Fairfax 2023

[Daphne]

With respect to assertions that large trades are related to TRS…I’m wondering about the catalyst …given the timing,…if parties would be responsible for paying upcoming dividend?

[StubbleJumper]

33 minutes ago, gfp said:

 

Apologies, as this is getting repetitive, but there was again a huge trade (~210,000) shares on the open.

 

No apology required.  I, for one, appreciate when you flag these strange trades as I rarely take a careful look at FFH's daily price quote.  I usually just pull up the USD price to see what it's done during the day, so I wouldn't notice a large block trade on the Canadian market.

 

 

SJ

[gfp]

Yeah, it's gonna stick out for a while on the Canadian price chart...  Three of these things are not like the others.

[TwoCitiesCapital]

1 hour ago, jfan said:

Sorry I'm a slow learner but FFH's ROE since 2002 has averaged 8% (with a wide dispersion) and a median of 6% (IQR25 2%, IQR75 12%).

With it trading at P:E of 6x, is the investment narrative here that FFH can sustain its current earnings for a longer period of time relative to its historical performance? Is then the hope here, that their PE multiple will expand to 10x?

 

 

 

Yes, I think that's largely the argument. If they lock in current 5-10 year yields, their fixed income portfolio alone would generate $1.3-1.5 billion fairly sustainably. The current price is about 10x multiple on those earnings without including the lumpy incremental earnings from insurance, non insurance subs, and the equity portfolio.

 

The real question is what rates/duration have they locked in. Don't want to give them credit too soon seeing as we missed the turn on 2018/2019 and shareholders had 4-5 years of declining interest income, and no duration exposure, while waiting for the short term posturing to pay off. 

 

Then we have to consider that things seem to be looking great for their insurance business which is growing double digits every year and will provide some lasting tailwind to earnings of another $1+ billion a year barring catastrophes. 

 

And then, while lumpy, their equity and non-insurance subs portfolio seems primed to do very well over the next few years where the pre-2020 years were fairly lackluster in that regard. 

 

So it's definitely a set-up where it seems a very low hurdle for them to do significantly better than prior years on a semi-sustainable basis. 

[Viking]

10 hours ago, jfan said:

Sorry I'm a slow learner but FFH's ROE since 2002 has averaged 8% (with a wide dispersion) and a median of 6% (IQR25 2%, IQR75 12%).

With it trading at P:E of 6x, is the investment narrative here that FFH can sustain its current earnings for a longer period of time relative to its historical performance? Is then the hope here, that their PE multiple will expand to 10x?

 

@jfan my view is looking at historical numbers for Fairfax (especially 2010-2020) is pretty much useless in helping an investor determine what the company will earn in 2023 and future years. Why? Equity hedges. Those two words that make long term investors in Fairfax curl up in a fetal position and weep loudly. 
 

From 2010 to 2020 Fairfax lost $5.4 billion on its equity hedge positions (pre-tax). This was a average loss of $500 million per year for straight 11 years (see my table below).
 

Now i don’t want to get sidetracked in of why Fairfax did this. Here is the good news for investors today… Fairfax has stated numerous times that they will no longer short individual companies or indices (final position was exited in 2020). What a forward looking investor needs to understand is these losses were one-time in nature and will not be repeated in the future.

 

It is like a $500 million annual expense (from 2010-2020) suddenly ended for Fairfax on Jan 1, 2021. Fairfax shareholders should have organized a parade or something! What is the value to Fairfax shareholders of that happening?
 

Guess what losing $500 million per year for 11 years does to your historical (backward looking) ROE calculation over that time period? Or your earnings? Or book value? Yes, not pretty. 
 

But guess what happened to Fairfax’s underlying business did over the 2010-2020 period? Its insurance business went from $4.4 billion in net written premiums to $15 billion in 2020 (and est $22 billion in 2022). Total investments grew from $21 billion to $43 billion (and est $52 billion in 2022). 

