Fairfax 2020

[TwoCitiesCapital]

Just seems strange. Why plow $2.9 billion into corporate debt yielding 4.25% to just then go float a note for $600 million paying 4.65%?

 

I mean, I get that the money is in different places with the subsidiaries owning the corporates and the holding company issuing the debt, but this seems like bad economics to me unless if the revolver is more onerous and this is repaying that?

[petec]

The $2.9bn is part of the float. It’s not just in a different place, it has a fundamentally different purpose and it’s not really owned by FFH because it is “owed” to policyholders. For example, it cannot be used to recapitalize the insurance subs to help them grow in a hard market, and it can’t be used to buy back FFH shares for cancellation.

 

The cash at the holdco does belong to FFH. The question is how it’s funded. It can be equity or debt and if it’s debt it can be revolver or term. All that’s happening here is that they’re terming out most of the portion of the revolver debt that they’ve already spent (but not the portion they drew down last quarter as a precaution).

 

If one took your line of thinking, it would never make sense to buy treasuries, which by definition yield less than the cost of debt or equity funding. But it does make sense to buy treasuries, because they’re funded by float at (hopefully) a sub-100 CR.

[StubbleJumper]

Just seems strange. Why plow $2.9 billion into corporate debt yielding 4.25% to just then go float a note for $600 million paying 4.65%?

 

I mean, I get that the money is in different places with the subsidiaries owning the corporates and the holding company issuing the debt, but this seems like bad economics to me unless if the revolver is more onerous and this is repaying that?

 

 

I think the short answer is that FFH floated 10-year debt, which they need for the longer term financing of the holdco, while the corporates at 4.25% will likely be sold in roughly a year for a realised gain.  What is more, the corporates were largely funded from the revolver, which is a good tool to use opportunistically to exploit the temporary displacement of credit markets, but it's not a great tool for the longer term financing of the holdco. 

 

The money was made when FFH bought the corporates a few weeks ago, but it won't be realised until 2021.

 

 

SJ

[petec]

Just seems strange. Why plow $2.9 billion into corporate debt yielding 4.25% to just then go float a note for $600 million paying 4.65%?

 

I mean, I get that the money is in different places with the subsidiaries owning the corporates and the holding company issuing the debt, but this seems like bad economics to me unless if the revolver is more onerous and this is repaying that?

 

 

I think the short answer is that FFH floated 10-year debt, which they need for the longer term financing of the holdco, while the corporates at 4.25% will likely be sold in roughly a year for a realised gain.  What is more, the corporates were largely funded from the revolver, which is a good tool to use opportunistically to exploit the temporary displacement of credit markets, but it's not a great tool for the longer term financing of the holdco. 

 

The money was made when FFH bought the corporates a few weeks ago, but it won't be realised until 2021.

 

 

SJ

 

The corporates were bought in the insurance subs investment portfolios. They’re funded by premiums, not holdco debt.

 

I think you’re confusing the part of the revolver that was drawn down in Q1, which was reinvested “at a positive spread” (which may imply corporates, but they didn’t say that) but basically sits at the holdco as cash or near-cash in case of emergencies, with the part that was drawn down earlier and used for general holdco purposes, like recapping the subs, and has now been termed out.

[StubbleJumper]

Just seems strange. Why plow $2.9 billion into corporate debt yielding 4.25% to just then go float a note for $600 million paying 4.65%?

 

I mean, I get that the money is in different places with the subsidiaries owning the corporates and the holding company issuing the debt, but this seems like bad economics to me unless if the revolver is more onerous and this is repaying that?

 

 

I think the short answer is that FFH floated 10-year debt, which they need for the longer term financing of the holdco, while the corporates at 4.25% will likely be sold in roughly a year for a realised gain.  What is more, the corporates were largely funded from the revolver, which is a good tool to use opportunistically to exploit the temporary displacement of credit markets, but it's not a great tool for the longer term financing of the holdco. 

 

The money was made when FFH bought the corporates a few weeks ago, but it won't be realised until 2021.

 

 

SJ

 

The corporates were bought in the insurance subs investment portfolios. They’re funded by premiums, not holdco debt.

