3rd Quarter results

[giofranchi]

My point is, if you see FFH as a portfolio diversifier, I can understand but as a cash substitute I am not so sure.

 

Great opportunities might come even if a general market crash doesn’t happen. Think about the recent rout in the pharma and biotech industry. If you hold a company that is very diversified and very well hedged against the gyrations of the stock market, you can sell it when some great opportunities present themselves.

I agree with Eric that in a general market crash FFH might not prove to be a good cash equivalent, but in almost any other circumstance I think it could serve that purpose quite satisfactorily.

In fact I would say FFH will be a better substitute for cash, if no general market crash comes our way. If, instead, we will continue to witness crashes circumscribed to specific sectors (energy, biotech, whichever will be next), I guess FFH will be a fantastic substitute for cash: because, as Eric has pointed out, the effect of a slow compounding machine will be added to the great optionality cash offers.

 

Cheers,

 

Gio 

 

[cwericb]

My two cents worth.

 

A few reasons why I have held FFH since 2008:

 

I am not nearly as smart an investor as those running FFH nor as astute as many on this board, so I let Fairfax invest for me. They may make mistakes, but I am sure they have a lot more expertise and access to information on the companies they buy than I do.

 

Fairfax has the ability to force some of the companies they invest in to become better companies, I do not have that ability. Eg, The Brick, Blackberry (a work in progress), etc where they can plug in a manager who can effect changes.

 

I do not have the expertise to hedge, FFH does that for me.

 

It is my belief that Fairfax is building a strong, world-wide insurance company that will prosper well into the future. Everyone talks about their investments, but little is said about their growth as an insurance company over the last half dozen years.

 

It is probably the only stock I hold that I really do not worry about even when it drops. It may not do as well as many, but if the crap hits the fan, of course share price may drop but I don’t think it will suffer as much as my other holdings.

 

November 6/13 their share price was about $440 CDN, Nov 6/14 their share price was about $540 CDN and today price is about $640 CDN. I find it difficult to be disappointed with those numbers.

 

eb

[vinod1]

My point is, if you see FFH as a portfolio diversifier, I can understand but as a cash substitute I am not so sure.

 

Great opportunities might come even if a general market crash doesn’t happen. Think about the recent rout in the pharma and biotech industry. If you hold a company that is very diversified and very well hedged against the gyrations of the stock market, you can sell it when some great opportunities present themselves.

I agree with Eric that in a general market crash FFH might not prove to be a good cash equivalent, but in almost any other circumstance I think it could serve that purpose quite satisfactorily.

In fact I would say FFH will be a better substitute for cash, if no general market crash comes our way. If, instead, we will continue to witness crashes circumscribed to specific sectors (energy, biotech, whichever will be next), I guess FFH will be a fantastic substitute for cash: because, as Eric has pointed out, the effect of a slow compounding machine will be added to the great optionality cash offers.

 

Cheers,

 

Gio

 

I am a lot more paranoid than you about the risks to FFH (inflation, catastrophic losses, etc) to consider it as a cash equivalent.

 

Vinod

[ERICOPOLY]

It's more like if the crash happens several years away, then FFH is better than cash quite likely.  But if it happens next quarter (or in 18 months) before any significantly offsetting low-rate compounding, then I think cash is way better.

 

+1

 

Then what?

 

1) You are not worried about a crash at all and you are 100% invested,

2) You are worried about a crash that might come soon and you hold cash,

3) You are worried about a crash that might come some years from now and you hold FFH,

4) You are worried about a crash, but you don’t know when it might come, and you hold both cash and FFH.

 

Which of the 4 cases? Is there a fifth?

 

Cheers,

 

Gio

 

5)  I get worried when rapid P/B expansion in FFH can be followed by a reversal, crash or no crash. 

 

That rapid expansion late last year overwhelmed me with fear of a reversal.  I just don't feel an overwhelming amount of greed to stick around for a potential reversal.  The prior 4 or 5 years they had only compounding book value at something like 2% or 3% annually.  That kind of backwards looking performance can make a momentum player bored, in which event the valuation can sag again.  It looked like some sort of momentum stock how it jumped up so quickly.

