Fairfax 2020

[Cevian]

"higher yielding investment grade U.S. corporate bonds with an average maturity date of 4 years and average interest rates of 4.25%, that will benefit interest income in the future."

 

Honestly, isn't that one of the worst placed to be at the moment?

[TwoCitiesCapital]

"higher yielding investment grade U.S. corporate bonds with an average maturity date of 4 years and average interest rates of 4.25%, that will benefit interest income in the future."

 

Honestly, isn't that one of the worst placed to be at the moment?

 

Maybe, but they're buying it AFTER the initial panic dislocation and it's only 4-year paper. Too far out to be immediately of concern and short-enough that additional moves in rates and credit spreads won't have major impacts. This alone could increase interest income by 10-15% per annum in coming years with no credit giving to any potential for higher rates - and there is probably more of this to come if I'm correct in that this isn't over just yet.

 

Also, aren't these typically the types of bonds that are rolled in times like this? Companies voluntarily tender 2-4 year paper at a premium to push out maturities with a 7-10 year issuance to buy time and certainty of funding?

 

Also, the equity accounting of Eurobank is likely to help seeing as it won't be marked-to-market. This will be one to watch though as future appreciation also won't flow through and current book values will be overstated as a result.

[StubbleJumper]

Update from Fairfax - preliminary first quarter results:

https://www.fairfax.ca/news/press-releases/press-release-details/2020/Fairfax-Reports-Recent-Developments/default.aspx

 

 

Okay, that's actually a reasonably good collection of news.  We already knew that the equity portfolio would be a shit-show, but hopefully that is temporary.  But the good news is reassuring;

 

1) Riverstone closed as planned, which was key for holdco liquidity.

 

2) FFH drew down the revolver almost fully before the lender could find a reason to screw them by pulling it.  Now it's the lender's problem!  Say what you want about Prem, but he's nobody's fool.  There's some banker out there who probably wishes that he hadn't written that $2B revolver a couple years ago!

 

3) They have been hitting the corporate debt market hard.  This is Bradstreet's expertise, so that is a very good sign.  Look for some realized gains in 2021 and 2022 from the corporates being bought over the past month.  The money is being made now, but it won't be realized until later.

 

4) Gross Written is up 12% and CRs are under 100, so that is exactly what most of us were hoping for on the underwriting front.

 

 

Okay, this is good.  We already knew about the equity shit-show, so this is helpful.  It would be useful to have FFH make a general statement about the language used in its business continuity insurance contracts and the likelihood that those contracts will trigger indemnities.

 

 

 

SJ

 

 

[Parsad]

Update from Fairfax - preliminary first quarter results:

https://www.fairfax.ca/news/press-releases/press-release-details/2020/Fairfax-Reports-Recent-Developments/default.aspx

 

 

Okay, that's actually a reasonably good collection of news.  We already knew that the equity portfolio would be a shit-show, but hopefully that is temporary.  But the good news is reassuring;

 

1) Riverstone closed as planned, which was key for holdco liquidity.

 

2) FFH drew down the revolver almost fully before the lender could find a reason to screw them by pulling it.  Now it's the lender's problem!  Say what you want about Prem, but he's nobody's fool.  There's some banker out there who probably wishes that he hadn't written that $2B revolver a couple years ago!

 

3) They have been hitting the corporate debt market hard.  This is Bradstreet's expertise, so that is a very good sign.  Look for some realized gains in 2021 and 2022 from the corporates being bought over the past month.  The money is being made now, but it won't be realized until later.

 

4) Gross Written is up 12% and CRs are under 100, so that is exactly what most of us were hoping for on the underwriting front.

 

 

Okay, this is good.  We already knew about the equity shit-show, so this is helpful.  It would be useful to have FFH make a general statement about the language used in its business continuity insurance contracts and the likelihood that those contracts will trigger indemnities.

 

 

 

SJ

 

+1!  Premium pricing for insurance is only going to increase over the next 24 months.  There were already huge spikes in premium pricing in certain areas, and with portfolio losses across the board, those able to write business are going to do well over the next couple of years. 

 

I truly feel that businesses that gain efficiencies now and make it through this period in the top 10-20% of their industry, are going to be the long-term players in the future who will benefit from today's tightening.  Cheers!

[vinod1]

Net losses on investments of approximately $1.5 billion will reflect unrealized losses on the Company’s equity and equity-related holdings and bonds.

 

Is my understanding correct that the $1.5 billion loss in equities/FI is understated by about $0.5 billion loss on the Eurobank?

 

Yesterday, I was going through the portfolio to size up the losses and I approximated to about $1.5 billion decline, so the above would be a much bigger hit than I expected.