Fairfax’s earnings power has exploded higher from 2010 to today. Fairfax is like a 100m sprinter who had been racing for 11 straight years will $500 million weights wrapped around their ankles. Except, today the ankle weights have been removed. And the sporting world has no idea how fast this sprinter can actually run. We all got a glimpse in 2021 (record earnings). But the spiking of bond yields (and subsequent $1.4? billion in losses on bond portfolio) resulted in a false start in 2022. 

 

And here we are at the starting line in 2023. All the journalists (investors and analysts) are looking at the sprinters (P&C insurers). They are wondering about this Fairfax guy. They still think he is the sprinter they saw in 2010-2020 who finished last in every race (ROE, growth in BV, stock price). They think the results from 2021 were a fluke - a first place finish (my guess). A few journalists are wondering if the sprinter we saw in 2021 is for real… Well, we will all get our answer in 2023 and 2024. With the $500 million shackles removed, i think Fairfax is going to surprise everyone with how much it is going to earn moving forward. 

----------

The 'equity hedge' strategy was 'officially' ended way back in late 2016. So most of the losses were incurred from 2010-2017.  The final position was exited in 2020, giving Fairfax investors one more nasty surprise. But really from 2018 the size of the losses from the equity hedges had dropped significantly and by the start of 2021 they had ended completely. (And what do you know... 2021 was a record year for earnings for Fairfax).

----------

In a bizarre twist, Fairfax's 'equity hedge' position of the past is a gift for new(er) shareholders. It is the single largest reason Fairfax stock (still) sells at such a cheap price today. 

 

 

 

Edited January 14, 2023 by Viking

[jfan]

1 hour ago, Viking said:

 

@jfan my view is looking at historical numbers for Fairfax (especially 2010-2020) is pretty much useless in helping an investor determine what the company will earn in 2023 and future years. Why? Equity hedges. Those two words that make long term investors in Fairfax curl up in a fetal position and weep loudly. 
 

From 2010 to 2020 Fairfax lost $5.4 billion on its equity hedge positions (pre-tax). This was a average loss of $500 million per year for straight 11 years (see my table below).
 

Now i don’t want to get sidetracked in of why Fairfax did this. Here is the good news for investors today… Fairfax has stated numerous times that they will no longer short individual companies or indices (final position was exited in 2020). What a forward looking investor needs to understand is these losses were one-time in nature and will not be repeated in the future.

 

It is like a $500 million annual expense (from 2010-2020) suddenly ended for Fairfax on Jan 1, 2021. Fairfax shareholders should have organized a parade or something! What is the value to Fairfax shareholders of that happening?
 

Guess what losing $500 million per year for 11 years does to your historical (backward looking) ROE calculation over that time period? Or your earnings? Or book value? Yes, not pretty. 
 

But guess what happened to Fairfax’s underlying business did over the 2010-2020 period? Its insurance business went from $4.4 billion in net written premiums to $15 billion in 2020 (and est $22 billion in 2022). Total investments grew from $21 billion to $43 billion (and est $52 billion in 2022). 

Fairfax’s earnings power has exploded higher from 2010 to today. Fairfax is like a 100m sprinter who had been racing for 11 straight years will $500 million weights wrapped around their ankles. Except, today the ankle weights have been removed. And the sporting world has no idea how fast this sprinter can actually run. We all got a glimpse in 2021 (record earnings). But the spiking of bond yields (and subsequent $1.4? billion in losses on bond portfolio) resulted in a false start in 2022. 

 

And here we are at the starting line in 2023. All the journalists (investors and analysts) are looking at the sprinters (P&C insurers). They are wondering about this Fairfax guy. They still think he is the sprinter they saw in 2010-2020 who finished last in every race (ROE, growth in BV, stock price). They think the results from 2021 were a fluke - a first place finish (my guess). A few journalists are wondering if the sprinter we saw in 2021 is for real… Well, we will all get our answer in 2023 and 2024. With the $500 million shackles removed, i think Fairfax is going to surprise everyone with how much it is going to earn moving forward. 

