ERICOPOLY

So if they have been so conservative for so many years, why aren't they showing up today to offset this headwind of conservative reserving? Doesn't the conservative reserving show up in the provision for claims? For 2009, the provision is approx. $3.6B higher than in 2004, although the actual claim payments and the level of new business is approx. the same. I know this is very simplified and relies on a lot of assumptions, but would nevertheless seem to explain the different numbers and statements by the company? I get a FFH CR of approx 87 if the reserves should have been on the same level as in 2004 (like premiums and actual payments on claims). Cheers! Thank you for giving me something useful to think about. This will keep me busy for a while.

The first thing that comes to mind is that... is it illegal to deliberately inflate reserves for the purpose of reducing taxes? I can understand that being a little bit conservative is perfectly okay, but there must be a threshold where this gets abusive in the eyes of the law. Second thing that comes to mind is that... now that volumes are dropping this should be showing up as a tailwind to their CR, not a headwind. See my example above about the company that, over a span of 4 years soft market, winds up writing $50m business instead of their past $100m. If they were overreserving by 5% in every year, then they would be getting a tailwind of $5m worth of reserve releases to offset $2.5m of reserve additions. The net result is an improvement to the CR. Now, with Fairfax we know that they are writing less business -- so the reserve releases from past conservatism ought to be more than offsetting the present year loss reserving... or at least we should be getting to the point where they nearly cancel one another out. My point is that you can't just keep hiding your taxable income in a reserve -- at some point it comes out and gets taxed. So if they have been so conservative for so many years, why aren't they showing up today to offset this headwind of conservative reserving?

MKL does purchase reinsurance. The 2009 annual report claims that MKL has $952m reinsurance recoverables. That's 1/3 of their shareholders' equity. I'm not sure how much reinsurance coverage they purchase in total, but their recoverable balance must be some indication. By comparison, Fairfax has recoverables of $3,809m (about 1/2 of shareholders' equity). However, in Fairfax's case a good deal of that is held in the runoff units. Where did you hear that the operating companies of FFH have more reinsurance protection vs the operating companies of MKL? I also looked at the total leverage of the two firms. They both operate at 3.7x leverage. (total assets / total equity) However in Fairfax's case I think that's overstated because they seem to keep a much greater sum of money at the holding company just waiting for it to rain.

Just to clarify, I was ignoring all other qualitative factors and sources of earnings. MKL and FFH I like to compare to one another because if you had the same investment team managing both companies then perhaps the only significant qualitative difference would be the underwriting profits. So I took the gap in their respective underwriting profits and put a P/E of 10 on it. I found that it generally explains rather nicely the entire relative premium to book value enjoyed by MKL vs FFH. The reason why I brought this thread up is that I was once an MKL shareholder (back when I joined this board) but I sold it at a very high multiple to book. Now I am a Fairfax shareholder and don't own any MKL. I like the investment team better at FFH but from time to time I wonder if I would do better at MKL due to the relatively better underwriting profit -- this of course makes me ask whether it is worth making a switch given the much higher P/B that I have to pay in order to get that relatively better underwriting profit advantage. That's what drove me to ask how much I am paying for the underwriting profit at MKL... and when I discovered that it's about 10x earnings, then I thought well there's really no reason for me to switch because I could put that extra bit of money (the relative difference in book value multiples) in a better business like WFC for what I think would be better results. I think over time Fairfax's underwriting profit will get better because their worst businesses seem to be shrinking and their best one (Fairfax Asia) is growing. Plus they just bought Zenith and in a hard market they could always favor growth there over their other less profitable lines. Partly I'm writing out my thoughts here hoping somebody will correct me if the logic is horribly wrong.

We're in agreement that they are disciplined... look at their dropping volumes. Absent discipline, they wouldn't be walking away from business. The topic is what Cardboard asked... why is their level of discipline not winning the CRs of others who make the same claim of discipline (he mentioned by name Berkshire and Markel and Chubb)? So I reasoned that they are simply fishing in different ponds (different lines of business) -- you can be an extremely good fisherman but only catch carp if you are fishing in a pond that only holds carp. If that isn't right, then what is? The fact is that they are disciplined (backing away from unprofitable business) yet their CRs are still far higher than respectable underwriters like Markel,Berkshire,Chubb... or is it that Fairfax is disciplined but these other three companies are not? I can't buy that given their long track records.