 

I think you’re confusing the part of the revolver that was drawn down in Q1, which was reinvested “at a positive spread” (which may imply corporates, but they didn’t say that) but basically sits at the holdco as cash or near-cash in case of emergencies, with the part that was drawn down earlier and used for general holdco purposes, like recapping the subs, and has now been termed out.

 

 

 

You are correct that FFH did not explicitly state that the revolver drawdown was invested in corporates, but simply that it was invested at a favourable spread.    I took the mental short cut to assume that the only way to get a favourable spread would be to invest it in risky bonds (risk-free only yields about 0.50%).  But, it is always possible that they found some sort of state/provincial/municipal debt or some sort of agency debt that yields enough to constitute a favourable spread.  Whatever sort of risky bonds they bought at the holdco level are likely to be sold in 2021 if the risk-free returns to a sane level and the spreads narrow back to near pre-covid levels. 

 

Out of curiosity, where did you see that the revolver draw for re-capping the subs has been termed out?  The risk of using a revolver for that purpose has always been that it needs to be regularly renegotiated and who knows what kind of covenants the lender will end up demanding.  But, if it's termed out for, say 5 years, that would be great.

 

 

SJ

[bearprowler6]

Just seems strange. Why plow $2.9 billion into corporate debt yielding 4.25% to just then go float a note for $600 million paying 4.65%?

 

I mean, I get that the money is in different places with the subsidiaries owning the corporates and the holding company issuing the debt, but this seems like bad economics to me unless if the revolver is more onerous and this is repaying that?

 

Regardless of how you slice it or try to spin it.....Fairfax is over leveraged and continues to have considerable funds (at the corporate as well as the subsidiary levels) tied up into a long series of illiquid under-performing equity investments as well as highly questionable non-publically traded  non-insurance subsidiaries. Furthermore, with Paul Rivett stepping aside (and I continue not to believe the party line on his reasons why) the company is without a solid executive transition plan despite its aging executive management team. In addition, the industry as a whole faces massive headwinds given the current ultra low interest rate environment. The weakness of their  focus on restaurants and retail has now been exposed. Their restaurant bet via Recipe is simply not financially viable given how restaurants will need to restructure until a COVID vaccine exists.

 

And yes I know --- their equity picks (Eurobank, Blackberry, Atlas Corp etc) are currently offering great long term value at these levels. Do they offer the best long term value (all things considered) of all the possible equity investments out there at this time? No way! And I am not talking short term here---I mean over any reasonable long term horizon.

 

I could go on but why bother. Those of us who have seen the light are out of this stock completely or have greatly reduced our positions. Those who still believe will learn soon enough.

 

 

I think the short answer is that FFH floated 10-year debt, which they need for the longer term financing of the holdco, while the corporates at 4.25% will likely be sold in roughly a year for a realised gain.  What is more, the corporates were largely funded from the revolver, which is a good tool to use opportunistically to exploit the temporary displacement of credit markets, but it's not a great tool for the longer term financing of the holdco. 

 

The money was made when FFH bought the corporates a few weeks ago, but it won't be realised until 2021.

 

 

SJ

 

The corporates were bought in the insurance subs investment portfolios. They’re funded by premiums, not holdco debt.

 

I think you’re confusing the part of the revolver that was drawn down in Q1, which was reinvested “at a positive spread” (which may imply corporates, but they didn’t say that) but basically sits at the holdco as cash or near-cash in case of emergencies, with the part that was drawn down earlier and used for general holdco purposes, like recapping the subs, and has now been termed out.

 

 

 

You are correct that FFH did not explicitly state that the revolver drawdown was invested in corporates, but simply that it was invested at a favourable spread.    I took the mental short cut to assume that the only way to get a favourable spread would be to invest it in risky bonds (risk-free only yields about 0.50%).  But, it is always possible that they found some sort of state/provincial/municipal debt or some sort of agency debt that yields enough to constitute a favourable spread.  Whatever sort of risky bonds they bought at the holdco level are likely to be sold in 2021 if the risk-free returns to a sane level and the spreads narrow back to near pre-covid levels. 

 

Out of curiosity, where did you see that the revolver draw for re-capping the subs has been termed out?  The risk of using a revolver for that purpose has always been that it needs to be regularly renegotiated and who knows what kind of covenants the lender will end up demanding.  But, if it's termed out for, say 5 years, that would be great.

