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3rd Quarter results


Stone19
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Right on the freakin' dot! Net income of $451M for the quarter.

 

Looked up the pricing on some inflation caps and floors over the quarter. Chose 5 different floors with a handful of different brokers. Most of the floors are up about 60-70% in value over the quarter. Assuming Fairfax has similar contracts (their's have more duration, so probably did a little better?), and that the deflation swaps are priced similarly, we will probably see about $150-200M from those.

 

That's roughly inline with my prior estimates that were ballparking the returns, so I think i'll stick with my $400-450M quarter. Wouldn't be surprised to see them hit $500M though if the insurance and bonds did slightly better than expected.

 

Also, looks like they provide some more information on how their shorts are positioned. Dazel was right - they're short 1.6B in notional of individual name TRS. No TRS were closed during the 3rd quarter and the realized gain seen will simply be cash-settlements that could be reversed in future quarters.

 

 

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TCC,

 

Nice work!!!! well done.

 

 

Almost $800m in equity unrealized losses....yikes....CPI contracts did not rise as much as I thought...and bonds were light too!

 

good quarter just not as "nearly" as good as I thought!

 

Dazel

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The fact that no one on the board or in the public seems to care what Fairfax is doing bodes well. Maybe we will have to get Bill Ackman in to split up the company! Kidding....anyone who knows the Fairfax story knows the sharks...and he is one of them...what goes around comes around and they will eat each other eventually...I certainly would not want to be in the water with him when its his turn. SAC is gone in name only.

 

Where I have been wrong....

 

My error in the latest quarter...is in the terrible...Fairfax common equity investment (outside of buying insurance  related investments which have been good)  has been the worst of anyone I have seen over the last 5 years in hindsight...they have to be in the bottom low 5% quartile with hedges added. I say this because bonds and the insurance companies have been top quartile  operations and acquisitions have been excellent. They are firing at about 60%...which means the upside is significant.

 

I think it is time for a rethink on their common equity investing because of their size...they have never been here before and their blow ups are in turn around situations which they are adding huge sums of capital to average down in...

 

if they used the same strategy with brands ala Mr.  Buffett they would be buying down on mistakes...that do not have the possibility of a 0 or very little salvageable capital outcome...eurobank, Resolute, Blackberry etc...

 

American Express for example.....may fall another 50 to 60% in a very extreme situation....they would be able to buy it down..because of their advantage of the float as Berkshire has done in the past. In Value turn around situations they are looking at all or nothing investments that risk large amount of capital...which require large hedges.

 

Mr. Buffett had to change with size...Fairfax has to as well...I would give Brian Bradstreet more leeway in the common stock portfolio to look at cash yields in large branded companies for dividend yields....of course they will still invest in value ($1 for .50)...but to a smaller degree on a huge portfolio.

 

In order for Fairfax to move the investing needle they have to be invested....yes I believe the CPI investment will turn out but I am surprised that they did not add to common equityor bond exposure during the pull back when they have massive hedges in place...$7b cash and 100% hedges and you do not take advantage of an equity market ull back of 20% for most stocks? Very surprised....the new Fairfax has be come a cultivate the losers and hedge because the sky is falling...well it fell in August and September and they did nothing.

 

disappointed...

 

Dazel

 

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The fact that no one on the board or in the public seems to care what Fairfax is doing bodes well. Maybe we will have to get Bill Ackman in to split up the company! Kidding....anyone who knows the Fairfax story knows the sharks...and he is one of them...what goes around comes around and they will eat each other eventually...I certainly would not want to be in the water with him when its his turn. SAC is gone in name only.

 

Why such a poor opinion of Ackman?

 

I think it is time for a rethink on their common equity investing because of their size...they have never been here before and their blow ups are in turn around situations which they are adding huge sums of capital to average down in...

 

if they used the same strategy with brands ala Mr.  Buffett they would be buying down on mistakes...that do not have the possibility of a 0 or very little salvageable capital outcome...eurobank, Resolute, Blackberry etc...

 

American Express for example.....may fall another 50 to 60% in a very extreme situation....they would be able to buy it down..because of their advantage of the float as Berkshire has done in the past. In Value turn around situations they are looking at all or nothing investments that risk large amount of capital...which require large hedges.