----------

The 'equity hedge' strategy was 'officially' ended way back in late 2016. So most of the losses were incurred from 2010-2017.  The final position was exited in 2020, giving Fairfax investors one more nasty surprise. But really from 2018 the size of the losses from the equity hedges had dropped significantly and by the start of 2021 they had ended completely. (And what do you know... 2021 was a record year for earnings for Fairfax).

----------

In a bizarre twist, Fairfax's 'equity hedge' position of the past is a gift for new(er) shareholders. It is the single largest reason Fairfax stock (still) sells at such a cheap price today. 

 

 

 

Thanks @Viking That makes a ton of sense. The average basic shares outstanding during this period was 25 million. So these equity and CPI hedges cost them $21-22/share each year in earnings. 

 

(I know the math is not precise) Their average EPS during this period was $21/share on an average BVPS of $406/share USD. 

 

IF we add these unforced errors back to their average EPS, this would suggest that they SHOULD have achieved 10% ROE through this time period unhedged. 

 

IF the investment team is still roughly the same and have incorporated their painful lesson for future decisions, and the current portfolio state, I am hopeful too that past is not reflective for the future.

 

Many thanks.

 

 

 

[Xerxes]

4 hours ago, Viking said:

It is the single largest reason Fairfax stock (still) sells at such a cheap price today. 

 

 

 

It is not just about having hedges…. But how they were executed.
 

still astonishes me how could a so-called “equity hedge” whose raison d’être is downside protection yields a $500 million loss in a year when the market crashed by 40% in matter of weeks !!

it is one thing to moan about the rationale endlessly, it is another thing to point out the oddity in the way it was structured. Something changed within Fairfax, almost as if some folks in their risk management were not paying attention. 

 

[giulio]

Hi everyone,

 

this is Giovanni from Italy. I've been following the forum for 2+ years and I just purchased my membership. 

This place is awesome! I hope I can contribute to keeping the quality of the discussion high with some posts.

 

WRT the TRS, I never understood why it is seen as a repurchase of shares.

This is my prospective: if shares are worth $1000 and FFH holds TRS on approximately 2m shares @ $373, then I would expect the company to collect $1.3 billion ((1000-373)x2m) as long as this position is open, assuming they would close it once the share price converges to intrinsic value.

What FFH decides to do with the cash flows is entirely up to them. 

I believe management thought their stock was a great investment in 2020, but they did not have enough money/cash flow to purchase shares. The TRS was a "creative" solution to both their problems: 1) make an investment with superb risk/reward, 2) generate cash flows.

 

The reason I think this was a great move is simple: TRS cash flows can ALSO be used to repurchase shares, driving IV higher, which in turn generates more cash and so on, as long as the position is open.

 

This is why I would be extremely disappointed if parties to the TRS are actually winding it down.

 

Am I missing something? Isn't this the way TRS work?

 

thank you all for the discussion,

G

 

[drzola]

Gio; I sat with you and my young friend (were both from Saskatoon Canada) at the 2016 Fairfax Annual meeting at Roy Thomson Hall. I believe you and your girlfriend were touring Central Eastern Canada at the time?

 

Sincerely;   Steve

[cwericb]

Welcome back Gio.

[cwericb]

On 1/8/2023 at 7:06 PM, Xerxes said:

Nova Scotia aviation company offers stock options in a deal to tackle $115 million debt | SaltWire

 

Has anyone taken a close look at Chorus Aviation?

 

"Chorus’ vision is to deliver regional aviation to the world. Headquartered in Halifax, Nova Scotia, Chorus is an integrated provider of regional aviation solutions, including asset management services. Its principal subsidiaries are: Falko Regional Aircraft, the world’s largest aircraft lessor and asset manager focused solely on the regional aircraft leasing segment; Jazz Aviation, the sole provider of regional air services to Air Canada; and Voyageur Aviation, a provider of specialty air charter, aircraft modification, and parts provisioning services to regional aviation customers around the world."