Assume that over the past 4 years the market has been getting soft... Let's say that you write $100m of business 4 years ago and only write $50m of business today. And let's say you reserve too high all along, such that 5% of your business written in any given year will come back out as a reserve release 4 years later. This means that today you are excessively reserving only $2.5 million for the business you wrote this year, but you are getting a favorable reserve release of $5m from the business you wrote 4 years ago. So doesn't this tend to INFLATE your current combined ratio by the net $2.5m reserve benefit? And in 4 more years if you are still writing the same volume of business, that $2.5m benefit will vanish. So Fairfax might actually be seeing a tailwind from their reserving practices as they shrink their business -- but if their business stops shrinking the tailwind drops off.

Their volumes are dropping hard though. It's true that they are walking away from business, yet they're just not getting meaningfully below 100%. Could it be that they are weighted towards lines of business that are easier to enter and so capital flows in freely (aka: fiercely competitive). I don't know... you have to wonder that this might be the case. Otherwise, why do they keep giving up business and tend to write aggregate CRs much higher than WR Berkeley and Markel? It has to be that however they're set up, they're fishing in the wrong pond. Some ponds have trout and some have carp. Better theory?

I am trying to tease out why exactly MKL is priced at roughly 1.34x reported book and FFH is priced at roughly 1x reported book. Assuming they both have roughly the same allocation to equities (they do after accounting for FFH's hedge). Assuming the same investment results (let's ignore for a minute that HWIC has handily beaten Gaynor's record) Assuming they both have tremendous capacity to grow in a hard market About the only thing I can see that differentiates the two of them is the past superior underwriting profit at MKL. So, one might come to conclude that the relative premium paid for MKL is effectively the capitalized value of that underwriting profit. I know that over the long term profits are profits, but... were the profits at FFH to be just a little bit higher and to come in the form of underwriting gains, it would translate to a current stock price of $500. I think at 1.34x people are effectively paying about 10x earnings for MKL's underwriting profit. A conclusion one might make: It might be tempting for some to want to go with MKL based on the theory that the underwriting profit will drive book value gains at a higher pace (assuming identical investment gains), but I don't believe it will translate into higher investor returns when you are diluting those returns by investing 0.34x at 10% returns (unless 10% turns out to be the highest component of the return). And there are better business trading at or below 10x earnings than MKL's underwriting. Take WFC for example -- that should presently be trading at no higher than 10x earnings... and one could argue that it's business is much more enduring and scalable than MKL's insurance underwriting profits. So if one assumes that FFH and MKL earn identical returns in their business before including the underwriting profits, then at these prices I would have to conclude that for a $13,400 investment it would be better to go with $10,000 in FFH and $3,400 in WFC rather than going with $13,400 in MKL. Have I vastly miscalculated what people are paying for MKL's underwriting profits? I get about 10x.

This article suggests that US banks in the aggregate hold $16.4b in Greek debt. http://ftalphaville.ft.com/blog/2010/01/29/137341/whos-selling-greek-cds/

He does think they are expensive, but he sees stocks more likely than not going to 1500 or 1600 by October 2011. http://www.gmo.com/websitecontent/JGLetter_ALL_1Q10.pdf "the line of least resistance is a market move in the next 18 months or so back to the old highs, say, 1500 to 1600 on the S&P, accompanied by an equivalent gain in most risk measures, followed once again by a very dangerous break." Further, he is overweight emerging market stocks because (although he thinks they are expensive now) he sees them getting far more expensive.

They keep the old ones well hidden, but they can still be accessed. I can't find the 2010 one yet: http://www.fairfax.ca/Assets/Downloads/2006_AGM_Slide_Presentation.pdf http://www.fairfax.ca/Assets/Downloads/2007_AGM_Slide_Presentation.pdf http://www.fairfax.ca/Assets/Downloads/2008_AGM_Slide_Presentation.pdf http://www.fairfax.ca/Assets/Downloads/2009_AGM_Slide_Presentation.pdf

I believe Pabrai just wants to keep his message simple for the interviews, and that he is fully aware that you can go short without infinite downside. For example when Fairfax shorts the S&P500 they do not have infinite downside -- and Pabrai invests in Fairfax. Fairfax hedges the short with call options.