 

Mr. Buffett had to change with size...Fairfax has to as well...I would give Brian Bradstreet more leeway in the common stock portfolio to look at cash yields in large branded companies for dividend yields....of course they will still invest in value ($1 for .50)...but to a smaller degree on a huge portfolio.

 

In order for Fairfax to move the investing needle they have to be invested....yes I believe the CPI investment will turn out but I am surprised that they did not add to common equityor bond exposure during the pull back when they have massive hedges in place...$7b cash and 100% hedges and you do not take advantage of an equity market ull back of 20% for most stocks? Very surprised....the new Fairfax has be come a cultivate the losers and hedge because the sky is falling...well it fell in August and September and they did nothing.

 

With this I agree 100%.

 

Cheers,

 

Gio

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disappointed...

 

Dazel

 

I am also quite disappointed in their equity picks. It does seem like they want to do all or nothing investments. Thankfully insurance businesses are doing well and generally doing better than in the past, so they are getting it right in a rather difficult business - one where there is little brand power.

 

As for future outlook - would it be wrong to say that Prem Watsa and other leaders in Fairfax

  • have followed a process that has worked for them - in equities, bonds, insurance and company culture
  • are smart enough to want to learn from their own and others' mistakes
  • are ethical in their dealings - path to sustained greatness and respect from others (he does not need more money in a hurry based on lack of ostentatious lifestyle)

If the above statements are not wrong, then perhaps reasonable to expect them to learn and adapt?

 

They sure have a great platform - appear rather liquid and financially sound, protected against stock market declines and deflationary forces, are structurally able to play the long term game and at this point the market has low expectations from them.

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From Q3 Interim report page 12:

 

During the third quarter and first nine months of 2015, the company closed out a portion of its other equity index total return swaps with an original notional amount of nil and $100.0 respectively.

 

Which short position did they close exactly? What was their performance on the position and reason for closing that position? Seems like there short thesis is still intact and they didn't not buy any new positions so it makes me wonder why they chose to close this position.

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From Q3 Interim report page 12:

 

During the third quarter and first nine months of 2015, the company closed out a portion of its other equity index total return swaps with an original notional amount of nil and $100.0 respectively.

 

Which short position did they close exactly? What was their performance on the position and reason for closing that position? Seems like there short thesis is still intact and they didn't not buy any new positions so it makes me wonder why they chose to close this position.

 

Just want to make sure that you're clear that they didn't close any shorts in the Q4 and only closed 100M worth sometime this year. I don't know exactly what it was, but in the past they said that they realized losses on some shorts and reduced exposure to better match the long-portfolio. I do wish there was more information on the individual name TRS - $1.6B isn't an insignificant sum of money and it would be nice to know a general view of the exposure (# of companies, breakdown of industry, etc.).

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We knew their long equity portfolio is a disaster, but I was pleasantly surprised that they managed to break even with their hedges. So, all in all a decent quarter compared to expectations due to strong insurance activity and good hedges.

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...$7b cash and 100% hedges and you do not take advantage of an equity market ull back of 20% for most stocks? Very surprised....the new Fairfax has be come a cultivate the losers and hedge because the sky is falling...well it fell in August and September and they did nothing.

 

20% "pull back" ≠ sky falling

 

I own Fairfax as a hedge against a 50% crash and so give them full credit for their conviction.

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From Q3 Interim report page 12:

 

During the third quarter and first nine months of 2015, the company closed out a portion of its other equity index total return swaps with an original notional amount of nil and $100.0 respectively.

 

Which short position did they close exactly? What was their performance on the position and reason for closing that position? Seems like there short thesis is still intact and they didn't not buy any new positions so it makes me wonder why they chose to close this position.

 

As I understood it, on the conference call, Prem was asked a question about closing out the shorts.  Some new shorts were added that were specific to purchasing Brit and integrating their investment portfolio.  Selling stocks takes time, so to protect against any short term moves in the market, FFH hedged Brit's equity portfolio and as they sold off the equities, they closed out the short hedges that were written against those stocks/indexes. 

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James 22,

 

How many 50% crash's have happened in the last 100 years? Energy dropped well over 50% across the board...more like 70%. Prem is buying now....why not during the crash? They have lost $6b in hedge losses...had they closed them out during the two 20% drops in 2011...and 2015...they would have cut them in half.

and guess what they could re hedge now at a better price...That is two trades 6 years hardly day trading! When we moved from the 80's to the 200's and 300's we could be assured that Fairfax would trade the bond portfolio with huge capital gains...