 

 

SJ

[petec]

Just seems strange. Why plow $2.9 billion into corporate debt yielding 4.25% to just then go float a note for $600 million paying 4.65%?

 

I mean, I get that the money is in different places with the subsidiaries owning the corporates and the holding company issuing the debt, but this seems like bad economics to me unless if the revolver is more onerous and this is repaying that?

 

 

I think the short answer is that FFH floated 10-year debt, which they need for the longer term financing of the holdco, while the corporates at 4.25% will likely be sold in roughly a year for a realised gain.  What is more, the corporates were largely funded from the revolver, which is a good tool to use opportunistically to exploit the temporary displacement of credit markets, but it's not a great tool for the longer term financing of the holdco. 

 

The money was made when FFH bought the corporates a few weeks ago, but it won't be realised until 2021.

 

 

SJ

 

The corporates were bought in the insurance subs investment portfolios. They’re funded by premiums, not holdco debt.

 

I think you’re confusing the part of the revolver that was drawn down in Q1, which was reinvested “at a positive spread” (which may imply corporates, but they didn’t say that) but basically sits at the holdco as cash or near-cash in case of emergencies, with the part that was drawn down earlier and used for general holdco purposes, like recapping the subs, and has now been termed out.

 

 

 

You are correct that FFH did not explicitly state that the revolver drawdown was invested in corporates, but simply that it was invested at a favourable spread.    I took the mental short cut to assume that the only way to get a favourable spread would be to invest it in risky bonds (risk-free only yields about 0.50%).  But, it is always possible that they found some sort of state/provincial/municipal debt or some sort of agency debt that yields enough to constitute a favourable spread.  Whatever sort of risky bonds they bought at the holdco level are likely to be sold in 2021 if the risk-free returns to a sane level and the spreads narrow back to near pre-covid levels. 

 

Out of curiosity, where did you see that the revolver draw for re-capping the subs has been termed out?  The risk of using a revolver for that purpose has always been that it needs to be regularly renegotiated and who knows what kind of covenants the lender will end up demanding.  But, if it's termed out for, say 5 years, that would be great.

 

 

SJ

 

Well in effect they’ve termed it out. They’ve just issued a 10y bond and the stated use of proceeds is to repay the revolver.

 

Maybe they’ll keep the revolver wholly drawn, but cash/near cash at the holdco then rises. Same effect.

 

Agree re risk free rate at 0.5% but I guess my broader point is I did not take the $2.9bn of corporates to include holdco reinvestment of the revolver draw. I assumed that was all in the investment portfolio.

[Bryggen]

hi all,

would love to hear your take on the depressed share price. Bought 5 years ago in the high 500 and it hasn't turned out quite as good as I expected. Now, the drop we suffered the past month or so hurts. As most of you, I am in for the long run with FFH , but still have some concerns of the inability to drive the share price to its actual value.

Any thoughts?

Thanks!

[Xerxes]

I will give my opinion. The current downdraft on the share price is probably due to some and of points below.

 

- anticipating a mark-to-market decline on BV due to the positions that are marked-to-market (i.e. BB etc.)

- liquidity concern with holding company

- the trading liquidity becomes apparent during market downturn

- FX rate USD:CAD; share price today in $CAD is the same as in 2013, but with a very different FX rate.

- systematic concern with larger holdings that are equity accounted (Recipe, Seanspan, Eurobank) all of which are getting a covid broadside hit

 

of the above, (1) and (5) are general market condition, so will reverse in time. And then it becomes function of good those individual picks were as oppose to correlation racing to 1.

(4) and (3) you cannot do anything about it.

(2) is probably is no concern based on previous posters

[petec]

All that, and the fact that if you look at the last 10 years FFH can't invest for sh1t, so one of the key value drivers is broken. That impacts the p/bv the market will pay.

 

On the positive side:

1) We are likely in a hard market, which drives better CR's and investment leverage.

2) Several of FFH's big holdings (especially ATCO and EUROB in my view) look very cheap.

3) FFH are working to improve investment decisions, although it's a leap of faith to assume this will work.

 

[chrispy]

Not disagreeing with any of the points made by petec or Xerxes but when have their holdings not looked 'cheap'?  I feel like they have been 'cheap' since they were bought

[petec]

Not disagreeing with any of the points made by petec or Xerxes but when have their holdings not looked 'cheap'?  I feel like they have been 'cheap' since they were bought

 

I agree.

