Jump to content

Identity Crisis


steph
 Share

Recommended Posts

Berkshire or Markel are very easy to understand. They have a clear strategy and have held on to this over different cycles. When buying these shares you know why you buy them and what you get.

Fairfax is a different story. Even if the shares are cheap you don't really know what their strategy is anymore. What are they doing, where are they going?

 

On the insurance front things are clear and going smoothly. On the fixed income side of the portfolio it is also consistent with what they have always done.  Even on the equity side I see a historical pattern: very contrarian bets. But where they have confused all long term shareholders is with the huge macro bets. 

 

I am a long term shareholder and would love to buy more at these levels, but what will be their next billion $ macro bet?  Even if they get it right and make a billion $ next time, I will still have many questions/doubts.  Am I a shareholder of a company that has a competitive advantage or is this just one big macro hedge fund?

 

Fairfax is a wonderful asset, but it is time they explain what they stand for, where they want to be in 10 years and how they want to get there. Just a clear and consistent story. It is only then that solid long term shareholders will return and that a higher multiple of book will become the norm again. (just as is the case with Markel)

Link to comment
Share on other sites

Berkshire or Markel are very easy to understand. They have a clear strategy and have held on to this over different cycles. When buying these shares you know why you buy them and what you get.

Fairfax is a different story. Even if the shares are cheap you don't really know what their strategy is anymore. What are they doing, where are they going?

 

On the insurance front things are clear and going smoothly. On the fixed income side of the portfolio it is also consistent with what they have always done.  Even on the equity side I see a historical pattern: very contrarian bets. But where they have confused all long term shareholders is with the huge macro bets. 

 

I am a long term shareholder and would love to buy more at these levels, but what will be their next billion $ macro bet?  Even if they get it right and make a billion $ next time, I will still have many questions/doubts.  Am I a shareholder of a company that has a competitive advantage or is this just one big macro hedge fund?

 

Fairfax is a wonderful asset, but it is time they explain what they stand for, where they want to be in 10 years and how they want to get there. Just a clear and consistent story. It is only then that solid long term shareholders will return and that a higher multiple of book will become the norm again. (just as is the case with Markel)

 

Well stated and spot on. Thought about buying more myself but I'm just not sure what I'm buying anymore. Their equity decisions are too often perplexing and stubborn. They seem to be trying to be clever instead of just intelligent and sound. I truly don't know whether I should sell it or buy more.

Link to comment
Share on other sites

It is only then that solid long term shareholders will return and that a higher multiple of book will become the norm again. (just as is the case with Markel)

 

I think the whole game of investing is to buy when there is maximum uncertainty (but little risk) and sell when everything looks great.  :)

 

Link to comment
Share on other sites

I think the equity hedge was a learning experience which won't happen again, similar to the past when Fairfax used to buy low quality insurance companies. 

 

But where they have confused all long term shareholders is with the huge macro bets. 

 

You "think", but how do you know?  I'd like to think the Blackberry investment was a learning experience as well (don't invest in a dying company because you want to save it because it is canadian and hires a lot from a college you like).  I did purchase a little more last week (as well as MKL earlier this month, it doesn't have to be either/or), it seems cheap right now, but I still have questions about the strategy over all (which is probably why it is on sale).

 

 

Link to comment
Share on other sites

None of us are certain however I strongly believe the HWIC team did not all of a sudden get stupid.  I added to my position last week as well as this is a no brainer under book value however they have destroyed a significant amount of value through the hedges.  I forgot to add, I hope they are repurchasing stock at these prices!

 

I think the equity hedge was a learning experience which won't happen again, similar to the past when Fairfax used to buy low quality insurance companies. 

 

But where they have confused all long term shareholders is with the huge macro bets. 

 

You "think", but how do you know?  I'd like to think the Blackberry investment was a learning experience as well (don't invest in a dying company because you want to save it because it is canadian and hires a lot from a college you like).  I did purchase a little more last week (as well as MKL earlier this month, it doesn't have to be either/or), it seems cheap right now, but I still have questions about the strategy over all (which is probably why it is on sale).