 

Who would have imagined in 2009, the come the next major crisis, a dot com stock (Amazon) would be a pillar of strength while Fairfax would be tapping the credit lines?

 

Vinod

[Xerxes]

For those of us who are less familiar about the insurance side, what is the normal gross premium growth rate, if 12% is considered exceptional.

 

A high gross premium growth rate, doesn't it just mean that you are just trying to grow market share, at a cost that it might cost you profitability ?

[StubbleJumper]

For those of us who are less familiar about the insurance side, what is the normal gross premium growth rate, if 12% is considered exceptional.

 

A high gross premium growth rate, doesn't it just mean that you are just trying to grow market share, at a cost that it might cost you profitability ?

 

 

The industry level data can be viewed here: https://www.iii.org/table-archive/21113

 

But, the logic of a premium increase is that the real, inflation-adjusted value of insured assets might go up by a couple percent per year (more houses built, more cars on the road, etc every year) and then the cost of those assets might go up by inflation which might be a couple extra percent.  So maybe 4% growth is average?

 

The nice thing about a 10% increase, like what we saw in 2018 is that a large chunk of that falls directly onto insurers' bottom line.  That's why so many of us on this board were a little tepid about FFH's reported CR for 2018.  We were hoping that it would be 95-ish.

 

 

SJ

[Xerxes]

Who would have imagined in 2009, the come the next major crisis, a dot com stock (Amazon) would be a pillar of strength while Fairfax would be tapping the credit lines?

 

yeah

 

Thinking back to that era (though slightly pre-Lehman), I recall the stalwarts were Exxon and Chevron in the financial media circles … the same way Amazon is holding up now and now those companies are in the gutter.

 

I hope 10 years from now, it won't be bitcoin … maybe gold will be the asset class that will have the last laugh when it reaches $6,000 / ounce due to a massive sovereign crisis and Marc Bristow will be the face stability in that massive market downturn ….. Marc, who ? :-)

[clutch]

 

Who would have imagined in 2009, the come the next major crisis, a dot com stock (Amazon) would be a pillar of strength while Fairfax would be tapping the credit lines?

 

Vinod

 

Quote of the day

[petec]

I’m pleasantly surprised at the size of the loss, but as others suggest I suspect some of the equity markdown is masked by equity accounting. For example, FIH and FAH will be on the books for more than market value and I need to remind myself how Recipe is accounted.

 

In fairness, it’s quite smart of Fairfax to structure their equity exposure this way and protect BV from short term marks.

 

Also like the fact they’re swimming in cash. So much for a liquidity crunch.

[Bryggen]

Hey guys and sorry for opening a new thread while I should have posted here on this news. Blame the newbie!

 

Would you say that Fairfax is in a position to capture the buying opportunities that this market currently offers? One would think that Prem would ''back up the truck'', but could they (and will they) use their cash pile to buy equities at great value? How read read the use of the line of credit relative to this point?

 

Prem said in his last letter that value investing was out-of-favour. I think it has now changed and would like to see them (and us!) benefit from it.

 

Thoughts?

 

Bry

 

 

[petec]

Hey guys and sorry for opening a new thread while I should have posted here on this news. Blame the newbie!

 

Would you say that Fairfax is in a position to capture the buying opportunities that this market currently offers? One would think that Prem would ''back up the truck'', but could they (and will they) use their cash pile to buy equities at great value? How read read the use of the line of credit relative to this point?

 

Prem said in his last letter that value investing was out-of-favour. I think it has now changed and would like to see them (and us!) benefit from it.

 

Thoughts?

 

Bry

 

They can’t buy any more equities. Simplistically, they can invest their equity in equities but their float must be invested in fixed income.

 

So the opportunities are in switching from treasuries to corporates at expanded spreads and buying back stock. They’re doing a little of both but neither will change their prospects much.

 

They entered this sell off fully invested in cyclical value stocks. As a result, there’s not much they can do.

[Bryggen]

Hey guys and sorry for opening a new thread while I should have posted here on this news. Blame the newbie!

 

Would you say that Fairfax is in a position to capture the buying opportunities that this market currently offers? One would think that Prem would ''back up the truck'', but could they (and will they) use their cash pile to buy equities at great value? How read read the use of the line of credit relative to this point?

 

Prem said in his last letter that value investing was out-of-favour. I think it has now changed and would like to see them (and us!) benefit from it.

 

Thoughts?

 

Bry

 

They can’t buy any more equities. Simplistically, they can invest their equity in equities but their float must be invested in fixed income.