 

[Phoenix01]

Since nobody controls the price, for me it all comes down to book value growth per share.  FFH has one of the most amazing track record for compounding BV, even though it is in a lumpy way.

 

FFH has the following that can move BV:

1) Insurance Companies - These are making reasonable returns in this soft market and will make big returns when the market hardens

2) Bond portfolio - if things deteriorate, these go up.

3) Equity position (hedged)

4) CPI Derivatives

 

In a risk on environment (such as we have seen for several years) the insurance markets are soft, the bonds do OK, equity positions gains are canceled by hedging losses and CPI derivatives lose value.

 

In a risk off environment, the insurance market hardens, the bonds soar, the equities loses are covered by the hedging gains and CPI derivatives also soar.  This give FFH a ton of cash when the markets are bottoming out.

 

The question is do you think that there will be risk off environment in the future?  If so, then owning FFH is a good idea.

 

When the risk off event will occur and how the FFH price will react is unknowable for me.

[gary17]

i am not sure if the hard  - soft market cycle is simple as "risk on or off" - i thought it has more to do with the overall underwriting environment, which is affected by how many disasters , etc.

 

as the interest rate moves up - do bonds not fall ?  and will that cause a soft or hard market?

[Phoenix01]

When we are in a risk on environment - $$ flows into the insurance industry.  I think Prem referred to this as naive money that will get shaken out in the next hard market.  This happens all the time.  Cats also cause hardening, but so do economic cats.

 

Why do rates have to go up?

[giofranchi]

I am a lot more paranoid than you about the risks to FFH (inflation, catastrophic losses, etc) to consider it as a cash equivalent.

 

Vinod

 

Well, generally cash is a very poor choice in an inflationary environment… Will FFH do even worse?! Maybe, but I don’t see why we should assume that.

Catastrophic losses in their insurance / reinsurance businesses? I agree it is a risk. But luckily enough they seem to have become much better underwriters than they were just a few years ago.

 

Cheers,

 

Gio

 

[giofranchi]

5)  I get worried when rapid P/B expansion in FFH can be followed by a reversal, crash or no crash. 

 

Ok, so do you see too rapid a P/B expansion right now?

 

Cheers,

 

Gio

 

[ERICOPOLY]

The float is worth a lot more in a high rate environment, so there are worse things to worry about.

[ERICOPOLY]

5)  I get worried when rapid P/B expansion in FFH can be followed by a reversal, crash or no crash. 

 

Ok, so do you see too rapid a P/B expansion right now?

 

Cheers,

 

Gio

 

No, I didn't sell it this time for that reason.  I said that I sold it last year for that reason.

 

This time, I see that I've made a 12% return from where I bought it in a couple of months.  I weighed the chances of whether I'd make another quick 10% return or whether it might slip back to where it was.  I couldn't come up with anything convincing either way. 

 

I thought about missing out on 15% a year book value growth, but then I looked at where we are with interest rates and I think about risk to bond prices.  I think about the equity hedges hedging out capital gains.  Bonds could soar further, but I don't feel particularly bullish that they will.

 

I don't know, I'm just not trembling with greed and I have a high tax basis and some capital losses to absorb from selling VRX at a loss.

 

There is nothing really compelling me to own the stock at the moment. 

 

Crash (don't want it)

Muddle through (won't miss out on much)

Devaluation/Revaluation (wash)

Interest rates (if rates were a lot higher the float would be super valuable, but rates aren't a lot higher)

 

The engines that drove the legendary book value growth just seem to be powered down right now.

 

It's great to look at the book value growth over their entire 30 year history, but let's cherry pick a few things about today's environment that make me sad

 

1) long term rates declined significantly over 30 year history. That gave them enormous capital gains.  How many more years of this juice is left?  Maybe, a few, but looking at where we are today with rates I think a lot of it is played out.  They were right for a very long time -- well played, but perhaps played out.  Perhaps not.