Link to comment
Share on other sites

They have over the last many many years been macro investors. You can see it in their annual letters and conference calls. Instead of "Macro" they call it differently, 1 in 100 year storm, etc, etc.

 

They have a macro point of view and make a bet that pays out really well if that scenario plays out. Otherwise not so much.

 

Nothing has changed. They had many successes in the past with macro calls but they called the last couple wrong. Just what one can expect on macro calls.

 

I sold out way back in late 2011 when I realized they have a snowball chance in hell of increasing IV by 15%.

 

There are some concerns with Fairfax since then and it is no longer a business that I would feel comfortable buying and holding for the long term. I bought a little last week.

 

Prem is a nice guy and I think he has nothing but the best of intentions for the shareholders. I have no doubt about his intent.

 

But he has been less than forthcoming about some things and the way he approaches some of the investments is not conducive to acting rationally.

 

1. Look at Blackberry investment carefully at prices and increasing position sizing. It is classic martingale strategy. I sort of do this too but not with a tech company in a rapidly changing industry with little competitive advantages. I do not fault him for making any one bad investment. I think they said something to the effect that if 3 in 5 workout they would do great. It is just how the whole thesis evolved in a completely different manner and they made progressively larger bets.

 

2. Comments around taking Blackberry private. I simply do not believe they are telling it the truth. Come on, do you really need to have a consultant come and tell you that the company cannot afford LBO debt? This is bizarre. Just imagine Buffett making an offer to a company and hiring an investment banker and backing out because they said it is too expensive.

 

3. Look at SD and how they have bought into Tom Ward's pitch and the whole saga. Again I can understand making mistakes in investments. It is part and parcel of investing.

 

4. Reducing hedges because of Trump? We do not face 1 in 100 year storm because Trump became president?

 

There are a lot more such things that reduced my confidence in Fairfax.

 

Vinod

 

 

 

 

Link to comment
Share on other sites

Buffett says that he will buy back his stock or pay a dividend if he cannot beat the S&P anymore. Shouldn't the same criteria apply here?

 

They are much smaller but, results have not been there and relying on 1 in 100 years type of events every 5 years or so to deliver does not seem like a real strategy.

 

Cardboard

Link to comment
Share on other sites

Just to keep everyone cautious, tangible book is actually closer to ~$300 / sh as there is a lot of goodwill on the balance sheet.

 

Just FYI...

 

Depends on how you feel about their purchases. I'm quite confident that they could get more than they paid for probably ALL of their insurance acquisitions in the last 5-6 years so I'm pretty comfortable NOT taking too much of a deduction for goodwill/intangibles.

 

Also, as has been mentioned before, Fairfax has more market exposure/leverage than either Berkshire or Markel. Excluding investments in associates (which I count more as operating business and portfolio investments to be bought/sold), Fairfax has over $1,100 per share in investments per share.

 

When equities were hedged, I looked at Fairfax as a leveraged bond fund. Now that equities are a bit unhedged and Fairfax has sold a good portion of it's bonds, the way i think about it is this.

 

Each share represents roughly represents:

 

$430 in bonds

$430 in cash

$180 in equities/preferred shares

$45 in Fairfax India

$35 in other investments

 

PLUS their insurance operations.

 

For $440 per share you get over $1,120 in market exposure PLUS the reasonably profitable insurance companies which have the capacity to do better once the insurance cycle turns.

 

I for one like knowing that I'm getting $1,1120 in market exposure that where i'm getting PAID for the leverage via insurance companies. I wouldn't focus too much on tangible book value at these prices. Lookthrough to what the earnings power of $1,120 in investments plus insurance has the potential to be and then realize that it's a reasonably good return on the $440 price.

 

It's a pretty low bar for Fairfax to hit $50-$100 per share in earnings once that $10B in cash is deployed in assets even if they are returns as low as 2-3% a year.