[petec]

Actually I don’t quite agree. There was a point when Quess looked actively expensive!

[Bryggen]

Thanks guys for your great input. Hope my question and the answers received have nothing to do with the 8+% pop we got today ;)

[KFS]

All that, and the fact that if you look at the last 10 years FFH can't invest for sh1t, so one of the key value drivers is broken. That impacts the p/bv the market will pay.

 

On the positive side:

1) We are likely in a hard market, which drives better CR's and investment leverage.

2) Several of FFH's big holdings (especially ATCO and EUROB in my view) look very cheap.

3) FFH are working to improve investment decisions, although it's a leap of faith to assume this will work.

 

Wade Burton has had a 19.5% compound return over 10 years.  Just imagine how different FFH would look today if Wade had been the leader of the FFH investment team during this entire period. 

 

 

[Viking]

Not disagreeing with any of the points made by petec or Xerxes but when have their holdings not looked 'cheap'?  I feel like they have been 'cheap' since they were bought

 

To add to what Petec mentions, look at pretty much all the Indian companies held the past 3-5 years. There was what looks to be a bubble in Indian stocks a couple pf years ago. The ride that Fairfax has been on with these holding has been absolutely amazing.

 

Moving forward Fairfax had better hope that Hoisington’s macro call is wrong (that we are moving towards mild deflation). Emerging markets (India) could be challenged moving forward. Some of the individual holding like Recipe (Canadian restaurant stocks - many full serve) will also struggle mightily in the near term.

 

Is is staggering how the outlook for Fairfax has changed in 12 weeks. 12 weeks ago my view was Fairfax was ideally positioned to benefit from hardening insurance market and risk on in stocks (including emerging markets). They had made a number of moves to lock in some investment gains and get other investments positioned to succeed.

 

The virus has completely submarined them. Completely unexpected. Resulting in more pot holes that will now need to be filled in (testing shareholders patience).

 

My focus right now is quality. Recently bought CB and WRB. Cheap; well managed; easy to understand; well positioned. I feel good when i listen to their conference calls (although i much prefer listening to the old Berkely to the son :-).

[Xerxes]

Viking, my non-scientific but philosophical view is that the pendulum always swings back …

 

It may be rough for FFH, but I think both BRK and FFH had about the same peak-to-trough drop. FFH a bit more.

Just like FFH got a few large businesses impacted, BRK has a whole host of entities impacted as well (Coka Cola, Airlines, etc.).

 

They are both not investing heavily in equities in the dip it seems (from what we know); FFH b/c it cannot (perhaps), BRK because it doesn't want to.

I think as long as both names remain diversified within your own personal portfolio, that ought to do it.

 

I personally greatly admire the collection of old economy assets Fairfax India has.

EM will always be a challenge, … until it isn't a challenge anymore. Then people will flock back to India, they would call it "like investing in China in 2001" and that theme will go on, until pendulum swings back and it is no longer "like investing in China in 2001" etc. it is like investing in Chili in 2019. Unfortunately the pendulum swing happens over many years and it doesn't swing back in a way we can forecast.

 

I work in the aerospace industry for more than a decade; we have been doing well... our industry has been growing by this much X CAGR, i.e. Airbus pumping out +50 A.320 per month (I don't work for Airbus, but just an example), and that was baseline of all forecast … all was well, life was good …. well until suddenly it isn't (i.e. Covid).

 

[Viking]

Viking, my non-scientific but philosophical view is that the pendulum always swings back …

 

It may be rough for FFH, but I think both BRK and FFH had about the same peak-to-trough drop. FFH a bit more.

Just like FFH got a few large businesses impacted, BRK has a whole host of entities impacted as well (Coka Cola, Airlines, etc.).

 

They are both not investing heavily in equities in the dip it seems (from what we know); FFH b/c it cannot (perhaps), BRK because it doesn't want to.

I think as long as both names remain diversified within your own personal portfolio, that ought to do it.

 

I personally greatly admire the collection of old economy assets Fairfax India has.

