Hamblin Watsa Investment Counsel Investment Decision Process

[jfan]

It seems that alot of what hinges on FFH economic fate is quite dependent on their investment returns from their cash, bonds, equities and investment in associates.

 

It also seems their preferred style is concentrated bets in companies with more tangible assets that are market ugly. They approach it with hopes of mean reversion and some degree of activism at the corporate level.

 

This style has left them with some difficult to turnaround equities eg Blackberry and Resolute Forest in a environment that has not been mean reverting. (As an aside, this is an interesting paper from GMO LLC about the market's mean reversion tendency.)

https://www.gmo.com/north-america/research-library/is-the-u.s.-stock-market-bubble-bursting/

 

It also has left them with large short macro positions for too long a period of time.

 

From my understanding, Hamblin Watsa carries out the majority of investment decisions. Prem eludes to a group that works together to help make these decisions.

 

Does anybody have a sense of the process that they use to make these decisions and to learn from them subsequently?

 

It is, for example, a group consensus decision or does everyone has a individual portfolio to run and the group is used for devil's advocacy? Do they routinely use pre-mortems, post-mortems, standardized checklisting, decision journal etc?

 

I guess I'm just trying to dissect whether it is their investment process that has been sub-optimal explaining their recent returns or whether the outcomes were bad due to the inherent uncertainty in the investment outcomes.

 

Thanks

 

Jerome

 

 

[obtuse_investor]

What a wonderful question!

 

Human beings have tendency to judge the decision process based on the observed outcome. It’s because outcomes are easy to see, while decisions are illusive. Your question decouples those and asks if the decision process is up to speed. https://en.m.wikipedia.org/wiki/Outcome_bias

 

 

[Cigarbutt]

I somehow remember Mr. Parsad making instructive and relevant FFH investment process comments on this Board before and further comments about the process would be appreciated.

 

But as potential or actual investors, how can we appraise investment results if not by looking at the outcome over a certain period of time (3 to 5 to ?10 years)?

 

A possible avenue to evaluate the process from the outside would be to look for coherence and consistency. When comparing to great investors such as BAM or BRK, even if one does not agree with a certain acquisition of shares or assets, it may be a matter of degrees of interpretation within a consistent and coherent pattern.

 

When the consistency and coherence are hard to define (or to understand), one may have to rely on trust, which, IMHO, increases the uncertainty of the investment outcomes.

[wondering]

Two points to mention

 

1. I remember this question was asked at the FFH charity dinner the night before the AGM of the how the decision to invest in a certain company is made at Hamblin Watsa, and if there is the risk of group-think .  I can't remember if it was Sam Mitchell or one of the other guys at HW that answered.  Essentially, they said it was the best of both worlds.  Individually, the guys at HW will work on their own ideas, but they also meet as a group play devils advocate on the various investment ideas that come forward. 

 

2. In an interview with Bloomberg/Amanda Lang about a year ago, Prem was asked if his investment in Blackberry was his attempt to be a good Canadian and to express his nationalism through his investment in BB. Prem's response if that was the case, he would have been stopped by the other guys at HW.  If we take Prem's at his word, I think we can assume that it is not a dictatorship at HW.

 

The questions raised on this post are valid.  I have no idea on the post-mortem analysis.

[StubbleJumper]

The post-mortem thing is probably not that useful because the reasons for an investment flop are usually pretty obvious ex post.  The real thing that they need to work through is:

 

1) Why do they insist on pulling from the "too hard pile"; and

 

2) why do they throw the largest amount of capital at the ideas where success is contingent on some aspect of the world fundamentally changing.  At times, it seems like somebody must have given them a copy of the Kelly Criterion with one of the parameters badly buggered up.  Hit a few singles rather than constantly going for a grand slam.

[Spekulatius]

The post-mortem thing is probably not that useful because the reasons for an investment flop are usually pretty obvious ex post.  The real thing that they need to work through is:

 

1) Why do they insist on pulling from the "too hard pile"; and

 

2) why do they throw the largest amount of capital at the ideas where success is contingent on some aspect of the world fundamentally changing.  At times, it seems like somebody must have given them a copy of the Kelly Criterion with one of the parameters badly buggered up.  Hit a few singles rather than constantly going for a grand slam.