 

So the opportunities are in switching from treasuries to corporates at expanded spreads and buying back stock. They’re doing a little of both but neither will change their prospects much.

 

They entered this sell off fully invested in cyclical value stocks. As a result, there’s not much they can do.

 

Thanks for your input. Pretty bad then. They missed the bull market few years ago because of the massive short positions and now they can't capitalize on the great bargains offered. Is it me or it is very disappointing from Prem? I am puzzled by his thinking, which appears to be against what he always been valuing.

[Bryggen]

On another note, a very good article on Fairfax and Prem:

 

https://junto.investments/companies/fairfax-financial/

 

 

[petec]

Hey guys and sorry for opening a new thread while I should have posted here on this news. Blame the newbie!

 

Would you say that Fairfax is in a position to capture the buying opportunities that this market currently offers? One would think that Prem would ''back up the truck'', but could they (and will they) use their cash pile to buy equities at great value? How read read the use of the line of credit relative to this point?

 

Prem said in his last letter that value investing was out-of-favour. I think it has now changed and would like to see them (and us!) benefit from it.

 

Thoughts?

 

Bry

 

They can’t buy any more equities. Simplistically, they can invest their equity in equities but their float must be invested in fixed income.

 

So the opportunities are in switching from treasuries to corporates at expanded spreads and buying back stock. They’re doing a little of both but neither will change their prospects much.

 

They entered this sell off fully invested in cyclical value stocks. As a result, there’s not much they can do.

 

Thanks for your input. Pretty bad then. They missed the bull market few years ago because of the massive short positions and now they can't capitalize on the great bargains offered. Is it me or it is very disappointing from Prem? I am puzzled by his thinking, which appears to be against what he always been valuing.

 

That is more or less the gist of this thread for most of the past decade, sadly.

 

The positive spin is that if you go through the holdings you can find serious value today, especially in Eurobank.

[Parsad]

Hey guys and sorry for opening a new thread while I should have posted here on this news. Blame the newbie!

 

Would you say that Fairfax is in a position to capture the buying opportunities that this market currently offers? One would think that Prem would ''back up the truck'', but could they (and will they) use their cash pile to buy equities at great value? How read read the use of the line of credit relative to this point?

 

Prem said in his last letter that value investing was out-of-favour. I think it has now changed and would like to see them (and us!) benefit from it.

 

Thoughts?

 

Bry

 

They can’t buy any more equities. Simplistically, they can invest their equity in equities but their float must be invested in fixed income.

 

So the opportunities are in switching from treasuries to corporates at expanded spreads and buying back stock. They’re doing a little of both but neither will change their prospects much.

 

They entered this sell off fully invested in cyclical value stocks. As a result, there’s not much they can do.

 

Hi Petec,

 

How did you conclude this?  They've said numerous times, Sam Mitchell, Prem, Brian, Francis...there is no limitation to how much they can allocate to equities, be it float or equity, but they have to make sure the portfolio is in a position where they aren't risking a huge reduction in statutory surplus or liquidity.

 

Hi Bryggen,

 

While Fairfax was optimistic about equities after Trump won, they are deep value investors and have only felt that the markets provided tremendous opportunity on two occasions in the last 20 years...the collapse of the tech bubble in 2000 and again in 2009 after the financial crisis.  Even when markets fell 50% each of those times, they were reluctant to invest all of their capital...so it's going to have to take a bigger drop for them to buy alot more.  I think they would rather let Brian do his thing on the bond side right now, then take a ton of risk on equities...I think they will still be highly selective at this point.  That may be awfully conservative, but that's they way they operate. 

 

Compare that to Charlie Munger who went all in with Daily Journal's excess capital in 2009...today, Daily Journal is the best capitalized media company in the world!  While most other print media is scrambling for investors or donors, Daily Journal will probably never have to worry about financing again...or at least for 100 years or so!  :D

 

Cheers!

[Xerxes]

Petec / StubbleJumper

 

What is the link between cash at holding co. ... and the $40 billion portfolio ?

 

I understand that the debt they are raising, recap of insurance entities, dividends, buybacks, and the money they are getting by selling run-off business, and the buyout of the minorities are all financed through the holding company cash. That is clear.

 

What about the return on the $40 billion portfolio ? the returns generated by $40 billion portfolio are either unrealized (so not usable just yet), realized (some phantom accounting return but some real gain as well) or through dividend/interest streams. How does the interest/dividend generated by the portfolio flow back to the company holding co.