EM will always be a challenge, … until it isn't a challenge anymore. Then people will flock back to India, they would call it "like investing in China in 2001" and that theme will go on, until pendulum swings back and it is no longer "like investing in China in 2001" etc. it is like investing in Chili in 2019. Unfortunately the pendulum swing happens over many years and it doesn't swing back in a way we can forecast.

 

I work in the aerospace industry for more than a decade; we have been doing well... our industry has been growing by this much X CAGR, i.e. Airbus pumping out +50 A.320 per month (I don't work for Airbus, but just an example), and that was baseline of all forecast … all was well, life was good …. well until suddenly it isn't (i.e. Covid).

 

Xerxes, you seem to have it all well thought out :-) i do own BRK. In all honesty, probably mostly just because i like Buffett. And the fact they have so much cash (ideal in the current environment). It is likely just a short term hold... i will be happy to sell for a quick 3-4% gain. Done it a couple of time already :-)

 

Fairfax India looks interesting. I do like some of the assets (but not CSB). But until i get some clarity regarding the path of virus i am going to get very selective (which means FIH will just stay on my watch list :-)

[petec]

Viking

 

If we get deflation a) FFH has the deflation swaps and b) I think I’d rather be in EM than DM. EM has the demographic advantage, plus it has higher inflation levels and therefore is more likely to have disinflation than deflation. Only the strong dollar would be an issue but EM is less exposed to the dollar than it used to be.

 

Why don’t you like CSB? Funnily enough I was thinking yesterday that FFH has widespread EM bank exposure (CIB, UBN, CSB, plus some smalls and arguably Eurobank) and I suspect there’s a lot of knowledge that can be shared across them. EM banking is a great business and the opportunity technology offers to bank the previously unbanked is huge. I think we will see Fairfax’s banks create huge value over the next couple of decades.

 

Pete

[Spekulatius]

Not disagreeing with any of the points made by petec or Xerxes but when have their holdings not looked 'cheap'?  I feel like they have been 'cheap' since they were bought

 

To add to what Petec mentions, look at pretty much all the Indian companies held the past 3-5 years. There was what looks to be a bubble in Indian stocks a couple pf years ago. The ride that Fairfax has been on with these holding has been absolutely amazing.

 

Moving forward Fairfax had better hope that Hoisington’s macro call is wrong (that we are moving towards mild deflation). Emerging markets (India) could be challenged moving forward. Some of the individual holding like Recipe (Canadian restaurant stocks - many full serve) will also struggle mightily in the near term.

 

Is is staggering how the outlook for Fairfax has changed in 12 weeks. 12 weeks ago my view was Fairfax was ideally positioned to benefit from hardening insurance market and risk on in stocks (including emerging markets). They had made a number of moves to lock in some investment gains and get other investments positioned to succeed.

 

The virus has completely submarined them. Completely unexpected. Resulting in more pot holes that will now need to be filled in (testing shareholders patience).

 

My focus right now is quality. Recently bought CB and WRB. Cheap; well managed; easy to understand; well positioned. I feel good when i listen to their conference calls (although i much prefer listening to the old Berkely to the son :-).

 

I agree with you. FFH looks like trash. It had a stub left that I should have sold at $450 when I sold the bulk of my position and ended up selling into the decline at $315 and I am not looking back.

 

Drawing down the revolver should raise some eyebrows as it clearly shows that they walk on thin ice. Cigarbutt also made the same point basically looking at how heavily their are into equities relative to their equity base.

[Pedro]

Wade Burton has had a 19.5% compound return over 10 years.  Just imagine how different FFH would look today if Wade had been the leader of the FFH investment team during this entire period.

 

I've listened to Wade speak before. He's sharp.

 

How does a human with record like this stay in the bullpen when the starting pitching is hitting batters.  Give him the saddle and stay out of his way.

 

I don't imagine FFH shares make up a large % of his portfolio when you make a 19.5% compounded return over a decade.

 

It's impressive they've kept him.  I hope it is evidence of good culture  & the deep bench Prem talks about

 

[Viking]

Viking

 

If we get deflation a) FFH has the deflation swaps and b) I think I’d rather be in EM than DM. EM has the demographic advantage, plus it has higher inflation levels and therefore is more likely to have disinflation than deflation. Only the strong dollar would be an issue but EM is less exposed to the dollar than it used to be.

