Just purchased more FFH today

[Guest 50centdollars]

http://canadianinsider.com/node/7?ticker=BB

 

Buying more BB shares the last few days

[vinod1]

As I see it, FFH simply cannot be but right… Not only, the higher this market goes, the more correct FFH will be proven in the end.

Gio

 

Gio,

 

For me, for FFH to be "right" on the hedges, S&P 500 would have to fall significantly below (say 20% or more) the level at which they hedged (~1060). This would imply S&P 500 to go down to about the 800 level.

 

What is your criteria for FFH to be right on the hedges?

 

I say this not to disrespect Watsa in any way. They got 3 big macro calls right (Japan 1989, Tech bubble in 2000 and 2008 crisis). Even if they got this wrong, that would make 3 macro calls right out of 4. That is a pretty good ratio on such complex macro events.

 

Vinod

[gary17]

i think it's too difficult to model the hedges

 

if the S&P starts to drop - it doesn't need to go to 800 - the hedges should start to appreciate?  so therefore FFH shares should worth more.  but nobody knows if the market is factoring the hedges at 0 at the current price or not. 

 

 

[ERICOPOLY]

i think it's too difficult to model the hedges

 

if the S&P starts to drop - it doesn't need to go to 800 - the hedges should start to appreciate?  so therefore FFH shares should worth more.  but nobody knows if the market is factoring the hedges at 0 at the current price or not.

 

 

I don't think so.  The hedges are for providing losses to temper the gains on the the stocks in their portfolio providing gains to temper the losses on the stocks in their portfolio.

 

Potential upside from equities begins after they've dropped the hedges -- until that point, the gains would likely be on the bonds and other things they may have (like potentially the deflation CPI thingies).

[gary17]

Still not sure how to assess this.

 

If their value portfolio is good, maybe a 10% drop doesn't mean a 10% loss for their stocks, but means more than a 10% gain for the hedges (the reduction in losses being more than 10%). Options tend to get ahead of the market.... no?

 

Why can there only be gains when the hedges are off? What if they unload them at different times? Unload when hedges seem ok but keep buying stocks if there's a down market. Is it really that complex? 

[alertmeipp]

I hope you guys don't invest in FFH because of its hedge. FFH will likely go lower if the market goes south, at least for awhile.

[gary17]

I'm thinking of starting a position based on

 

1. FFH (or similar insurance investing operations) can borrow money very, very cheap. I can't get that kind of leverage myself.

 

2. They can buy stuff I can't or don't understand. But I know that they have done ok in the past.

 

3. They appear cheap if we factor in their supposedly 20% cagr...

 

4. I like the berry exposure.

[original mungerville]

Dazel,

 

I think you are right. I have just finished listening to Mr. Cooperman on Bloomberg… I simply cannot buy into the bull argument… I don’t think it is because I am a pessimistic person… My nature is just the opposite… Would I be (or at least try to be) an entrepreneur otherwise? I guess not! Instead, it is because the bull argument imo lacks logical substance… Bullish forecasters always talk about earnings… ttm earnings… To say the market is “fairly valued”… But, truly, I don’t understand… If you look at Price / Sales, Market Cap / GDP, Q Ratio, and Price / Adjusted Earnings, those 4 measures not only have the best long term track record for predicting future market returns on a 10 year basis, but they also point at almost the same exact overvaluation for the market right now (or at least before this “healthy correction” of 5%... who would define a 5% move a correction?!): that is to say in 10 years the market will be little changed, if not at all. Now, this is imo what truly matters! Forget all the rest! A market that will be little changed 10 years from now… Who really think it will be an horizontal line for the next 10 years? No one, I hope. As I see it, FFH simply cannot be but right… Not only, the higher this market goes, the more correct FFH will be proven in the end. Of course this will take 10 years to play itself out… and in the meantime FFH stock price could fluctuate, even wildly.

 

Gio

 

Gio,

 

I agree with you completely. Stocks are far too high. If the only reason to buy stocks is that bonds and cash will get eroded away by inflation, that argument works for a little while but can not work for too much longer as stock valuations relative to tangible book get larger and larger. As stock valuations are more and more divorced from what it costs to start a business (ie book value), that whole relative to bonds and cash argument breaks down as cash will be used to start competing businesses and earnings margins will get eroded. On every fundamental measure, stocks are way too high in aggregate. Doesn't mean there are not things to buy, but we should be prepared for a 30-40% or more swift market correction that can happen at any time. I don't want to say more than 40% because Yellen will step in far before that and send silver prices to the moon.