 

I am trying to understand the mechanics of how one side of the business (portfolio) is funding the overall FFH business (i.e. holding co. cash position)

 

[Xerxes]

Hi Petec,

 

How did you conclude this?  They've said numerous times, Sam Mitchell, Prem, Brian, Francis...there is no limitation to how much they can allocate to equities, be it float or equity, but they have to make sure the portfolio is in a position where they aren't risking a huge reduction in statutory surplus or liquidity.

 

 

I think at this point, when it comes to the FFH optics Petec (like myself and others) would like to be wrong, wrong, wrong and then right !

:-)

[StubbleJumper]

Petec / StubbleJumper

 

What is the link between cash at holding co. ... and the $40 billion portfolio ?

 

I understand that the debt they are raising, recap of insurance entities, dividends, buybacks, and the money they are getting by selling run-off business, and the buyout of the minorities are all financed through the holding company cash. That is clear.

 

What about the return on the $40 billion portfolio ? the returns generated by $40 billion portfolio are either unrealized (so not usable just yet), realized (some phantom accounting return but some real gain as well) or through dividend/interest streams. How does the interest/dividend generated by the portfolio flow back to the company holding co.

 

I am trying to understand the mechanics of how one side of the business (portfolio) is funding the overall FFH business (i.e. holding co. cash position)

 

 

 

Most of the investment portfolio is held in the subs -- like 95% of it or so.  If the subs succeed in their underwriting, and if Hamlin Watsa does a good job of investing the subs' float for them, the subs can be highly profitable and can issue dividends to FFH holdco.  But, the subs can only issue a dividend to the holdco if the insurance regulators in the various jurisdictions approve.  On page 95 of the AR, FFH describes the approved dividend capacity of the major subs.  However, if the subs max out their dividends to the holdco, it results in a reduction of the subs' capital and underwriting capacity, so the challenge is to find that happy medium.

 

One of the challenges for FFH is to ensure that there is adequate holdco liquidity.  FFH holdco needs cash for interest payments on holdco debt, operating expenses for the holdco, and holdco common and preferred dividends.  In addition to those cash needs, there are also opportunities that the holdco can exploit using cash, such as acquisitions and share buybacks.  If the holdco does not have adequate divvies from the subs, management fees arising from Hamblin Watsa, Fairfax India and Africa, and interest/divvies on holdco investments, it becomes dependent on debt (including the revolver) to finance its activities.  That's all fine and good until capital markets freeze up.

 

 

SJ

[Xerxes]

On another note, a very good article on Fairfax and Prem:

 

https://junto.investments/companies/fairfax-financial/

 

 

Vinod had a great quote earlier in which he referred to Amazon and FFH.

 

I own both for about 4 years or so (more or less), on FFH I have been averaging down on every purchase, on AMZN I have been averaging up on every purchase.

 

I don't consider myself as an top-notch investor and I am sucker for a good story, but a top-notch investor would have probably looked at these two names and my record of averaging up/down at these two specific names, and would have said: this is obvious, don't average down on FFH, in fact sell FFH and buy more AMZN.

 

Alas, i am who i am :-)

 

[Xerxes]

Most of the investment portfolio is held in the subs -- like 95% of it or so.  If the subs succeed in their underwriting, and if Hamlin Watsa does a good job of investing the subs' float for them, the subs can be highly profitable and can issue dividends to FFH holdco.  But, the subs can only issue a dividend to the holdco if the insurance regulators in the various jurisdictions approve.  On page 95 of the AR, FFH describes the approved dividend capacity of the major subs.  However, if the subs max out their dividends to the holdco, it results in a reduction of the subs' capital and underwriting capacity, so the challenge is to find that happy medium.

SJ

 

Thanks … I ll have a look at A/R page 95.

 

putting this in reverse, they said this yesterday in their COVID update "During the first quarter of 2020, Fairfax utilized approximately $400 million and $300 million of its cash and marketable securities to provide capital support to its insurance and reinsurance operations and to pay common and preferred share dividends, respectively."

 

When FFH injects money into the subs for capital support, as oppose to receive dividends from them, is that akin to equity injection?

 

If so when FFH does it for an entity like Allied World, which is co-owned with OMERS, does it mean that capital injection by FFH is pro-rated and matched by OMERS ? if FFH taking the full burden of that capital injection and OMERS not participating, that would mean that it is actually doing on its own behalf as well as OMERS, so in fact increasing its stake in Allied World as the expense of OMERS

 

[StubbleJumper]

Most of the investment portfolio is held in the subs -- like 95% of it or so.  If the subs succeed in their underwriting, and if Hamlin Watsa does a good job of investing the subs' float for them, the subs can be highly profitable and can issue dividends to FFH holdco.  But, the subs can only issue a dividend to the holdco if the insurance regulators in the various jurisdictions approve.  On page 95 of the AR, FFH describes the approved dividend capacity of the major subs.  However, if the subs max out their dividends to the holdco, it results in a reduction of the subs' capital and underwriting capacity, so the challenge is to find that happy medium.