I don't know much about stocks yet even I can still find some cheap things in obvious places (cheap if you believe recovery is taking hold). Citigroup for example, despite the run from $1, still trades at 1.2x tangible equity (plus they are reserved at 6.8% of loan portfolio for loan losses, and their loan losses are falling the last three quarters). Berkowitz goes so far as to say that they are overcapitalized.

It's somewhat of a coincidence that I'm hearing more about Crohn's lately (after hardly knowing anything about it). Yesterday my neighbor was telling me that people are getting treatment by exposing themselves to hookworms, of all things. http://en.wikipedia.org/wiki/Helminthic_therapy

The founding fathers are interesting. George was also a huge land speculator. Thomas Jefferson lived way beyond his means and died in debt. In so many ways they are the fathers of America as we know it today...

Here is the answer: http://en.wikipedia.org/wiki/Lend_lease America was repaid for the lend-lease program 10 cents on the dollar. Hoisington's conclusions that a massive trade surplus with a huge multiplier then are interesting to debate. He is contradicting himself when he says government spending can't work, then he also maintains that it has a huge spending multiplier. He calls it a trade surplus when we're getting paid with IOUs that get settled for 10 cents on the dollar. It undermines much of what he argues about in the current letter.

Yep, that's exactly why this is hard. There's a reason sound bites don't cut it, and politicians aren't actually stupid; they just have a very different set of constraints. Good point but some are pretty stupid. Here is a good example. Ignoring the religion part the look on his face at the end is priceless and I am still waiting for a youtube clip of this mom lady. That's why you'll never see Bill Maher on Fox -- they wouldn't dare invite him to a debate. Thanks for the video, I will be laughing at that one the rest of my day.

This makes me wonder. Hoisington thinks that would work, so why don't we just do it? Put 30 million people into make-work projects, suck enormous amounts of money from the private sector (sell war bonds), finance the whole thing with huge government debt... we could just skip the shooting war though. We could make lots of tanks and airplance, ships, grenades, food, etc... we can put them on huge convoys and just throw it all overboard before we get to England. Why does Hoisington think government programs won't work, yet he argues that such programs are exactly what cured the Depression during the WWII years? He says that sending all the war supplies to allies had a massive multiplier effect. We weren't paid for those items, it was lend-lease (is that really a trade "surplus" if your trading partners are broke and issue IOUs?). Or am I wrong... did we get substantially repaid?

Hoisington does point out that government action will work to cure debt deflation so long as the government starts a massive war that encourages people to put an unprecedented amount of their savings into war bonds, put 30 million people into uniform (a huge make work project) and send enormous amounts of munitions to our allies. Meanwhile, the public sector debt skyrockets in the process. http://www.hoisingtonmgt.com/pdf/HIM2009Q1NP.pdf However, the dynamics during the War were much different than from those of 1929 through 1941 and today. The U.S. ran huge trade surpluses as we supplied military and other goods to allies, which served to lift the U.S. economy through a massive multiplier effect. Additionally, 10% of our population, or 12 million persons, were moved into military services. This is equivalent to 30 million people today. Also, mandatory rationing of goods was instituted and people were essentially forced to use an unprecedented portion of their income to buy U.S. bonds or other saving instruments. This unparalleled saving permitted the U.S. economy to recover from the massive debt acquired prior to 1929.