[Guest JoelS]

If you look at the 2013 3Q Interim report, pg 63, you find that the portfolio of hedges states notional amounts:

 

- 3.1bn Russell 2000

- 1.6bn Individual equities

- 400mn S&P500

- 200mn S&P/TSX 60

- 140mn Other indices

 

As you can see, the hedges are primarily structured around the Russell 2000, and not the S&P 500. This is an important distinction, since it is the Russell 2000 that is arguably overvalued, while some valuation measures find the s&p500 within an acceptable range. In a recent interview on CNBC posted by another member, Joel Greenblatt's research found that the Russell 2000 "has been cheaper 95% of the time over the last several decades, and when it's been here in the past, the year forward return has actually been a negative 3%. Large caps have better prospects than small caps"

 

http://video.cnbc.com/gallery/?video=3000238465&play=1

 

So despite losing billions on the hedges to date, it is quite possible that the past unfavourable divergence between Fairfax's equity holdings and the equity hedges as a whole could prove favourable in the future. In fact, as Dazel pointed out, FFH's large holdings (BIR, Blackberry, Resolute) have outdone the indices, so a reversal may have already taken place.

 

As a strategy from 2010, the hedges were a failure. As a strategy from 2014, only time will tell.

 

Cheers

[gary17]

speaking of deflation

do we have inflation?

i live in vancouver, bc.... aside from gas and real estate, specialized labour and eating out at restaurants, the price of just about everything else has stayed the same if not less than it was 10 years ago

 

cars - got cheaper

clothing - cheaper

computer - got cheaper

plane ticket - cheaper

digital camera - cheaper

electricity - same

 

i should add to my surprise my cell phone bill has gone from $25 in school to $85 now in 8 years.  and TV/internet bill was $75 in 2008 and is now $150....

 

[Guest valueInv]

speaking of deflation

do we have inflation?

i live in vancouver, bc.... aside from gas and real estate, specialized labour and eating out at restaurants, the price of just about everything else has stayed the same if not less than it was 10 years ago

 

cars - got cheaper

clothing - cheaper

computer - got cheaper

plane ticket - cheaper

digital camera - cheaper

electricity - same

 

i should add to my surprise my cell phone bill has gone from $25 in school to $85 now in 8 years.  and TV/internet bill was $75 in 2008 and is now $150....

 

Try moving to the Silicon Valley.

[giofranchi]

As I see it, FFH simply cannot be but right… Not only, the higher this market goes, the more correct FFH will be proven in the end.

Gio

 

Gio,

 

For me, for FFH to be "right" on the hedges, S&P 500 would have to fall significantly below (say 20% or more) the level at which they hedged (~1060). This would imply S&P 500 to go down to about the 800 level.

 

What is your criteria for FFH to be right on the hedges?

 

I say this not to disrespect Watsa in any way. They got 3 big macro calls right (Japan 1989, Tech bubble in 2000 and 2008 crisis). Even if they got this wrong, that would make 3 macro calls right out of 4. That is a pretty good ratio on such complex macro events.

 

Vinod

 

Hi Vinod,

First of all the great majority of FFH’s equity hedges are on the Russell2000, not the S&P500. And small caps are much more expensive than large caps: before the recent “correction” small caps according to GMO were priced to deliver a negative –4.9% real annual return over the next 7 years… Large caps –1.7%…

But that’s not really my point. I am not trying to defend an investment in FFH made 3 years ago… Instead, I am strongly advocating an investment in FFH today. As a new shareholder of FFH you absolutely don’t care if FFH will be right on its equity hedges in "absolute terms"… You won’t bear the cost of past protection and conservative behavior anymore! Instead, you are getting protection now! Therefore, let me reformulate: it is not that FFH will surely be right, but that FFH will surely be right for you as a new shareholder! I just don’t see how it could be otherwise…

That’s why I am only hoping to see another leg down in its share price, after FFH discloses 2013 full year results on February 14, 2014… It would be a great chance to average down! ;)

 

Gio

 

[giofranchi]

If you look at the 2013 3Q Interim report, pg 63, you find that the portfolio of hedges states notional amounts:

 

- 3.1bn Russell 2000

- 1.6bn Individual equities

- 400mn S&P500

- 200mn S&P/TSX 60

- 140mn Other indices

 

As you can see, the hedges are primarily structured around the Russell 2000, and not the S&P 500. This is an important distinction, since it is the Russell 2000 that is arguably overvalued, while some valuation measures find the s&p500 within an acceptable range. In a recent interview on CNBC posted by another member, Joel Greenblatt's research found that the Russell 2000 "has been cheaper 95% of the time over the last several decades, and when it's been here in the past, the year forward return has actually been a negative 3%. Large caps have better prospects than small caps"

 

http://video.cnbc.com/gallery/?video=3000238465&play=1

 

So despite losing billions on the hedges to date, it is quite possible that the past unfavourable divergence between Fairfax's equity holdings and the equity hedges as a whole could prove favourable in the future. In fact, as Dazel pointed out, FFH's large holdings (BIR, Blackberry, Resolute) have outdone the indices, so a reversal may have already taken place.