 

 

 

Link to comment
Share on other sites

They are now a decent/good insurer. With Hamblin Watsa being a fantastic bond investor (which as an insurer is the most important part) and assets of 1.300 $ working for every share, they would make a killing in the long run if they just bought some quality stocks and stopped doing all those fancy things.

Link to comment
Share on other sites

"Also, as has been mentioned before, Fairfax has more market exposure/leverage than either Berkshire or Markel. Excluding investments in associates (which I count more as operating business and portfolio investments to be bought/sold), Fairfax has over $1,100 per share in investments per share. "

 

This is untrue and a quoted metric that has mislead a lot of people.

 

Berkshire Hathaway has roughly half of its book value invested into straight equities. And the rest of investments are good to great businesses generating very solid returns. That is real market exposure. People often quote their large cash pile but, that is peanuts relative to the size of other assets.

 

Fairfax is not even at half of book value invested into equities per Q3 financials and the rest of investments/businesses earn average returns.

 

What is it good for to have "x" amount per share in investments when "3/4 of x" amount per share in investments has to remain into cash and treasuries because insurance regulation and low rating forces them to?

 

I mentioned that problem way back in 2005 or 2006 relative to their structure and it is not fixed yet. They need to de-lever, increase the rating on their insurance business and corporation and find more stable sources of cash flow with solid ROIC.

 

Cardboard 

Link to comment
Share on other sites

"Also, as has been mentioned before, Fairfax has more market exposure/leverage than either Berkshire or Markel. Excluding investments in associates (which I count more as operating business and portfolio investments to be bought/sold), Fairfax has over $1,100 per share in investments per share. "

 

This is untrue and a quoted metric that has mislead a lot of people.

 

Berkshire Hathaway has roughly half of its book value invested into straight equities. And the rest of investments are good to great businesses generating very solid returns. That is real market exposure. People often quote their large cash pile but, that is peanuts relative to the size of other assets.

 

Fairfax is not even at half of book value invested into equities per Q3 financials and the rest of investments/businesses earn average returns.

 

What is it good for to have "x" amount per share in investments when "3/4 of x" amount per share in investments has to remain into cash and treasuries because insurance regulation and low rating forces them to?

 

I mentioned that problem way back in 2005 or 2006 relative to their structure and it is not fixed yet. They need to de-lever, increase the rating on their insurance business and corporation and find more stable sources of cash flow with solid ROIC.

 

Cardboard

+1. I don't understand why a business is so different if it's public as opposed to private. FFH's investment portfolio is inferior to BRK's. At this point you rely on underwriting to make lots of money. But what if underwriting weakens going forward as i believe it's likely to do? Then what?

 

Also you don't have 1,100 in investments per share when 430 is cash and 90 is equity hedged (i.e. Cash).

Link to comment
Share on other sites

"Also, as has been mentioned before, Fairfax has more market exposure/leverage than either Berkshire or Markel. Excluding investments in associates (which I count more as operating business and portfolio investments to be bought/sold), Fairfax has over $1,100 per share in investments per share. "

 

This is untrue and a quoted metric that has mislead a lot of people.

 

Berkshire Hathaway has roughly half of its book value invested into straight equities. And the rest of investments are good to great businesses generating very solid returns. That is real market exposure. People often quote their large cash pile but, that is peanuts relative to the size of other assets.

 

Fairfax is not even at half of book value invested into equities per Q3 financials and the rest of investments/businesses earn average returns.

 

What is it good for to have "x" amount per share in investments when "3/4 of x" amount per share in investments has to remain into cash and treasuries because insurance regulation and low rating forces them to?

 

I mentioned that problem way back in 2005 or 2006 relative to their structure and it is not fixed yet. They need to de-lever, increase the rating on their insurance business and corporation and find more stable sources of cash flow with solid ROIC.

 

Cardboard

 

Let's assume Fairfax invested that whole $1,100 into 30-year Treasuries as would likely be allowed by regulation. 30-year rates are now at 3%. That means Fairfax would earn over $30 per share just from Treasury coupons. Earnings/book value will be noisey with the duration and rates movements, but they'd earn it over the life of the bonds. They only have to hit $500M from insurance to make up the other $20 to hit the low end of my $50-100 target (they made $705M in 2015). So conservative insurance plus 3% gets you to $50-60. i.e. 7-8x earnings.

