TwoCitiesCapital

The reactions here are nuts. You'd think the preferred weren't 40+% off their recent lows based on the commentary here. Markets have responded. It's going up, but there's just been so many head-fakes in the past that it's a bit more cautious.

2018: -14.1% Driving factors continue to be the same. Still majorly overweight EM and International companies. Reduced some commodity producers through the year as oil rallied, but still have large positions there. I was fortunate enough to take some gains in January, but not enough. Further, I rolled most of those profits back in by June so the subsequent investments still lost money by year-end. Relative value trades eased some pain some - evidenced by being down only 14% with 40+% of the portfolio in EM which was down ~20%. Outside of being overweight non-dolllar assets, the other big killer for was FCAU which was held in options. These were a BIG winner for me in 2017. I trimmed the position when Fiat passed $20, but only by a little, and then the price collapsed. I re-added around $16-17, but the damage was done for the year with the price ending ~$15. This took 3-4% off of my annual return for the entire portfolio. The smartest decision I made in 2018 was to not invest more. I moved across the country in November 2017 and purchased a car/condo/furniture to accomplish that. I had way more debt upfront than I was comfortable with so I spent 2018 reducing that number by about ~30k. Also, the condo is up in value judging by comparable sales so my overall networth did significantly better than the portfolio.

The irony is that Buffet is now in automakers and airlines with LARGE bets despite them being called out as the terrible types of businesses. Business economics change with time and the competitive landscape. The consolidation in both industries has helped. I don't think I would want to own an OEM long-term, but they seem like decent bets now with people being overly pessimistic on the industry every since "peak-auto" concerns back in 2016. Eh, "commodity" might be stretching it a bit. Maybe in the sense of traditional sedan business, but otherwise it doesn't seem that way. I own Porsche Carrera and it is NOT a commodity car that is interchangable with any other car. My southern friends feel very strongly about their specific truck brands and Jeep has a die-hard following. It seems to me the commoditization of autos was in the sedan space (which is dying off) and maybe in the SUVs (which are still significantly higher margin vehicles). Net-Net for the auto industry is fewer models/costs and higher margins while retaining strong brands. When I look at the brands Fiat owns, they're very well positioned for future success. Maserati and Alfa Romea are not commodities. Jeep is not a commodity. Ram is likely not a commodity. Also, I'm less concerned about autonomous drivings impact on these OEMs. They're still going to make the vehicles and will either build the software in-house or license it. There will probably be fewer vehicles, but higher margin and higher turnover. Further, the reduction in vehicles is likely to be overestimated unless if we start staggering working hours across cities. It's the companies like Uber which I think may struggle with autonomous vehicles as they have little competitive advantage to offer outside of a sophisticated logistics app.

I don't think reporting that way is kosher, and it doesn't actually make the returns actually higher. Your returns are based on your risk at the time of investment. You don't get to then take x% off the table through a div recap and say "look how much higher my return on capital is" by reducing your denominator for the distribution. Just think of a basic example where you invest $1B at T=0, take a $1B div recap after 5 years and the rest is worth, say $10MM. You didn't make $10MM on $0, you made $10MM on $1B. That's certainly how your LPs would look at it. It's totally different from a tax perspective, but that is not how you should be measuring your investment returns. When looking at absolute returns, this is the case. When looking at TWR and the opportunity cost of that $1B invested over the 5 years, it's absolutely not. If you can pull that $1B and reinvest it into something else, then you get that return and the $10M. Further, investing $1B, pulling it out, and getting $10M later is a "risk-free return" for all intents and purposes...so it's still better than having $1B at risk the entire time. Yes, I agree that going forward, you can calculate your incremental return on the remaining capital at risk. But when someone asks what your "absolute return" on a position is, they are asking: (Realized + Unrealized) / Capital Invested. The denominator of that equation *never* changes, unless you invest *more* capital. All I'm saying is that PE firms don't do this to "lower equity invested" to "make returns higher." If they do, they're using funny math. They may be taking out that capital to invest it in other, more attractive opportunities, which will generate higher returns, but they are not doing it to game a mathematical formula. Again, if they are that's not kosher. They usually do dividend recaps when they need to generate cash and/or can't actually monetize their portfolio co. I disagree. They do DO this. The $1B isn't in a vacuum. It's typically a fund with multiple investments. A $1B purchase with a dividend re-cal allows them to pull their cash back out and make incremental investments in other acquisitions for the fund. Maybe the denominator doesn't change, but having two investmenrs with the $1B versus just the one absolutely changes the numerator in your calculation.