 

As a strategy from 2010, the hedges were a failure. As a strategy from 2014, only time will tell.

 

Cheers

 

Well, JoelS said it much better than I did! ;)

Welcome to the board!! :)

 

Cheers,

 

Gio

 

[james22]

...we should be prepared for a 30-40% or more swift market correction that can happen at any time. I don't want to say more than 40% because Yellen will step in far before that and send silver prices to the moon.

 

It's the more than 40% correction I like FRFHF for.

 

...I keep thinking about this all the time, so Ben Graham was reflecting in the ‘30s and he writes, if you were not bearish, if you're not concerned about the economy in 1925, not in 1927, 28, 29, but in 1925, there was only a 1/100 chance that you survived the depression, because what'd you have looked at was if you were not bearish in 1925, you'd have seen the crash in 1929, drop 50%, and you'd have come right in and thought of it as an opportunity, because the Dow Jones dropped from 400 to 200, went back up to 300, and the second leg after that was a killer, dropping about 90%!!

 

http://www.gurufocus.com/news/146628/gurufocus-interview-with-fairfax-ceo-prem-watsa

[Guest Dazel]

 

There is a discrepancy in the market share price because of misunderstanding of Fairfax currency situation....as part of their short bet (hedging) has been to hold and invest U.S dollars (euros as well) and accumulate Canadian dollar debt and preferred debt. They are being painted in the same light as other Canadian companies however, they report in U.S dollars and have structured their assets accordingly. When you are a leveraged structure like they are.... moves of even small amounts are huge to the equity of the company.

This was a negative when the investing world turned on their Blackberry investment. Which will do very well with the after  tax downside not near where people had it...

 

They are missing the opposite effect on movement and yield on their very levered bond holdings...I can tell you what the movement is on their bond portfolio...It had the best January return since 2008. I will wait for the paper loss for 2013 to scare people out of their shares...to give you where I think they are for 2014. It's a hell of start to the year!

[Guest Dazel]

 

I would also wager that Fairfax moved a lot of their cash holdings into more long dated U.S Treasuries...higher yield on their portfolio and possible capital gains while everyone was dumping them in the fall. I have seen this 5 or 6 times since 2000. Brian Bradstreet and his team are the "best" bond guys in the world....it's not even close. You have to love having great management teams their is nothing like it in business.

 

Dazel.

 

[giofranchi]

I will wait for the paper loss for 2013 to scare people out of their shares...to give you where I think they are for 2014. It's a hell of start to the year!

 

Dazel,

 

that’s exactly my point too! And I am ready to buy a lot more! ;)

 

Gio

 

[Uccmal]

i think it's too difficult to model the hedges

 

if the S&P starts to drop - it doesn't need to go to 800 - the hedges should start to appreciate?  so therefore FFH shares should worth more.  but nobody knows if the market is factoring the hedges at 0 at the current price or not.

 

 

I don't think so.  The hedges are for providing losses to temper the gains on the the stocks in their portfolio providing gains to temper the losses on the stocks in their portfolio.

 

Potential upside from equities begins after they've dropped the hedges -- until that point, the gains would likely be on the bonds and other things they may have (like potentially the deflation CPI thingies).

 

That was good.  Agree about the upside being muted for now.

 

Still not sure how to assess this.

 

If their value portfolio is good, maybe a 10% drop doesn't mean a 10% loss for their stocks, but means more than a 10% gain for the hedges (the reduction in losses being more than 10%). Options tend to get ahead of the market.... no?

 

Why can there only be gains when the hedges are off? What if they unload them at different times? Unload when hedges seem ok but keep buying stocks if there's a down market. Is it really that complex? 

 

Think about the holdings in the background.  In a 40% loss scenario needed to bring the hedges to break even (give or take) BKIR, BB, and RFP are gojng to drop alot more than 40%.  I would wager 90% on RFP and BB.

 

add to this:  In the last major market drop FFh dropped 1/3 after reporting huge earnings. 

 

Agree with Dazel.  FFh has the best bond group going. 

[giofranchi]

Think about the holdings in the background.  In a 40% loss scenario needed to bring the hedges to break even (give or take) BKIR, BB, and RFP are gojng to drop alot more than 40%.  I would wager 90% on RFP and BB.

 

Of course, if you think their stock holdings will do worse than the Russell2000 their whole strategy since the end of 2010 is the perfect recipe for losing money…

 

I guess what Mr. Watsa had in mind was to settle for the decent profit their alpha in stock selection would guarantee FFH, in a period of both high debt burdens all around the developed world and high general asset prices...