 

Now, I doubt Fairfax invests the whole amount in 30-year Treasuries. I also doubt Fairfax sits on $10B in cash into perpetuity and I doubt they remain 50-100% hedged into perpetuity. So at some point I expect them to invest it in SOMETHING and to earn a higher return than 3% per annum doing it. A reasonable return target of just 5% with the same $500M-700M on insurance means now we're looking at $75-85 in earnings per share or 5-6x earnings.

 

I'm sorry, I just don't buy the "it doesn't matter if it has to be invested in Treausries argument." The fact is, your shares are more than 2.5x levered to their investments and insurance earnings and that matters no matter what it's invested in.

 

 

 

 

Link to comment
Share on other sites

+10, Couldn't agree more!!!!

 

I mentioned that problem way back in 2005 or 2006 relative to their structure and it is not fixed yet. They need to de-lever, increase the rating on their insurance business and corporation and find more stable sources of cash flow with solid ROIC.

Link to comment
Share on other sites

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. 

Link to comment
Share on other sites

Guest wellmont

I believe tbv does matter for a company like ffx. yes it has lots of investments. but it has lots, because it has more financial leverage than the typical insurer, especially related to its tangible equity. You Will feel this leverage in a bear market, as volatility.

 

I compare this to tpre, which sells at a discount to Tangible book, and also has $25+ (vs $12 share price) of investments per share working for you, with minimal financial leverage. And I wonder why would I pay around 2x tbv for financially levered ffx, when un-levered tpre is available at about .9x tbv? tpre may not have the juice of ffx. but it should hold up way better in bad markets. plus the valuation disparity is striking.

Link to comment
Share on other sites

I believe tbv does matter for a company like ffx. yes it has lots of investments. but it has lots, because it has more financial leverage than the typical insurer, especially related to its tangible equity. You Will feel this leverage in a bear market, as volatility.

 

I compare this to tpre, which sells at a discount to Tangible book, and also has $25+ (vs $12 share price) of investments per share working for you, with minimal financial leverage. And I wonder why would I pay around 2x tbv for financially levered ffx, when un-levered tpre is available at about .9x tbv? tpre may not have the juice of ffx. but it should hold up way better in bad markets. plus the valuation disparity is striking.

 

I looked at TPRE way back in 2014 and it might have changed now, but the strategy seems to carry a lot of risks.

 

He is investing majority of the assets into stocks and using shorting to reduce risks, instead of matching liabilities with bonds. In case long and short strategies both underperform, there is a risk of permanent loss of capital since assets need to be liquidated at an inopportune time.

 

In addition, incentives are completely misaligned between management and shareholders as I think he is going to get 2 and 20 and TPRE is going to be a funding source for his fund.

 

Vinod

Link to comment
Share on other sites

Guest wellmont

yeah any investor can blow himself up. and whether you put your money on DSL or PW you are praying they don't do it. I will take my chances with the un-levered tpre.

Link to comment
Share on other sites

It seems like there's a lot of cherry picking on the investment side of Fairfax. I have a feeling this has a lot to do with the fact hat we really like Prem. I like Prem too. But we can't just look at the parts of the investment side that we like and ignore the others. Yes, they've done well with the bonds. But in the investment side wasn't just bond there were the equities and all the hedges too.

 

The fact is that on the investment side the strategy was very incoherent for a while. IS FFH a bond manager? Is it a macro shop? A while back we had the big three. What happened to the big three? A while back the hedges were warranted I would expect because the view because that the market was overvalued. Now after the market doubles (give or take) we don't need the hedges because of Donald Trump and the market is cheap? No matter what you believe about politics don't tell me that Donald Trump is a 300-400% value factor. Not to mention that the type of equity investments FFH makes are hardly tightly correlated to the S&P so the hedges are not so effective.