SJ

 

Thanks … I ll have a look at A/R page 95.

 

putting this in reverse, they said this yesterday in their COVID update "During the first quarter of 2020, Fairfax utilized approximately $400 million and $300 million of its cash and marketable securities to provide capital support to its insurance and reinsurance operations and to pay common and preferred share dividends, respectively."

 

When FFH injects money into the subs for capital support, as oppose to receive dividends from them, is that akin to equity injection?

 

If so when FFH does it for an entity like Allied World, which is co-owned with OMERS, does it mean that capital injection by FFH is pro-rated and matched by OMERS ? if FFH taking the full burden of that capital injection and OMERS not participating, that would mean that it is actually doing on its own behalf as well as OMERS, so in fact increasing its stake in Allied World as the expense of OMERS

 

 

Yes, it is exactly an equity injection.  Some of us have been bitching and moaning over the past couple of months about the fact that some of the subs did not seem to have adequate capital to crank up their underwriting to exploit this hardening market.  If FFH is confident that it can write a CR or 95 or lower, it makes perfect sense to inject some money into the subs and rapidly grow the book of business.  For every dollar of capital injected into a sub, they can comfortably write $1.50 or $2 of incremental premium and invest those premium dollars in fixed income.  Page 195 of the AR depicts the existing premiums:capital ratios.

 

If an injection is made into a sub with a minority interest, presumably the minority will also pony up some cash.  Prem made some noise about Riverstone expanding its book in the future....

 

 

SJ

[Pedro]

Which subs do you believe received the capital?

 

How would  the average investor determine for themselves in an annual or quarterly report which subs are cutting it close to requiring capital? Any walk thorough or guidance would be greatly appreciated.

[petec]

They can’t buy any more equities. Simplistically, they can invest their equity in equities but their float must be invested in fixed income.

 

So the opportunities are in switching from treasuries to corporates at expanded spreads and buying back stock. They’re doing a little of both but neither will change their prospects much.

 

They entered this sell off fully invested in cyclical value stocks. As a result, there’s not much they can do.

 

Hi Petec,

 

How did you conclude this?  They've said numerous times, Sam Mitchell, Prem, Brian, Francis...there is no limitation to how much they can allocate to equities, be it float or equity, but they have to make sure the portfolio is in a position where they aren't risking a huge reduction in statutory surplus or liquidity.

 

 

 

I asked and they told me. As I understand it regulation does not explicitly forbid it but as you say, they can't risk the surplus or their liquidity, so to all practical intents and purposes they are limited, and it shows in their behaviour, because IIRC they have never invested substantially more than book value in equities. I must check.

 

[petec]

Petec / StubbleJumper

 

What is the link between cash at holding co. ... and the $40 billion portfolio ?

 

I understand that the debt they are raising, recap of insurance entities, dividends, buybacks, and the money they are getting by selling run-off business, and the buyout of the minorities are all financed through the holding company cash. That is clear.

 

What about the return on the $40 billion portfolio ? the returns generated by $40 billion portfolio are either unrealized (so not usable just yet), realized (some phantom accounting return but some real gain as well) or through dividend/interest streams. How does the interest/dividend generated by the portfolio flow back to the company holding co.

 

I am trying to understand the mechanics of how one side of the business (portfolio) is funding the overall FFH business (i.e. holding co. cash position)

 

In very rough and simplistic terms the $40bn splits $10bn equity (which FFH own) and $30bn float (which policyholders own, but FFH can keep the investment returns.

 

Those returns actually show up at the insurance subsidiaries, because that's where the float is. Insurance company profits (which includes investment returns) can be retained to fund growth or dividended up to the holdco.

 

The holdco's main source of cash flow is insurance subsidiary dividends. It uses these cash flows to service holdco prefs and debt, to pay head office costs, and to pay the dividend.

 

That's all fine. The issue at the moment is that the holdco actually needs to put money into the insurance subs to support growth (rather than receive dividends from them) and also needs to fund the purchase the Brit and eventually Allied minorities (Eurolife will fund the purchase of the Eurolife minority itself).

 

That's why holdco cash looks quite tight over the next few years. But the key point I think you're getting at is that they can't use the $40bn portfolio to service holdco cash needs because it is held at the insurance subsidiaries against future claims.

 

Edit: sorry, I didn't see that SJ had already answered this!