 

By alpha I mean he probably had in mind FFH’s stocks portfolio would outperform the Russell2000 BOTH in a bull market AND in a bear market… If to outperform the Russell2000 in a bull market is no easy thing to do, I am much more confident FFH’s stocks portfolio might succeed in outperforming that index in a bear market (or even in a market that proceeds sideways for a little while).

 

Gio

 

[Uccmal]

gio, Your faith is not rational given evidence from the last 12 years or.  I will elaborate a little later

 

 

 

[giofranchi]

gio, Your faith is not rational given evidence from the last 12 years or.  I will elaborate a little later

 

Al,

I don’t think I would call my point of view “faith in FFH”… I think almost any stocks portfolio assembled with a “value philosophy” is most probably bound to underperform a small-cap index in an up market, while outperforming the same index in a down or flat market…

Anyway, I always read what you have to say with the greatest interest! :)

 

Gio

 

[Guest Dazel]

 

 

I would argue as I have for many years..that it is the bond side that has contributed the largest increase in equity from gains and income. They are a much much larger allocation in Fairfax's capital structure...they are also lumpy like the equity returns...but together the are a phenomenal source of income to Fairfax.

We would not all be interested if Fairfax had been right for the last 3 years...the stock would be $700-$800 a share.

 

Dazel.

[vinod1]

Hi Vinod,

First of all the great majority of FFH’s equity hedges are on the Russell2000, not the S&P500. And small caps are much more expensive than large caps: before the recent “correction” small caps according to GMO were priced to deliver a negative –4.9% real annual return over the next 7 years… Large caps –1.7%…

But that’s not really my point. I am not trying to defend an investment in FFH made 3 years ago… Instead, I am strongly advocating an investment in FFH today. As a new shareholder of FFH you absolutely don’t care if FFH will be right on its equity hedges in "absolute terms"… You won’t bear the cost of past protection and conservative behavior anymore! Instead, you are getting protection now! Therefore, let me reformulate: it is not that FFH will surely be right, but that FFH will surely be right for you as a new shareholder! I just don’t see how it could be otherwise…

That’s why I am only hoping to see another leg down in its share price, after FFH discloses 2013 full year results on February 14, 2014… It would be a great chance to average down! ;)

 

Gio

 

Gio,

 

Makes sense.

 

Thanks for pointing out that the hedges were on Russell 2000. Let us hope the markets cooperate in providing an opportunity.

 

Vinod

[gary17]

Still not sure how to assess this.

 

If their value portfolio is good, maybe a 10% drop doesn't mean a 10% loss for their stocks, but means more than a 10% gain for the hedges (the reduction in losses being more than 10%). Options tend to get ahead of the market.... no?

 

Why can there only be gains when the hedges are off? What if they unload them at different times? Unload when hedges seem ok but keep buying stocks if there's a down market. Is it really that complex? 

 

Think about the holdings in the background.  In a 40% loss scenario needed to bring the hedges to break even (give or take) BKIR, BB, and RFP are gojng to drop alot more than 40%.  I would wager 90% on RFP and BB.

 

add to this:  In the last major market drop FFh dropped 1/3 after reporting huge earnings. 

 

Agree with Dazel.  FFh has the best bond group going.

 

That's fine... But why wouldnt he buy more bkir and bb if they drop 40%?  I think in the Long term, this will work in fairfax favor. 

 

 

[Uccmal]

Here is the problem:  I chose the period 2002 to the end of 2012 which gives the greatest benefit to FFH.  Their CAGR is 12.8% over the last 11 years.  Above mediocre but not stellar.  That period includes bond gains, the huge CDS gains, the gains from H&R etc. 

 

The stock price mirrors these returns and the P/b in 2002/2003 is the same as today. 

 

I made virtually all of my money from FFh on the Leaps, Northbridge, and ORH,  almost none from the common. 

 

I see no way that FFH is going to return better than 13% CAGR going forward, for the long term. 

 

I have never understood why they didn't protect the equity hedges with upside equity hedges at the time, in case the opposite happened, which it did.  They could have bought upside protection at say S&p 500, 1600, for virtually nothing, even 3 years ago.

 

In terms of their large business/stock holdings.  In a nasty bear BKIR, BB, and RFP would go to cents on their present day dollar.  There is no way that in a recession these three big positions wouldn't get slaughtered.  So, while the hedges might come to break even, their holdings would get killed.  Similarly, The insurers would get killed, except in a deflation.  The Wierd stable of private investments would suffer dramatically. 

 

 

  FFh stock would get killed, even though they would likely book huge bond gains. 

 

The hedges might generate a billion or two to invest in regained losses. 

 

If the status quo continues and the bull market persists (see 1973-74 discussion) with mild corrections we have the losses on the hedges being offset by gains from equities.  The insurers break more or less even, as they always have, and bonds do their thing.  I just dont see alt of near or long term upside. 

 

All that said 13% return is better than mediocre, but hardly stellar.