 

Yes, most of their investments seem to have a complex thesis (Greek banks, BlackBerry), or are  just based on cheapness (Stelco, RFP), while Buffet is jumping 1 foot hurdles like US banks, Apple etc. Note that even when WEB is wrong like he was with IBM, he came out with minor scratches so to speak and didn’t really lose much money. FFH has great companies in their backdoor like Enbridge (which i own) or Canadian banks, or even well managed energy companies like Suncor or CNQ. I feel somehow, they got lost in the search for complexity when it really doesn’t seem necessary.

[Parsad]

The way it used to work before Wade Burton was appointed managing director was that they had 5-6 of the core group/old guard...Prem, Brian, Roger, Chandran, Sam & Francis (when he was there)...Tony Hamblin before Francis, etc.  They would make the broad capital decisions after the senior analysts provided their reports.  Prem would have the final say.  Each of the analysts were given smaller amounts to deploy, while the old guard deployed the bulk of the capital and oversaw billion/multi-billion portfolios.  They would also go through sessions on any capital ideas where others would try and kill the idea.  If it passed, then capital is allocated.

 

Today, I'm not sure exactly how it is done, but it may be worth asking at the next meeting.  Paul is President of Fairfax, Wade is essentially the managing director, but some of the remaining old guard, including Prem, still oversee and provide advice.  But I think the bulk of the capital decisions are now made by the next generation (Paul, Wade, Lawrence, etc).  The one thing that Fairfax shareholders shouldn't worry about is succession.  They've essentially passed on core duties now to Paul, Andy Barnard, Peter Clarke and Wade Burton.  I think that eventual transition will be far smoother at Fairfax than at Berkshire or Markel. 

 

And in terms of the investing team...they won't be as good on the bond side as Brian was (but who in the world really is), but the bulk of them are Cundill proteges, worked for and with Fairfax's team and are very well-established value managers.  Fairfax is extremely deep in nearly every part of their business!  Cheers!

[Guest longinvestor]

This is a great topic, not just for Fairfax. Whatever else happens or not, Parsad’s line...Prem has the final say.. is crucial. This is the only way to avoid the mediocrity that would otherwise ensue. In my opinion, relating this back to the circle of competence thing, Buffett has often emphasized that how thick the line is far more important than how big the circle is. Buffett’s circle is both big and thick. Experiences like Dexter, IBM helps him thicken the line because he has the emotional flexibility needed. Just about everyone else have blurred circles. The symptoms of this is head scratching for us.

[steph]

The way it used to work before Wade Burton was appointed managing director was that they had 5-6 of the core group/old guard...Prem, Brian, Roger, Chandran, Sam & Francis (when he was there)...Tony Hamblin before Francis, etc.  They would make the broad capital decisions after the senior analysts provided their reports.  Prem would have the final say.  Each of the analysts were given smaller amounts to deploy, while the old guard deployed the bulk of the capital and oversaw billion/multi-billion portfolios.  They would also go through sessions on any capital ideas where others would try and kill the idea.  If it passed, then capital is allocated.

 

Today, I'm not sure exactly how it is done, but it may be worth asking at the next meeting.  Paul is President of Fairfax, Wade is essentially the managing director, but some of the remaining old guard, including Prem, still oversee and provide advice.  But I think the bulk of the capital decisions are now made by the next generation (Paul, Wade, Lawrence, etc).  The one thing that Fairfax shareholders shouldn't worry about is succession.  They've essentially passed on core duties now to Paul, Andy Barnard, Peter Clarke and Wade Burton.  I think that eventual transition will be far smoother at Fairfax than at Berkshire or Markel. 

 

And in terms of the investing team...they won't be as good on the bond side as Brian was (but who in the world really is), but the bulk of them are Cundill proteges, worked for and with Fairfax's team and are very well-established value managers.  Fairfax is extremely deep in nearly every part of their business!  Cheers!

 

Did Brian retire?

[jfan]

Thanks Sanjeev for the clarification. That was helpful. I will try to pose these questions at the Annual Meeting.

