bsilly

Insurance needs to be priced to reflect the current interest rate environment. With long term bonds in the sub 2% range, it is not reasonable to count on a 7% or even a 5% return on investments, given that insurance regulators (and general prudence) restrict equity allocation to something in the range of 25% of the portolio. In my opinion, the target for combined ratio in this environment should be 90 or below. Anything less, and/or hoping for high single digit investment returns, is just not facing reality. b.

I looked at OSTK a couple years back but passed - so now feeling a bit foolish myself. When I checked merchandise prices I found they weren't competitive on price (at that time anyway). Patrick was talking about Block Chain which I find very interesting, but I didn't know how it would play out as a business model. Anyway - I'm not one to chase...there's a heavy so speculative element now. Cahodes has broken ranks with the shorts & seems to have caused a bit of a panic. I woud feel a lot worse if I sat in the stock for 10 years and sold out at break-even :) Oh well - they made lots more on insurance investments in Asia.

Yep - good discussion in the Alleghany Q3. The report they referenced is a good read on hurricane stats. Anyway - on other subject Fairfax really blew the timing selling OSTK back in Q1. Whoops.

Adding to that - I don't think there is a better way to judge the company other than track record - which is good, and the CEO has been the same since 2004. The edge that Fairfax would have as an industry insider is to have seen their behaviour in the market place & have some knowledge of the management team. Ulimately I think there is a lot of faith involved.

I should add that the number is just an educated guess at this point. My point is that there shouldn't be anything particularly surprising. The surprise will come later when the actual claims get settled. There will be an adjustment & we'll find out how good the reserving was. In AWH case, they have a solid history of favourable reserve development. The caveat is they started the business in the hard market, so the future may not be as bright as the past.

If you look up AWH quarterly statements you will find estimates for probable maximum loss due to hurricane. The estimate for 1:100 year PML for a given year in the latest report was $392 million, which compares to $386 million of actual hurricane losses this year, just under 10% of total capital. Now I haven't crunched the numbers, but this has to be something close to a 1:100 hurricane loss year.

Cohodes is cocky and one sided that's for sure. He does admit he makes mistakes though - but I haven't seen him mention any specific ones, like Fairfax. He seems obsessed with getting respect, but often he doesn't give it. He has said shitty things about good people. I find him interesting to listen to nonetheless. He does do his homework, and sometimes you need to challenge yourself to listen to an alternative point of view. Just because you don't like something somebody says, doesn't mean they are wrong about everything. I think he does for the most part honestly believe what he is saying and in many cases, he's mostly right. But I think once he starts going in a certain direction he can only see the things that confirm his belief - twists/selects the facts to fit the theory. I have mixed feelings.

This may be of passing interest to some here, Patrick Byrne are apparently friends now :)

I'm just recalling that Fairfax bought an additional 9% interest at the end of 2015. They paid 5x book or $235m which seemed a bit pricey at the time. Anyway, they have now sold that stake for about $279m (9%×$3.1b), or about a 19% gain in 18 months.

Interestingly I just saw a clip of former Rocker Partner, turned chicken farmer, Marc Cohodes on BNN talking about Home Capital today & was reminded of our adventures with his ilk.

I thought I'd start a new thread here, since the other one is long and has gone off in a few different directions. 1) Fairfax is both a runoff entity, and an ongoing insurance/reinsurance entity. Runoff entities seem to have marketable value somewhere around 70% book. As a result, directly comparing book value multiples for Allied & Fairfax is a bit misleading. If you back out the runoff operation from Fairfax market cap, and just look at ongoing operations, I think you find the book value multiples similar. I do not think Fairfax is giving away much, if any, relative value by using shares as currency. 2) Allied has a 10 year average combined ratio of 87, Fairfax was running about 99 (as reported, not accident year) last time I checked. So the pro-forma entity would be running about 95. Allied is a much better underwriter, and that is the benefit of the deal going forward for Fairfax. It improves the overall underwriting profile and cements their transition from an industry laggard, to industry leader. I like what I am seeing on the underwriting side, now if they can just get their act together (and story straight) on the investment side...

Fairfax has always been enigmatic. I agree it is pretty hard to argue that that the Russell 2000 is cheaper today than 5 years ago. I'd like to see a good honest discussion of the hedging mistakes, and ultimately get out of the equity "hedging" business altogether.

I would like to point out that the two recent trades in treasuries and equity hedges have saved shareholders hundreds of millions so far. Possibly as much as half a billion. These weren't exactly "value" based trades, they were short term market calls, something I don't really do myself. I suspect it makes many of the value oriented shareholders somewhat uncomfortable. But the fact is that, recent equity hedging losses notwithstanding, on average they have juiced returns by a couple percentage points by doing this over the long haul. The fixed income portfolio has outperformed the bond market for their entire existance. I'd put the fixed income record up against Buffett or anyone for that matter. Since, as Cardboard says, an insurer must invest the bulk of its portfolio in fixed-income, this is a very important part of the equation. In fairfax you have a levered fixed income fund with one of the best records in the business, supplimented by better than average underwriting profits, and an equity/derivitives portfolio. I have found the hedging losses frustrating, but eventually they will subside, and maybe even reverse at some point. Regardless, the record indicates that they will do reasonably well going forward. So while the "market" based calls do not jive with my personal value of philosophy, I don't think it is necessarily an identity crisis. They've done it before and they'll do it again.