 

Interesting to note that both Fairfax and Brookfield are involved with Chorus and Paul Rivett is on the board of directors. Picked up a few shares in CHR last week and may acquire some more next week.

 

https://chorusaviation.com/

[Viking]

2 hours ago, cwericb said:

 

Has anyone taken a close look at Chorus Aviation?

 

"Chorus’ vision is to deliver regional aviation to the world. Headquartered in Halifax, Nova Scotia, Chorus is an integrated provider of regional aviation solutions, including asset management services. Its principal subsidiaries are: Falko Regional Aircraft, the world’s largest aircraft lessor and asset manager focused solely on the regional aircraft leasing segment; Jazz Aviation, the sole provider of regional air services to Air Canada; and Voyageur Aviation, a provider of specialty air charter, aircraft modification, and parts provisioning services to regional aviation customers around the world."

 

Interesting to note that both Fairfax and Brookfield are involved with Chorus and Paul Rivett is on the board of directors. Picked up a few shares in CHR last week and may acquire some more next week.

 

https://chorusaviation.com/

@cwericb i am confused. When i read the press release from Chorus’ web site it sounds to me like the debentures Fairfax owned were repaid early. And the 24 millions warrants Fairfax had expired worthless.

 

Does this not mean that Fairfax no longer has an investment in Chorus?

—————

- https://www.newswire.ca/news-releases/chorus-aviation-announces-redemption-of-its-6-00-senior-debentures-and-sale-of-two-wholly-owned-aircraft-873908141.html

—————

- https://chorusaviation.com/chorus-aviation-closes-redemption-of-its-6-00-senior-debentures/

 

HALIFAX, NS, Dec. 29, 2022 /CNW/ – Chorus Aviation Inc. ("Chorus") (TSX: CHR) today announced that it has closed the redemption of $115,000,000 principal amount of Chorus’ 6.00% Senior Debentures due December 31, 2024 (the "Debentures"), representing all of the Debentures that were outstanding immediately prior to the redemption. Chorus previously announced its intention to redeem the Debentures on December 14, 2022.

 

The Debentures were secured by certain Dash 8-100 and Dash 8-300 aircraft and real estate property owned by Chorus’ subsidiaries (the "Collateral Security"). The Collateral Security has now been released.

 

In connection with the issuance of the Debentures, Chorus issued 24,242,424.242 warrants to affiliates of Fairfax Financial Holdings Limited ("Fairfax") entitling the holder thereof to acquire, on exercise of each warrant and subject to certain adjustments, one Class A Variable Voting Share or Class B Voting Share of Chorus at a price of $8.25 per share (the "Warrants"). The Warrants have now expired. 

 

Edited January 16, 2023 by Viking

[cwericb]

Yes it looks like the debt to Fairfax is being paid out. However, I thought it interesting that Paul Rivett was involved.

[gfp]

On 1/13/2023 at 8:55 AM, gfp said:

 

Apologies, as this is getting repetitive, but there was again a huge trade (~210,000) shares on the open.

 

This morning the large opening tick trade was "only" 75,000 shares.  I do generally agree with the speculation that this is related to the timing of the ex-dividend date and the various hedging counter-parties to the total return swaps.  I would expect the unusual first-tick volume to disappear after the dividend.

[MMM20]

1 hour ago, gfp said:

 

This morning the large opening tick trade was "only" 75,000 shares.  I do generally agree with the speculation that this is related to the timing of the ex-dividend date and the various hedging counter-parties to the total return swaps.  I would expect the unusual first-tick volume to disappear after the dividend.

 

I'm trying to understand. Is the implication that the recent rally might be mostly due to some technical supply/demand imbalance around the TRS / ex-dividend date? Could someone please explain for the slowest among us? Maybe I'm wrong but it seems like the stock almost always seems to rally in January, at least for the last 5-6 years... so is this all just amplifying typical "seasonality" in what is a relatively less liquid stock?