I don't think reporting that way is kosher, and it doesn't actually make the returns actually higher. Your returns are based on your risk at the time of investment. You don't get to then take x% off the table through a div recap and say "look how much higher my return on capital is" by reducing your denominator for the distribution. Just think of a basic example where you invest $1B at T=0, take a $1B div recap after 5 years and the rest is worth, say $10MM. You didn't make $10MM on $0, you made $10MM on $1B. That's certainly how your LPs would look at it. It's totally different from a tax perspective, but that is not how you should be measuring your investment returns. When looking at absolute returns, this is the case. When looking at TWR and the opportunity cost of that $1B invested over the 5 years, it's absolutely not. If you can pull that $1B and reinvest it into something else, then you get that return and the $10M. Further, investing $1B, pulling it out, and getting $10M later is a "risk-free return" for all intents and purposes...so it's still better than having $1B at risk the entire time.

They got wrecked because long-term yield have come down ~0.50%. The story of a secular rise in Fairfax's interest income from higher rates is now being questioned. If the Fed is coming to the end of it's tightening cycle, it means Fairfax missed their opportunity to roll into longer-duration debt to lock in higher earnings for the long-haul and it's quarterly profits are dependent on the Fed not cutting rates. .

Generally, I'd prefer higher rates, but agree with the others that I think we're getting close to the end of what the economy can tolerate. The fundamentals for higher rates are terrible - massive debt outstanding, significantly lower rates globally, and aging demographics really make it tough to raise rates. We might have seen the "lows" for rates back in June 2016; however, that doesn't mean 10-year rates can go to 4-5% - just that 1.5% is probably the lower end of the range with 3.5% being near the upper-end of the range.

Back in June, the top 10 contributors were 125% of the index gains for the year and 8 of the 10 were tech related. So basically the Same&P 10 was positive and the S&P 490 was flat-to-negative by mid-day through the year. This contribution has come down since then as Amazon, Facebook, Nvidia, etc have collapsed in recent months, but it's still probably around 50% to the top 10-15 companies.

Not that I'm an expert, but his being a writer of of HERA might actually be a good thing because it's clear that the courts' interpretation goes far beyond anything that was intended by the writers. I'd also think a wind down scenario would be positive for preferred which would be owed par. I don't feel strongly one which way or another with the appointment, but it's not a clear negative or positive to me.

While no doubt a riskeir option, I do this all the time. Just rolled 50% of my car onto an offer that was 0% interest for 18 months (w/ a 3% charge). The 2% rate that approximates is far less than the car loan and I was going to have the whole car paid off in the next 12 months anyhow. Also, seconded on the options opinion which is more expensive, but truly non-recourse

There is another active thread on this issue that began a few days ago: http://www.cornerofberkshireandfairfax.ca/forum/general-discussion/yield-curve-inverting/ An inverted yield curve does not cause a recession, as your topic title suggests. It is used as a leading indicator of potential future recession. As for why anyone would buy the 10-year note, a 10-year note is the equivalent of rolling a two-year note several times with a significant difference: The 10-year note locks in a yield on cost for a 10-year period; the two-year note only locks in a yield on cost for 2 years, then you get the two-year yield that exists at the time you roll, not the two-year yield you got when you initially invested. Thus, an inverted yield curve implies that the market believes that, in the future, short-term rates will be lower than they are today. (If the market believed that short-term rates would stay the same, then people would sell their 10-years to buy 2-years until the yield curve steepened.) What typically causes a decline in short-term rates? The answer to that question is why the inverted yield curve is used as a leading indicator of recession. +1 In simpler terms, you get more bang for your buck buying 10-year bonds, than 2-year bonds, when interest rates fall. If you think they're going to fall, you want 10-year bonds regardless if 2-years yield more because you're buying for the capital appreciation of the trade and not the YTM.

Govt officials can, and do, trade on information and it is not illegal - for whatever that is worth.

To recap the company and get out from underneath legacy positions that were issued 15-20 years ago when rates were significantly higher. I think, ideally, the companies would want to start off paying a 1-2% dividend on common to entice investors to participate in what is going to be a massive recapitalization with several tranches of govt warrant sales and/or follow on equity offerings. They can't do that with preferred sitting in front of the common - some yielding 7-8%. Converting the preferred into common starts the companies with a clean slate, reduces cash outflows to retain more earnings, and allows for attracting new equity investors to participate in follow-on offerings. They can always re-issue new preferred equity at much more attractive rates if that's a desirable part if the capital structure.

wow, what an unpleasant man. the moelis plan is not likely imminent. perhaps hopefully more like a backup plan if legislative fails. the common stock would simply not be where it was if the moelis plan was gaining any sort of momentum. EDIT: this article (and more possibly to come) is likely why par isnt a realistic outcome imo for the jr pref. 60-80pct is a hopeful resolution to me. there has to be some shared sacrifice optics even if many believe it's not fair. The shared sacrifice would be ALLOWING conversion of the junior preferred into equity instead of demanding the cash principal in which we're legally entitled.