 

I am their biggest fan...but they have looked unintelligent in the markets for quite awhile...the Markel's and Berkshire have not they have prospered.. its a long game but wow they are getting smoked by their peers for some reason.

 

They were all over china yet they did not make any money on the fall of commodities from what I see and they own Resolute and SD? I am miffed that they did nothing from June 30th to Sept 30th...is Prem all right? Bond prices plummeted in July and they did not buy...and then stock prices plunged and they did not cover shorts or buy...WTF?

 

I hope they right the ship...but I have not seen them look this bad before for this long. I have been a cheer leader here for a long time and I made a lot of money with Fairfax to which I am most grateful...but It's tough to defend them for this amount of time....I will look at deflation hedges on my own.

 

 

Dazel

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I am miffed that they did nothing from June 30th to Sept 30th...is Prem all right? Bond prices plummeted in July and they did not buy...and then stock prices plunged and they did not cover shorts or buy...WTF?

 

 

It's not that FFH senior management did nothing during the summer...rather, the top brass was preoccupied with changing the status of the damned multiple voting shares.  Why focus on making money and keeping minority shareholders happy when you can simply piss around and usurp their voting rights?

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I don't think that's fair at all. I think the answer is far more simple than that. Fairfax wasn't buying equities, and was near fully hedged in 2014, so why would they be purchasing shares that were simply back to year end 2014 levels?

 

I wasn't buying back in August/September. I did close out some puts and switch them to straight shorts on the S&P since volatility went so high, but I didn't buy anything. That's because I didnt find much value at the end of 2014 so I wasn't finding much value in August/September.

 

I think it's odd to have expected them to be buying back after such a minor correction. It was barely a 10% correction. Fear of a 10% correction is not why they've been 100% equity hedged.

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TCC,

 

A crash describes Resolute, Blackberry, SD, Eurobank they are all down more than 80%...not interested in what you did...unless I can buy it! Fair is what you have done...over the long term I agree...Fairfax is great...they have sucked at picking stocks and hedging...over the last half decade.

 

It may go down as the worst short in history.

 

 

 

 

 

 

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.they have sucked at picking stocks and hedging...over the last half decade

 

I share your frustration but that statement is a little extreme. Bank of Ireland has been a great and material investment. However, If they hadn't fixed the insurance companies I would have been long gone, but they seem to be running that part of the business very successfully now.  I believe their over all positioning will be roughly right but their timing was very early. It sucked, has been priced in and the more interesting line of thinking is what happens going forwards

 

Cheers

Nwoodman

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I think one of the worst things that can happen to an investor is to make one or two large macro bets and win, because then you think you can do it repeatedly.  I think calling what Fairfax has done the last 5 years or so as "hedging" is somewhat of a mischaracterization.  It seems they could have actually hedged with much less in the way of short bets.  What Fairfax has done is a combination of hedging and a large macro bet on a stock market crash. 

 

As far as still arguing that they were early, perhaps that argument could have been made 2 years ago, but when do you admit that they were not early, but just plain wrong?  Aren't we going on about 5 years since they started hedging?  Even if the stock market crashed tomorrow, I would still say they were wrong.

 

Also, in 2011 Berkshire Hathaway was trading at below book value.  Presumably BRK was on Fairfax's radar screen.  They should have backed up the truck.  But instead they instituted full equity hedges.  As a value investor who has made a career out of copying Buffett, how could you miss BRK selling below book value?  I have only been following Fairfax since about 2010, so admittedly I have missed some of their macro investing wizardry of the past, but based on what I have seen they are very subpar equity investors (to the point of being lousy).  And unfortunately it seems that consistency bias and hubris are preventing them from changing their minds and instituting a more rational equity investment policy.

 

Having said all of the above, I would consider initiating a position in FFH in the near future, as I think they are running a great insurance operation, and that they likely will improve their investment operation going forward.  I think losing a big macro bet like this is good for them in the long term.  I also think their losses in Resolute, SD, Blackberry, etc. are good for them in the long term.  I tend to think their entire risk profile has been screwed up - they buy stocks like the above which have significant downside risk and then put on full equity hedges, where if they had made less symmetric stock market investments. buying things with much less downside exposure (like buying BRK or solid businesses selling below tangible book in 2011) they would have not needed to hedge at all and would be doing much better.