To me, JOE is a low risk speculation. I paid $5,200 per acre for land where they're putting in an international airport. If I wasn't reading the Andrew Carnegie biography at the time, I might not have bought it. Carnegie (at least once) went in on a land investment 50/50 with a railroad executive. The railroad executive knew that his railroad was going to put a rail stop in at a certain place, so he and Carnegie bought up all the land there. Once the news of the rail stop went public, the price of the land went up. Duh! Well, insider trading was not illegal then. Carnegie might have been a great philanthropist but the way he made his money was morally suspect. So JOE just seemed too cheap for me given the airport going in, and even though it's hardly a secret I think it will be a catalyst. I figure some hedge funds will buy a bunch of JOE and then hype the airport angle. If a news story came out and said: "Look, you can buy acreage for $7,000 and they're putting an airport in with service to DC, Houston, Orlando... etc..." I would think the land is still cheap. And that would be after a 40% pop roughly over the price I paid. The place was called the Redneck Riviera which is enough to keep any sensible person away. Those people are completely insane -- I was at Walmart two days ago renewing my fishing license, and there are people there wearing "SS" t-shirts (literally it says "SS" on the front in 12 inch letters on the front -- then on the back it says "Support Your Local White Boy"). You've got to be kidding me! My Grandfathers' generation would have stuck these Nazi white trash in internment camps and thrown away the key! Yet they probably think they are true American patriots, what a laugh. Anyways, not saying there are any white supremists in the south, but that's what I think of when I hear the words "Redneck Riviera". I think the airport will drive up the prices and thereby drive those people out -- but it will take a while to work out.

Well, my holdings were all up in a manic move yesterday. C was up 7% yesterday. JOE was up 4%. FUR was up 6%. It's just a common theme. Just so happens that I own all three and they were all ideas I stole from Berkowitz. I saw nothing special from FUR yesterday that I didn't see across my portfolio (except for FFH which has been a dog, but it's a well loved pet).

I've heard this before, that Buffett regretted not selling KO when it was selling in the 80's. Yet, I've never seen the source. Can anyone source where he said he should have sold KO? He doesn't specifically mention KO here, but he is alluding to it along with likely the rest of his portfolio. http://www.berkshirehathaway.com/letters/2004ltr.pdf Nevertheless, I can properly be criticized for merely clucking about nose-bleed valuations during the Bubble rather than acting on my views. Though I said at the time that certain of the stocks we held were priced ahead of themselves, I underestimated just how severe the overvaluation was. I talked when I should have walked. He mentions the big positions, the desire not to sell for tax reasons etc... but what's wrong with a market short to hedge against market collapse? That's what Prem does and I think it would solve Buffett's argument about the problem with selling huge concentrated stakes and paying taxes. He is no stranger to writing S&P500 puts... after all. Pabrai and Buffett have said that shorting is no good because you can lose everything... but that ignores Prem's technique of buying out-of-the-money calls to hedge that risk.

Yes, not everyone. People wouldn't like being rich if everyone was rich. It would change nothing, wealth is relative. Rich people can pay others to cook for them, take them fishing, etc... well... who's going to do the work? And you're right about the ovarian lottery. But I'm not going to give my money to help Americans -- even the poor in America seem rich if you've traveled. Last year I gave money to a local nonprofit (neighbor founded it) that grants scholarships to deserving students of Omatepe, Nicaragua (a sister island of the one I live on here in Washington). My $6,000 total contribution will send one student through six years of medical school -- it costs $1,000 per year and that includes food+housing+supplies/books+tuition. That's a career in medicine that I bought for somebody for the cost maybe 50-100 medical students in America? That's value investing if you ask me. The other charity that impresses me is the Central Asia Institute run my Greg Mortenson (author of Three Cups of Tea).

Superannuation contributions are compulsory in Australia. So you don't have the case where people spend money on frivolous things when they are young and don't think about saving until they are 50. A superannuation fund is the same as an IRA here. I think actually it is the same as a RothIRA because my retired aunt (schoolteacher) and uncle (civil engineer) live on their superannuation fund and they claim they pay no tax at all on the distribution.

txlaw, One of the arguments in support of a reduced capital gains tax rate is to acknowledge that many capital gains are not "real" gains. Initially, when Austrialia first installed their capital gains tax, they had a system of indexing your capital gains against inflation to address this problem. It was complicated though because people can't agree on how to measure inflation. Today they've just given up on trying to precisely compute the effect inflation has on capital gains and just throw out a rough estimate that, "in the aggregate", they're about 1/2 of your gains from inflation alone. Of course, that's not accurate because during periods of low inflation they might be none of the capital gains, and during high inflation they might be much more than half. But at least they tried. So today in Australia your capital gains are taxed at 1/2 of the income tax rate. So if you are making more than $50k, then your capital gains are taxed at 24%.