2) interest rates were high, and with their huge float leverage, this was sizzling.

3)  capital gains from equity investing -- but they are all hedged away at the present.

 

The reason why the past 5 years have sucked overall are IMO for those missing 3 ingredients that allowed them to smoke the S&P500 over the long term.

 

I feel like the gas tank on long term interest rates engine is getting low, the low interest rates are robbing their float income away, and we're still hedged on equities so nothing spectacular is going to occur (but it could!)

[Uccmal]

I am a lot more paranoid than you about the risks to FFH (inflation, catastrophic losses, etc) to consider it as a cash equivalent.

 

Vinod

 

Well, generally cash is a very poor choice in an inflationary environment… Will FFH do even worse?! Maybe, but I don’t see why we should assume that.

Catastrophic losses in their insurance / reinsurance businesses? I agree it is a risk. But luckily enough they seem to have become much better underwriters than they were just a few years ago.

 

Cheers,

 

Gio

 

 

I would have thought that Insurance would be an awesome business in a deflation.  Take in premiums in todays dollars, and pay them out in fewer future dollars.  It would work until the flip vack to inflation.  To that end I think the deflationary hedges are more of a bet, than a hedge. 

 

In terms of deflation.  I am definitely not seeing it in Canada.  Prices on everything, except maybe technology, are up over the last few years, in part due to the dropping currency, in part due to asset inflation and higher taxation on said assets. 

[Jurgis]

It's great to look at the book value growth over their entire 30 year history, but let's cherry pick a few things about today's environment that make me sad

 

1) long term rates declined significantly over 30 year history. That gave them enormous capital gains.  How many more years of this juice is left?  Maybe, a few, but looking at where we are today with rates I think a lot of it is played out.  They were right for a very long time -- well played, but perhaps played out.  Perhaps not.

2) interest rates were high, and with their huge float leverage, this was sizzling.

3)  capital gains from equity investing -- but they are all hedged away at the present.

 

Agreed, these are important ingredients that might be reasons not to pay much for FFH (and partially MKL - minus point 3) in current environment.

[petec]

It's great to look at the book value growth over their entire 30 year history, but let's cherry pick a few things about today's environment that make me sad

 

1) long term rates declined significantly over 30 year history. That gave them enormous capital gains.  How many more years of this juice is left?  Maybe, a few, but looking at where we are today with rates I think a lot of it is played out.  They were right for a very long time -- well played, but perhaps played out.  Perhaps not.

2) interest rates were high, and with their huge float leverage, this was sizzling.

3)  capital gains from equity investing -- but they are all hedged away at the present.

 

Agreed, these are important ingredients that might be reasons not to pay much for FFH (and partially MKL - minus point 3) in current environment.

 

Doesn't that depend entirely on whether they'll lose money as these conditions reverse?  Let's say we go back to an environment of 5% rates and these companies can get there without losing BV...well, that's going to do wonderful things for their investment income.  So, one needs to look closely at their portfolios.

[giofranchi]

so nothing spectacular is going to occur (but it could!)

 

I agree with all you have said. The fact is I don’t expect anything spectacular to occur holding cash either… But it could! In the case of a crash that comes soon.

 

Cheers,

 

Gio

 

[petec]

 

I would have thought that Insurance would be an awesome business in a deflation.  Take in premiums in todays dollars, and pay them out in fewer future dollars.  It would work until the flip vack to inflation.  To that end I think the deflationary hedges are more of a bet, than a hedge. 

 

I thought the same and have pushed Fairfax quite hard on this topic.  Their research - and as you would expect they looked into this closely - is that it's not true.  They say it's quite hard to unearth clean data from the GD but that from what they can tell premiums fell faster than claims and insurers really suffered.

[Jurgis]

It's great to look at the book value growth over their entire 30 year history, but let's cherry pick a few things about today's environment that make me sad

 

1) long term rates declined significantly over 30 year history. That gave them enormous capital gains.  How many more years of this juice is left?  Maybe, a few, but looking at where we are today with rates I think a lot of it is played out.  They were right for a very long time -- well played, but perhaps played out.  Perhaps not.