A real rate is simply a nominal rate plus less inflation - both of which are addressed in my post. The point is nomindal rates can head higher even as inflation breakevens move lower - a case where TIPS would underperform Treasuries due to offsetting factors. TIPS would outperform treasuries in an environment where expected inflation (i.e. breakevens) are widening regardless of what nominal rates do - but the question wasn't why have they outperormed or underperformed Treasuries. It was why are they negative. They're negative because of the interest component - the rise in nominal rates has more than offset the expected increase in coupon income from rising inflation expectations.

Would be terribly difficult as their is already legal precedent for those rights transferring with the securities in a sale. While it seems simplest, it flies in the face of precedent AND would cast into doubt how to handle such cases in the future as we'd now have legal precedent for both the rights transferring and the rights not transferring calling into question what exactly you're biting each time you buy an equity security.

Will be a combination of interest rates and inflation breakevens. They can move in unison or offset one another. 10-year rates are near 7-year highs. Virtually all fixed income increments purchased in the last 1-2 years will have a negative return due to the movements in interest rates.

Seems like they might have been a bit early on GE. Am looking forward to see how they build out the portfolio now that recent volatility over the past 9-10 months gives them opportunity in a few traditional blue chip companies

I'm assuming this was directed at me? PEFIX is probably 75% of my EM exposures via funds and is entirely a leveraged "smart-beta" play on value EM.

Are you playing a shorter term trend with EM overweight -- i.e. USD weakening and mean reversion over the next 3 months. Or is this a 5 to 10 year bet? The hard part about EM growth is that it's so beholden to the whims of China Mostly the latter - have been massively overweight EM since 2015ish. Trimmed some in January, but now it's all back on the table plus some.

Perhaps I can provide some opinion on how both can be true... Single payer isn't my ideal system, but the country as a whole has made it clear that my ideal system isn't going to happen. Too much obstruction in the way of current laws, entitlements, and idealistic differences stand in the way of my ideal system. So short of my ideal, which will likely never happen, I support a single payer which is probably the next best option given the current playing field. This is despite my misgivings and distrust of governmental regulation b/c the current system seems to be a mash-up of all that is unholy in capitalism and socialism with little, to none, of the benefits of either.

Based on current market values: Altius - ATUSF/ALS - 8.9% Sberbank - SBRCY - 6.9% Fairfax - FRFHF/FFH - 7.1% Fiat Chrysler - FCAU & Options - 5.8% Freddie Mac - FMCCJ - 5.7% Santander - SAN/BSBR/BSMX/BSAC - 4.4% Exor - EXO - 4.3% Lukoil - LUKOY - 3.1% Gazprom - OGZPY - 3.1% Seritage - SRG - 2.9% EM Betas - VEMIX/PEFIX/FFXDF - 34.6% European Betas - PTSIX - 8.0% Doesn't sum to 100% - all options are valued at notional exposure and smaller positions plus cash were left out Macro Themes reflected in the portfolio: Long Real Assets & Real Asset Producers (O&G companies, base metal royalties, REITS, massive EM overweight) Expectation for higher interest rates (Fairfax Financial) Long Global Equities vs U.S. equities (massive overweight to EM and little U.S. exposure)

Their timing on bonds really HAS been phenomenal. Give them 6-12 months to roll a number of those binds at higher yields and we're talking some serious stable income being built. Especially if the long-ene goes up another 50-100 bos and they feel comfortable rolling into those

Hopefully Q4 provides more opportunity for them to reduce shares even more dramatically. I had sold about 50% of my position earlier in the year to buy other items that pulled back in January-April. I have since booked gains elsewhere in the portfolio and repurchased all of my shares of Fairfax as of today re-establishing the position at a lower basis. Fairfax is about the only company that I can think of that stands to benefit tremendously from continuously higher rates and the ensuing recession.

At this time next year, it's a pretty low bar for Fairfax to be generating $1+B in cash on its investment portfolio per annum. Very conservative assumptions of 2-3% on fixed income and 3-4% on equities gets you there. Barring a recession, Fairfax is going to roll it's bonds at higher yields and be pulling in something like $400M just in coupon income as long as the Fed keeps hiking rates. 10-12x investment earnings without considering insurance at all is pretty attractive. I would love to see another $500M in repurchases this year.