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I am holding Fairfax to the highest standard as I see them as the top investors in the world. They have had success in Bank of Ireland and Ridley was brilliant...but on a $30 billion portfolio the performance is not even close to their standards. That seems strange to me...as I am used to them knocking the ball out of the park.

 

simply frustrated and asking the question why?

 

Dazel

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I am holding Fairfax to the highest standard as I see them as the top investors in the world. They have had success in Bank of Ireland and Ridley was brilliant...but on a $30 billion portfolio the performance is not even close to their standards. That seems strange to me...as I am used to them knocking the ball out of the park.

 

simply frustrated and asking the question why?

 

Dazel

 

I have thought about this quite a bit, and I really tend to think that sometimes great investors get bored with hitting singles, so instead they start swinging for doubles, triples and home runs.  Buffett has commented something to the effect that people have a perverse nature to want to make things harder than they need to be.  It is almost as if Watsa & Co. have gotten tired of or bored with stepping over one foot hurdles, and through some combination of overconfidence in their abilities, hubris and need for a challenge and intellectual stimulation they started trying to jump over 4 foot hurdles, perhaps without even realizing it, and with some disastrous results (e.g., SD). 

 

In American college football your win-loss record is hugely important, but you also understandably get credit for "strength of schedule"; but there is no such equivalent in investing.  A money manager can't really tell his investors / shareholders that "Yeah I had a lousy record, but hey I tackled some tough investments."  One thing that I have learned the past few years is what Munger has said:  Just try hard to not be stupid.  Hopefully Fairfax will turn things around.

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I suspect it is their DNA (Prem pretty much said so at the AGM) to be Graham type value investors - more than Fisher type.  One might wish for them to change their style.  It is hard to change DNA. Despite their challenges with common stocks - book value is growing.  Just not at the 15% they and we hope for.

 

What I like:  1) They've dramatically expanded their insurance foot print in the west and globally. Asian insurance is growing like FFH in the early days.  There is plenty of statutory capital reserve to nearly double their premiums written in the next hard market - that will likely lead to the stock doubling (look back at the last hard market about 10 years ago).  2)  They recognize the world is still extremely highly leveraged.  A recession will come.  Central banks have little more they can do beyond what is now being done.  I sleep well at night knowing that the chance of permanent loss of capital is very low with Fairfax. Stocks are protected. There is strong protection against a big macro deflation event - which could come with a recession.

 

FFH is the an anchor in my portfolio. With their downside protection, other risks I take are effectively hedged.  They will win again.  The timing is the question.

 

 

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To be clear....Fairfax strength is it's insurance business...the acquisitions made were excellent and this part of the business is night and

day compared to decade ago...that what has saved them over the last half decade...it used to be the other way around. We would rather have it that way for sure. However, the only way for Fairfax to grow in the future is through their investment portfolio...which was the strength and it is now their weakness. If this happens like it has at Berkshire and Markel the sky is the limit which is what I have been cheering about for sometime.

Unfortunately we are stuck in two themes...massive hedge losses and large losses in Resolute, Blackberry, Eurobank, SD etc...and it continues because we know that they did not cover any shorts and the Oct was the best month for stocks since 2011. Resolute, Blackberry, SD and Eurobank did not rebound they actually fell and the short postitio hedges got killed in the month.

 

its like playing short handed.

 

Dazel

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From 2000 until present, book value grew from about 150 to 400 USD/share (this quarter).  That's a compounding rate, over nearly 16 years, of 6+%. The stock currently trades at about 1.25 book value.

 

Having said that - they tend to have burst of gains in book value.  Not much has happened since 2009.

 

Below is book value divided into the "7 lean years" when they were cleaning up acquisition troubles and then the subsequent years with "normalized operations".

 

2000 148.14

2001 117.03

2002 125.25

2003 163.70

2004 162.76

2005 137.50

2006 150.16

 

2007 230.01

2008 278.28

2009 369.80

2010 376.33

2011 364.55

2012 378.10

2013 339.00

2014 394.83

2015 q3 (399.65)

 

Their target is 15% return on equity.  Since the lean years passed (the second set of book values starting with 2007) they have hit about 10%. However, essentially all that return occurred in 2007-2009 from their bet agains mortgage backed securities.

 

If they were hitting their 15% book value growth, it would now be approaching 550 USD.

 

Time will tell if there is another "catch up" burst in book value growth.

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