2) interest rates were high, and with their huge float leverage, this was sizzling.

3)  capital gains from equity investing -- but they are all hedged away at the present.

 

Agreed, these are important ingredients that might be reasons not to pay much for FFH (and partially MKL - minus point 3) in current environment.

 

Doesn't that depend entirely on whether they'll lose money as these conditions reverse?  Let's say we go back to an environment of 5% rates and these companies can get there without losing BV...well, that's going to do wonderful things for their investment income.  So, one needs to look closely at their portfolios.

 

I thought that you argued that 1 and 2 are not going to reverse anytime soon. And we can't know when (if ever) Fairfax will reverse 3.

 

I'd not make an investment predicated on rates going back to 5%+ anytime soon.

[petec]

It's great to look at the book value growth over their entire 30 year history, but let's cherry pick a few things about today's environment that make me sad

 

1) long term rates declined significantly over 30 year history. That gave them enormous capital gains.  How many more years of this juice is left?  Maybe, a few, but looking at where we are today with rates I think a lot of it is played out.  They were right for a very long time -- well played, but perhaps played out.  Perhaps not.

2) interest rates were high, and with their huge float leverage, this was sizzling.

3)  capital gains from equity investing -- but they are all hedged away at the present.

 

Agreed, these are important ingredients that might be reasons not to pay much for FFH (and partially MKL - minus point 3) in current environment.

 

Doesn't that depend entirely on whether they'll lose money as these conditions reverse?  Let's say we go back to an environment of 5% rates and these companies can get there without losing BV...well, that's going to do wonderful things for their investment income.  So, one needs to look closely at their portfolios.

 

I thought that you argued that 1 and 2 are not going to reverse anytime soon. And we can't know when (if ever) Fairfax will reverse 3.

 

I'd not make an investment predicated on rates going back to 5%+ anytime soon.

 

Nor would I!  And I have no idea when they will.  But, falling rates juiced every single asset class that I can think of, not just insurers.  I don't expect FFH to compound at historical rates, but I don't expect much else to either.

 

What I do think is that FFH is well placed to do OK whatever happens.  If we get deflation, we know they benefit.  If we get inflation, they get to reinvest their float in higher yielding assets as existing investments roll off.  If we get a market crash, their hedges will help.  The one thing they are not well positioned for is an economic acceleration that doesn't create inflation, but I have lots of other holdings that will do fine if that happens.

 

NB my time horizon here is about 30 years and I am mainly focussed on preserving my capital because I don't see a lot of opportunities to grow it.

 

 

 

 

 

[Jurgis]

What I do think is that FFH is well placed to do OK whatever happens.  If we get deflation, we know they benefit.  If we get inflation, they get to reinvest their float in higher yielding assets as existing investments roll off.  If we get a market crash, their hedges will help.  The one thing they are not well positioned for is an economic acceleration that doesn't create inflation, but I have lots of other holdings that will do fine if that happens.

 

NB my time horizon here is about 30 years and I am mainly focussed on preserving my capital because I don't see a lot of opportunities to grow it.

 

If you believe that there are not many opportunities to grow the capital, then FFH is possibly "well placed to do OK whatever happens".

 

My goal is matching or beating the index (but let's not go back to whether this is worthwhile goal). For this FFH may be not well placed in a number of scenarios. :) I do hold a large position of FFH, but I am just not as positive about it as you might be.

[petec]

 

If you believe that there are not many opportunities to grow the capital, then FFH is possibly "well placed to do OK whatever happens".

 

My goal is matching or beating the index (but let's not go back to whether this is worthwhile goal). For this FFH may be not well placed in a number of scenarios. :) I do hold a large position of FFH, but I am just not as positive about it as you might be.

 

Yeah that's fair.  I'd also add that I might find more opportunities to grow if I had more time to look for them!