Just to correct a typo - my post above should read "<i>I'm <b>not</b> sure I agree 100% </i>" - which should be clear if you read the rest of it. Allow me to be clearer: - you cannot hedge equity with cash (agree cardboard) - the argument is moot because they had over $6 billion in cash anyway - Prem needs explain clearly, and admit the mistake of being overexposed to an adverse market move. I for one don't really buy statements about how the prospects for the stock market have changed under a Trump presidency. Nobody knows. Anyway - I still think Fairfax is a great company, but there are always lessons to be learned, and room to improve.

Thanks for the insights Parsad. I’m sure I agree 100%. At the end of the last quarter, before selling the long bonds, Fairfax had over $6 billion of cash, versus the mark to mark equity portfolio of $4.1 billion. I don’t think cash was a factor in decisions regarding the equity hedge. I think the reason for reducing the hedge is simple. With the mark to market equity portfolio down to $4.1 billion, the hedge was up at $7.6 billion. They were overexposed (net short), with no downside protection. As foreshadowing, they actually purchased $1.1 billion in S&P calls in the last quarter to limit the exposure. They are still maintaining a big hedge, it had just gotten out of whack with the size of the equity portfolio. So they right sized it. They were probably hoping to do this opportunistically and make a little money, but ultimately couldn’t hang on / got a bit uncomfortable with the exposure. I think it was the right move to cut it back. The mistake was to be in that position to begin with - and it was a bit costly for shareholders. But that is hindsight. That's my take anyway. All the best. I hope you are keeping well!

Cardboard, I always have enjoyed your take on things. Benhacker I seem to remember seeing your moniker a few times on other message boards prior to this one. I guess once Sanjeev shut down the old MSN Berkshire board I never made the transition. I'm a reluctant follower of interest rates and inflation, owing in part to having significant investments in insurance companies, particularly ones that take large bets on long bonds and deflation hedges! Ben is right - Fairfax has been bold when they see things lining up in their favour. Don't forget the CDS. They seem like hail Mary's but they are usually right, and they typically protect the downside. I see no reason to expect any different going forward. There have been some mistakes here and there but who here has not made a few of those!? If you haven't then you haven't been investing long enough:) You learn from them and move on. The key is the lifetime batting average. As to timing, well, it's pretty hard to get perfect. I did note the action in the bond market over the last few days - but only because I have been curious about Fairfax latest manouvering. I don't normally and I don't think I really have much insight. Dam* it Cardboard I'm a long term value investor not a psychologist!

Thanks indirect. There's often not much to say about this company that hasn't been said :) That wasn't always the case. It remains one of the most interesting to watch though - there is no other quite like it.

I’ve followed Fairfax for a long time, like many folks on this board, and I agree that selling the treasuries three days before an election because of “election risk” seems out of character. I think there is a bit more to it. There has been a tremendous expansion of monetary base in the U.S. since 2008, which provides the tinder for massive inflation if the private sector suddenly decides to go on a borrowing and spending binge. This hasn't happened and may not happen (thus the deflationary pressure). But holding long bonds exposes you to large losses should that materialize. And really - how much can long rates go down from 2%? I guess they could go to zero, but it seems unlikely. A flattish period of low but above zero rates seems a little more believable to me. Long dated U.S. treasuries are starting to look like a one sided bet with lots to lose and little to gain. The opposite of the CPI contracts. You have to be pretty certain that significant inflation is not going to happen to continue to hold. It is not necessarily inconsistent to believe deflationary pressures are real, and yet still see a risk of inflation. It comes down to a probabilistic view of the world rather than a singular view of how things might turn out. One thing to remember is that for the deflation scenario to pay off Fairfax does not need actual deflation. The only need only for the CPI derivatives market to price in a reasonable chance of deflation over the next 5-6 years, causing the contracts to dramatically increase in value. The downside is limited to the premium paid and the upside significant. I think it was/is a reasonable bet, but it is perhaps a touch less attractive now. Time is working against them. Maybe the uncertainty around the election provides justification, but I take the sale of long bonds as a sign of perhaps a little less certainty about the deflation / zero interest rate scenario developing, but certainly not an indictment of the deflation hedge. https://fred.stlouisfed.org/series/BASE?utm_source=series_page&utm_medium=related_content&utm_term=related_resources&utm_campaign=categories https://www.google.ca/url?sa=t&source=web&rct=j&url=https://thenextrecession.files.wordpress.com/2016/02/richardkoo_2feb2016-1.pdf&ved=0ahUKEwjlr9mDipjQAhUJ0WMKHXpYAQwQFginATAX&usg=AFQjCNE9t7lejzExTnQ83MbOjoXR2O4ZQA&sig2=J7e7VyYuIYc7l2ewQe1FcQ

Should be, yes.