 

Edited January 16, 2023 by MMM20

[Xerxes]

8 minutes ago, MMM20 said:

 

I'm trying to understand. Is the implication that the recent rally might be mostly due to some technical supply/demand imbalance around the TRS / ex-dividend date? Could someone please explain for the slowest among us? Maybe I'm wrong but it seems like the stock almost always seems to rally in January, at least for the last 5-6 years... so is this all just amplifying typical "seasonality" in what is a relatively less liquid stock?

 

 

I would have no clue on the recent rally except that the stock may just be catching up to its real worth.

 

I dont think stock rallies so much to catch the ex-dividend date.

It is only $10 and low yield at these prices.

 

My earlier comment about TRS, was that the counter-party by buying FFH shares directly off the market, they can hedge future deteriotion on their blown-out position. Example, as FFH continnues to rally in 2023, the counter-party needs to put more and more collateral/payment to FFH, that "temporary loss" can be offset by the slug of shares that it now owns that had apperciated in value. Of course, this is only a working theory, if the counter-party had proper risk management (and were not making a directional bet) they would have been buying those FFH shares around the same time as when they establish the TRS (and not now), such that they would risk-neutral.

 

[Viking]

5 hours ago, cwericb said:

Yes it looks like the debt to Fairfax is being paid out. However, I thought it interesting that Paul Rivett was involved.

I am of the opinion that Fairfax shifted their equity investing approach somewhere around 2018. Since 2018 they are just making much, much better decisions with their equity investments (especially when compared to 2016-2017). 
 

Paul left Fairfax in 2019 and i wonder if his leaving was not tied to Fairfax’s shift in strategy with its equity holdings (‘fit’, i like to call it). Fairfax Africa was Paul’s baby and it was a complete dog costing Fairfax hundreds of millions in cash and also significant damage to its reputation (lots of investors in Fairfax blindly invested in Fairfax Africa too and lost their shirts). It has taken Fairfax years to ‘fix’ the many poorly performing equity investments purchased before 2018. Paul continues to be Executive Chairman of Recipe and that stock was a another dog for minority shareholders who owned it long term.
 

Clearly Paul didn’t leave Fairfax to ‘retire’. What companies does he continue to be actively involved with? He is currently CEO and Executive Chairman with Greenfirst. That company has ‘old Fairfax’ written all over it (poorly managed, terrible cost structure, very tough current environment). Where do minority shareholders fit? Good luck. Paul is also involved with Torstar. Currently he and Bitove are engaged  in a very public falling out.
 

I am not suggesting Paul is not an outstanding person. Or that he will not make himself and shareholders a bunch of money moving forward. Having said that, i am very happy that Fairfax appears to have learned from their past mistakes and has moved up the quality ladder (with top notch management at the top of the list) when making equity purchases. 
 

i think it is very instructive to look at who replaced Paul at Fairfax… Peter Clarke. Peter does not look like he is actively driving the bus on equity purchases. I don’t know this but his role in the company appears to be a little different than Paul’s role was in the past.

 

Fairfax has a $51-$52 billion investment portfolio. They look well positioned today in terms of management. 

Edited January 16, 2023 by Viking

[cwericb]

Thanks Viking, I fully agree with what you are saying. Just thought it was interesting that Rivett was involved here and I still question the sweetheart deal on Torstar.  However, that is past history.

[glider3834]

3 hours ago, Viking said:

i think it is very instructive to look at who replaced Paul at Fairfax… Peter Clarke. Peter does not look like he is actively driving the bus on equity purchases. I don’t know this but his role in the company appears to be a little different than Paul’s role was in the past.

Yes agree I think the role has shifted from Investment focus to Insurance business focus & I would say the optimisation of Fairfax's insurance businesses has been a focus over the last 12 mths given Ambridge & C&F pet sales as examples - I think Peter Clarke has actuarial background & is go to person on conference calls on any questions relating to insurance business. So I think the role has a central focus being Strategy for Insurance business but also with a 'seat' at the Investment Committee as every decision in Fairfax needs to be considered first & foremost looking at its impact on the insurance business. Peter Clarke looks to be bridging both the investment team & the insurance operations.