 

Why don’t you like CSB? Funnily enough I was thinking yesterday that FFH has widespread EM bank exposure (CIB, UBN, CSB, plus some smalls and arguably Eurobank) and I suspect there’s a lot of knowledge that can be shared across them. EM banking is a great business and the opportunity technology offers to bank the previously unbanked is huge. I think we will see Fairfax’s banks create huge value over the next couple of decades.

 

Pete

 

Pete, if we get deflation it will be the result of a severe, likely global, recession. This will hit EM harder than DM. I think India is in a precarious position; last year their financial system had serious issues and my guess is they were not fixed. The current worldwide recession could not have come at a worse time. CSB might be a good bank; it is just in a very tough situation.

 

I do like CIB’s long term track record but will be staying clear of EM stocks for now.

 

Having said all that, for those ok with high uncertainty, able to handle severe volatility and with a long term perspective there is likely lots of money to be made investing in EM stocks today. Just not a good fit for me :-)

[petec]

I’m not so worried by the kind of short, sharp deflation you get in a big recession. First, that might just bring the deflation swaps to life. Second, I think a big recession is already priced into the EM stocks and currencies I look at. Third, there is a huge monetary and fiscal response. And fourth, it’s possible EM comes out quicker and stronger than DM, as happened in 2010.

 

The other kind of deflation would be a long slow Japan-style one, caused by the weight of debt built up in successive crises. That’s what Lacy Hunt argues for in the video recently shared on the Hoisington thread. If that happens it will be too slow for the deflation swaps, but I’d expect EM to outperform DM significantly.

 

Separately re India, I think a lot has been done to solve the issues. The job is not complete but the problems are largely in the public banks (NPLs) and non-bank financials (liquidity). CSB is recently recapitalised and under new management and it might actually be a great environment for them to grow.

[Xerxes]

Pedro/KFS

I am not familiar of the team working their equities side. Do you know how much dollar value or percentage he is managing. high double digit is pretty impressive. Who knows maybe he was shorting Resolute Forest on leverage ?  for me the key is going to be the Q1 13F; i don't expect FFH loading up the truck during the drawdown. But I very much care about their position sizing of the two names that they chose to 'market' during the AGM: i.e. Exxon and Google. For me that would be key and indicative of new direction.

 

Based on a board member recommendation on a different thread, I listened to two Google Talk videos with Thomas Russo. Very interesting with his concepts of capacity to suffer. In some ways, that capacity to suffer applies to us FFH shareholders, I never expected major growth (have other growth engines in my portfolio); rather wanted a modest/steady but continuous growth.

 

Let's hope there is light at the end of tunnel.

[petec]

Pedro/KFS

I am not familiar of the team working their equities side. Do you know how much dollar value or percentage he is managing. high double digit is pretty impressive. Who knows maybe he was shorting Resolute Forest on leverage ?  for me the key is going to be the Q1 13F; i don't expect FFH loading up the truck during the drawdown. But I very much care about their position sizing of the two names that they chose to 'market' during the AGM: i.e. Exxon and Google. For me that would be key and indicative of new direction.

 

Based on a board member recommendation on a different thread, I listened to two Google Talk videos with Thomas Russo. Very interesting with his concepts of capacity to suffer. In some ways, that capacity to suffer applies to us FFH shareholders, I never expected major growth (have other growth engines in my portfolio); rather wanted a modest/steady but continuous growth.

 

Let's hope there is light at the end of tunnel.

 

I think the % managed by Wade and his team is still relatively small (maybe 15%) but growing. Prem names about 12 members of this team in the letter including Wendy Teramoto who he describes as Wilbur Ross' right hand for 20 years. (Sam Mitchell is a notable absentee - I am not sure whether he is still at Fairfax.)

 

More importantly, it sounds (from the letter and the AGM call) as though Wade's team has an increasing influence on decisions made by Prem, Roger, and Brian. The sense I get is that we are about halfway through the handover to the younger team. It's taken a decade, and it'll take a decade more. But their influence is growing.

 

One thing I would say, though, is that Fairfax should not be in your portfolio for steady but continuous growth. That's Berkshire, or Markel. Prem, for all his faults, has always been explicit that results will be lumpy. That's just the nature of the kind of deep value investing they do.