Cardboard - you beat me to it (nice to bump into you by the way - long time). But I already wrote my post so here it is anyway :) what is this extra $500M going to do? I share your concerns about dilution, but we have two transactions to be completed on the upcoming months - Eurolife (say $350 million) and ICICI Lombard ($230 million). It looks like Prem intends to fund these purchases at the Holding company level. So this $500 million will maintain holding company cash at current levels. I'd rather not see a repeat of past holdco liquidity issues should we get into a turbulent market. We are much better off to be issuing equity now, versus when these aquisitions were announced. I suspect the fallback option may have been to have one of the subs close on the aquisitions. But after all the progress made over the years unstacking the capital structure, I think most would agree it is better to have these at the holding company level. b.

There certainly isn't anything to complain about regarding the operating results. In fact that is what has carried the company for the past few years. The only sore point is investment results, the cost of the deflation and stock market hedges. I'm reminded here of Michael Bury in the Big Short. (Never mind the Fairfax was ahead of most of those guys). We've been here before. As we move into 2016, the stars look to be lining up somewhat. Long bond yields are falling, the Russell 2000 is down, and forward inflation expectations are falling rapidly. As Prem mentioned on the call, even though the CPI is not falling (yet) these contracts could soon become quite valuable as the market wakes up to the real possibility of deflation. I leave you with the following from the St. Louis Fed. https://research.stlouisfed.org/fred2/series/T5YIFR

Cheers Sanjeev, A pretty solid effort, focused mostly on underwriting (the most important thing!). Fairfax has made a great deal of progress over the years. Aside from underwriting, The quality of the company has improved by every measure I can think of. Reinsurance exposure, leverage, unstacking the capital structure (getting Odyssey Re out from under TIG), runofff, etc. Although I do not wish for a major calamity, unfortunately I think that is what it will take to blow the excess capital out of the insurance market and get a hard market started again. Could be a while - but I am patient. I feel like shorting Third Point Re just out of principal :) B.

As soon as I posted that, I found the following presentation from Munich Re. Slide 44 somewhat contradicts what we thought about Cat losses. Last 2 or 3 years are maybe a bit lower than the previous few, but on a ten year average - not a huge effect. http://www.munichre.com/site/mram/get/documents_E-1959049670/mram/assetpool.munichreamerica.wrap/PDF/2014/MunichRe_III_NatCatWebinar_01072015w.pdf

Low cat activity the last few years is definitely part of it. And in the late 90's to 2001 we saw a soft market punctuated at the end by massive losses from 9/11 - historically bad years. We also had falling investment yields since then. I'd say generally that industry wide trends are behind most of the decline. But I did manage to cobble together some industry data that supports my assertion that Fairfax' average 10 year combined ratio has come down relative to the industry. In 2001 FFH had a 10 year trailing average CR of 110, versus industry average of about 107. This year, it looks like FFH will be 99 versus 100 for the industry. So it went from an industry laggard to slightly better than average. I may try to plot it up for y'all when I get some more time. With investment yields where they are, I think the industry will write around 100 or below for the for the foreseeable future, like they did in other low yield eras such as the 1940s and 50's. I looks to me like FFH will write a least as well if not better. I don't see the trend reversing.

I have been looking at some long term valuation metrics for Fairfax, one of which is the combined ratio. I plotted the reported combined ratios since inception - 1985, and then overlaid a ten year trailing average. I like the ten year average because it eliminates the noise of annual fluctuations and will also tend to average out the ups and downs of insurance cycles (it will include a few hard market years & a few soft market years). Note that the arithmetic average differs from the weighted average. A weighted average will tend to skew results towards years of higher net premiums written. Accident year results are also an excellent way to look at reserving, as Prem did in the most recent annual letter, but I am looking at it differently - on an as reported basis, which includes reserve deficiencies/redundancies in the year reported. Over 10 years, issues of over/under reserving should more or less come out in the wash. This year is of note, because, as you can see from the image below, Fairfax' ten year average 'as reported' combined ratio, barring a major disaster between now and year end, will go below 100 for the first time ever. I think this is an interesting indicator. The trend reflects the effect of reserve surprises, and the fact that Fairfax has gone from a company that tended to report reserve deficiencies (negative surprises), to one that is tending to report redundancies (positive surprises). You can see that after 2001, there has been a steady long term trend towards stable underwriting profitability. Part of this is due to industry dynamics. Even though I did not plot industry averages, I think the trend would compare favorably. Fairfax is improving it's underwriting results relative to the industry. I now feel justified, perhaps for the first time (and I have owned and followed Fairfax for a long time), in projecting average combined ratios for Fairfax of 100 or better going forward. Comments? http://i.imgur.com/4xRm1Pw.jpg