 

1) Could you describe how HWIC currently organizes the responsibilities for making investment decisions with respect to the larger portion of the investment portfolio?

 

2) Could you describe the process by which the investment committee develops expected values and updates investment theses over time as new information arises?

 

3) Could you describe how the investment committee learns to improve its investment decision processes over time?

 

4) How does the investment committee ensure that a diversity of opinions about a decision is heard before committing capital?

 

The post-mortem thing is probably not that useful because the reasons for an investment flop are usually pretty obvious ex post.  The real thing that they need to work through is:

 

1) Why do they insist on pulling from the "too hard pile"; and

 

2) why do they throw the largest amount of capital at the ideas where success is contingent on some aspect of the world fundamentally changing.  At times, it seems like somebody must have given them a copy of the Kelly Criterion with one of the parameters badly buggered up.  Hit a few singles rather than constantly going for a grand slam.

 

Yes, most of their investments seem to have a complex thesis (Greek banks, BlackBerry), or are  just based on cheapness (Stelco, RFP), while Buffet is jumping 1 foot hurdles like US banks, Apple etc. Note that even when WEB is wrong like he was with IBM, he came out with minor scratches so to speak and didn’t really lose much money. FFH has great companies in their backdoor like Enbridge (which i own) or Canadian banks, or even well managed energy companies like Suncor or CNQ. I feel somehow, they got lost in the search for complexity when it really doesn’t seem necessary.

 

It does seem that FFH prefers the deep value coupled with friendly activism as most of the investments detailed in the 2019 AR follow this pattern. I guess their goal really is to ensure that they get a minimum 7-8% TOTAL return on their investment portfolio, not what most typical OPMI are hoping for (15% CAGR over time in their personal portfolio). I guess this is why they feel comfortable with concentrating their investments as opposed to the conventional thought where these deep value plays by OPMI are not to make up more than 2-4% of their portfolio. So this might explain why they tend to either hit it out of the park on their investments (Quess) or suffer significant opportunity costs over time (Resolute, Blackberry - that being said, people will always need tissue and toilet paper and with autonomous vehicles in the horizon, data security will be a crucial component.)

 

If the investment team dynamic remains the same, and the cultural preference for these investment types is consistent. Their reliance on mean reversion in their individual investments will likely play out in their overall portfolio as well (unless my mathematically understanding is flawed). Therefore, if their geometric mean is somewhere in the range of 7-8%, I guess it would be conceivable to see them also revert back to their long-term mean.

 

 

 

 

 

 

 

 

[Parsad]

The way it used to work before Wade Burton was appointed managing director was that they had 5-6 of the core group/old guard...Prem, Brian, Roger, Chandran, Sam & Francis (when he was there)...Tony Hamblin before Francis, etc.  They would make the broad capital decisions after the senior analysts provided their reports.  Prem would have the final say.  Each of the analysts were given smaller amounts to deploy, while the old guard deployed the bulk of the capital and oversaw billion/multi-billion portfolios.  They would also go through sessions on any capital ideas where others would try and kill the idea.  If it passed, then capital is allocated.

 

Today, I'm not sure exactly how it is done, but it may be worth asking at the next meeting.  Paul is President of Fairfax, Wade is essentially the managing director, but some of the remaining old guard, including Prem, still oversee and provide advice.  But I think the bulk of the capital decisions are now made by the next generation (Paul, Wade, Lawrence, etc).  The one thing that Fairfax shareholders shouldn't worry about is succession.  They've essentially passed on core duties now to Paul, Andy Barnard, Peter Clarke and Wade Burton.  I think that eventual transition will be far smoother at Fairfax than at Berkshire or Markel. 

 

And in terms of the investing team...they won't be as good on the bond side as Brian was (but who in the world really is), but the bulk of them are Cundill proteges, worked for and with Fairfax's team and are very well-established value managers.  Fairfax is extremely deep in nearly every part of their business!  Cheers!

 

Did Brian retire?

 

No...no.  But I suspect he's slowing things down a bit like Prem.  A good question would be has Brian ever taken on a protege and who is it?  Cheers!