints/shortage of labour and materials. When you have a shortage of houses - caused by under-building for a decade - and then you have three demand shocks all happening at once: 1.) covid/stay at home 2.) demographics - millennials are just entering prime home buying years 3.) investor demand - single family homes are the hot new investment class with individuals and also institutions (inflation hedge and more) Is anyone surprised prices are rocking? And my guess is it last for a few years. My way to play the housing boom is to own lumber stocks (well just West Fraser today).

@hobbit thanks for posting. Solid overview of Fairfax India (i quickly went through the presentation). I will listen to the audio tomorrow. BIAL is really positioned well when get to the other side of Omicron/pandemic in another couple of months. I think international travel could spike (massive pent up demand). Fairfax India has performed exceptionally well the past year - even with 1/3 of its BV (BIAL) in a holding pattern. Looking forward to BIAL ‘taking off’. Hopefully this is one of the catalysts that finally get Fairfax India shares airborne

obviously not representative. In my old house my ‘new’ neighbour was super nice family from South Korea. Wife was a tv/movie celebrity back home. After they bought the house they completely renovated it (before moving in) right down to heated floors in garage. Completely re-landscaped. Probably spend $150,000 on renovations. This is not an exceptional example of the type of immigrant coming to Canada. Lots of new $ coming in. With lots spent on goods and services providing a boost to economic activity. ————— As an aside, my favourite memory with the new family (they had 2 young kids) was showing them how to build a large igloo in the snow shortly after they moved in. I explained to the family that ideal igloo snow building conditions only happened once every 5 or so years in Vancouver (enough snow and sticky so it can be rolled and used to build a structure). And we had perfect conditions that day. Man were they ever surprised and happy with the final product (they clearly had no previous snow building experience). Took us about 4 hours. Snapped a ton of pictures and played in it every day. Great introduction to Canada. And, of course, the igloo was gone a week later (melted).