 

These profit centres also facilitate transparency when Andy Barnard and Peter Clarke monitor the insurance operations.

 

We now have a small investment committee consisting of Roger Lace, Brian Bradstreet, Wade Burton, Lawrence Chin, Chandran Ratnaswami, Quinn McLean, Peter Clarke and me that reviews large investments, asset mix, regulatory requirements and performance

Edited January 16, 2023 by glider3834

[smed]

5 hours ago, Xerxes said:

...they would have been buying those FFH shares around the same time as when they establish the TRS (and not now), such that they would risk-neutral.

 

possibly the unusual volume could alternatively indicate that the TRS position is being increased; previously we saw similar unusual volume when the TRS position was originally established and when the TRS position was previously increased. Purely a hypothesis/speculation though.

If the position is increased before the ex-dividend date, then Fairfax would get more of the upcoming dividend payment back (from the TRS counterparty) - adding some icing on the cake.

[Parsad]

4 hours ago, Viking said:

I am of the opinion that Fairfax shifted their equity investing approach somewhere around 2018. Since 2018 they are just making much, much better decisions with their equity investments (especially when compared to 2016-2017). 
 

Paul left Fairfax in 2019 and i wonder if his leaving was not tied to Fairfax’s shift in strategy with its equity holdings (‘fit’, i like to call it). Fairfax Africa was Paul’s baby and it was a complete dog costing Fairfax hundreds of millions in cash and also significant damage to its reputation (lots of investors in Fairfax blindly invested in Fairfax Africa too and lost their shirts). It has taken Fairfax years to ‘fix’ the many poorly performing equity investments purchased before 2018. Paul continues to be Executive Chairman of Recipe and that stock was a another dog for minority shareholders who owned it long term.
 

Clearly Paul didn’t leave Fairfax to ‘retire’. What companies does he continue to be actively involved with? He is currently CEO and Executive Chairman with Greenfirst. That company has ‘old Fairfax’ written all over it (poorly managed, terrible cost structure, very tough current environment). Where do minority shareholders fit? Good luck. Paul is also involved with Torstar. Currently he and Bitove are engaged  in a very public falling out.
 

I am not suggesting Paul is not an outstanding person. Or that he will not make himself and shareholders a bunch of money moving forward. Having said that, i am very happy that Fairfax appears to have learned from their past mistakes and has moved up the quality ladder (with top notch management at the top of the list) when making equity purchases. 
 

i think it is very instructive to look at who replaced Paul at Fairfax… Peter Clarke. Peter does not look like he is actively driving the bus on equity purchases. I don’t know this but his role in the company appears to be a little different than Paul’s role was in the past.

 

Fairfax has a $51-$52 billion investment portfolio. They look well positioned today in terms of management. 

 

I know for a fact...from the horse's mouth...that Paul's departure had nothing to do with Fairfax.  It was for personal reasons.  And based on those reasons, I would assume Paul would be welcomed back if and when he was ready or wanted to return...perhaps not in the same role, but advisory/director/etc. 

 

On the investment side, large investments are approved by the committee...not any one individual.  So suggesting that any investments were Paul's fault would not be fair.  The committee's investment style has been tweaked in the last couple of years primarily by the addition and more significant duties of Wade and Lawrence and the decision to stop shorting.

 

Cheers!

[Parsad]

1 hour ago, glider3834 said:

Yes agree I think the role has shifted from Investment focus to Insurance business focus & I would say the optimisation of Fairfax's insurance businesses has been a focus over the last 12 mths given Ambridge & C&F pet sales as examples - I think Peter Clarke has actuarial background & is go to person on conference calls on any questions relating to insurance business. So I think the role has a central focus being Strategy for Insurance business but also with a 'seat' at the Investment Committee as every decision in Fairfax needs to be considered first & foremost looking at its impact on the insurance business. Peter Clarke looks to be bridging both the investment team & the insurance operations.