 

All this adds up to make FFH a pretty black box on the investment side. We have no clue about the investment strategy. If you ask me about BRK's investment strategy I can articulate it pretty clearly. But I can't say much about FFH strategy aside from in Prem we trust. They could turn around and do another brilliant CDS trade or another hedging debacle. But how is one supposed to price the equity in such an environment. And why should they have a multiple close to BRK when BRK outperformed them like crazy despite their size?

 

I think it is an identity crisis indeed and they need to figure out where they stand and explain that beyond well... Trump or Modi.

Link to comment
Share on other sites

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.

Link to comment
Share on other sites

What about deflation hedges? - looks like there is going to be inflation not deflation.  I like PW as well but I think the 15% return goal in the AR is a bit disingenuous.

 

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.

Link to comment
Share on other sites

What about deflation hedges? - looks like there is going to be inflation not deflation.  I like PW as well but I think the 15% return goal in the AR is a bit disingenuous.

 

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.

 

It's funny - Donald Trump gets elected president, rates rise to where they were at the beginning of 2016, and everybody is back on the "runaway" inflation argument even though nothing has really changed on that front. Donald Trump isn't printing trillions more dollars. Donald Trump isn't personally giving everyone in the U.S. a raise. Donald Trump hasn't weakened the dollar to the point where import costs are soaring.

 

I know what rates and currencies have done. I've witnessed and watched it. I also know that global central banks have spent trillions over the last 5 years trying to generate inflation and have collectively failed so why do we think D.T.'s election portends a great impact that tens of trillions of dollars failed to achieve?

 

The way I see it,  there's three possibilities:

 

1) Donald Trump is a REAL game changer and we're going to see inflation that was not achievable under coordinated central bank action OR

2) We were on the cusp of inflation regardless because inflation is a monetary phenomenon OR

3) Nothing has really changed and the rates market will resume they're downward trend once markets figure this out

 

D.T.'s spending package hasn't been approved, and if it is, is for $1T over 10 years. We've seen 10x that amount in global central bank action over the past 6 years with near 0 impact on inflation thus far. Further, the spending demographic shift of retiring boomers cutting back is still a drag on growth and inflation for the next 2-3 years, minimum, as is the lack of corporate investment over the past decade. Dollar strength is also disinflationary for all the goods we import (A LOT) as well as corporate profits.

 

To the second point, banks are still sitting on tons and tons of excess reserves and most of the money the Fed has printed is not being circulated. Any money that is being circulated in financial markets is being pulled back as the Fed is hiking rates, long-end rates have risen to 2015 levels prior to the January/February panic, and the dollar is hitting 13 year highs. The velocity of money is still falling, real economic activity is still contracting, and the inflation we're seeing is off a low base AFTER oil prices hand tanked 40-50%. Of course we'd expect this figure to accelerate some once oil prices steadied/rebounded just because of the slow inflation in other things like rents.

 

So that leaves us with the third option. As we've seen many times in the past (i.e. taper tantrum, the end of each Q.E. cycle, etc) the markets are over-reacting and likely to come back down. I would not be at all surprised if rates make new lows over the next 2-3 years and D.T. fails to prove the panacea that 10s of trillions of dollars in printed money couldn't achieve.

 

Having massive amounts of debt is deflationary and every day the world has more of it than it did the day before. D.T.'s plans call for even more. Deflation is still the threat - especially in the event of a recession.

 

 

 

 

Link to comment
Share on other sites

FFH would be far better off if they simply restructured a little ....

 

All the insurance firms in one box, and the investments in another (already occurs)

 

The investment side pays the insurance side a minimum monthly fixed income stream, puts up a 3rd party bond to guarantee the insurance side capital contribution, and pays the insurance side an annual bonus if returns exceed some minimum. The black box stays private, & the 3rd party bond insulates the insurance side from the black box.

 

Elegance, and grace.

 

SD

 

Link to comment
Share on other sites

Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account in our community. It's easy!

Register a new account

Sign in

Already have an account? Sign in here.

Sign In Now
 Share

×
×
  • Create New...