 

These profit centres also facilitate transparency when Andy Barnard and Peter Clarke monitor the insurance operations.

 

We now have a small investment committee consisting of Roger Lace, Brian Bradstreet, Wade Burton, Lawrence Chin, Chandran Ratnaswami, Quinn McLean, Peter Clarke and me that reviews large investments, asset mix, regulatory requirements and performance

 

Peter was Fairfax's chief risk officer for many years.  Nothing gets bought or done without Peter's input.  Any insurance deal...Peter signs off.  Any large investment...Peter signs off.  Now as President, he is directly involved with all day to day operations.  He's as knowledgeable as anyone about Fairfax's operations.  Cheers!

[Viking]

On 1/12/2023 at 9:13 AM, StubbleJumper said:

 

It's always possible, I suppose.  There might be some sort of time limit on their TRS contract, or there might be some sort of escalator in the carry cost that would provide an incentive to do the buyback.  But failing that, we should consider some of the things that FFH could do with excess capital/cash and evaluate where the TRS might fit in the hierarchy of uses.  I'm numbering some of these possible uses of capital/cash, but the sequence doesn't necessarily reflect where I see them in the capital allocation hierarchy:

 

1) Pay back debt

2) Keep/inject capital into the insurance subs to enhance underwriting volume

3) Buy back the minority interests from outfits like OMERS (eg the 10% Odyssey position)

4) Make an acquisition

5) Buyback shares on the open market through the NCIB or through another SIB

6) Close out the TRS

 

There's a financial return to shareholders from each of these, but those returns vary drastically.  So, paying back debt would provide a pre-tax return of perhaps 5% annually, which probably doesn't meet FFH's hurdle for excess capital at this time.  Buying back some of the minority interests would provide a pre-tax return of perhaps 8% or 9% (because that's the ballpark dividend that FFH pays to OMERS), which is a bit of a better return on capital for shareholders (buying some Fairfax India would be an even better return).  While Prem has promised that acquisitions will not be a priority, if something can be bought cheaply enough, that might provide a double-digit return on capital for shareholders.  Buybacks through the NCIB or SIB might provide a one-time double-digit return for shareholders, depending on your views of FFH's intrinsic value compared to the prevailing market price.

 

So, those are some of the alternative uses of capital.  What do we get from closing out the TRS?  What is FFH paying the counterparty annually?  Personally I am guessing that it's more than the 5% that they could get from retiring debt, but less than the 8% or 9% that they could get by buying out OMERS's positions.  Unless there is a contractual reason to do it immediately, I can't imagine it's a priority for FFH. 

 

That being said, I can't explain who else has been moving 250,000 shares at a time.  Maybe it's time to take another look at the major holder list to see who might be getting out of FFH.  The shares are currently trading at perhaps 1.01x or 1.02x adjusted BV.  Would any of the large value guys dump FFH at that valuation when it seems obvious that FFH should have little trouble making its goal of 15% ROE during 2023?  It seems to me like a no-brainer to hold FFH given the current prevailing share price and economic prospects.  Unless there's some value guy out there who is selling because he sees a better opportunity than FFH during 2023?

 

Anyway, just a bit of navel gazing...

 

SJ

@StubbleJumper capital allocation will be super interesting to watch with Fairfax in 2023. Driven by hard market (20% top line growth), much higher interest rates (spiking interest income) and continued asset monetizations, Fairfax looks like it is in a multi-year period where it will have $2 to $3 billion to allocate each and every year.

Asset monetizations late in 2022: proceeds of $1.4 billion pet insurance sale (Oct). Fairfax India also closed on ICICI Wealth sale late last year.

 

Asset monetizations 1H2023: Resolute sale ($600 million) and Ambridge ($400 million) set to close in 1H 2023

 

What will Fairfax do with all the cash they are generating? 

 

Capital allocation options:

1.) strong financial position - top priority. Cash at hold co was US$800 million at the end of Q3, well below $1 billion minimum target. Makes sense to me Fairfax will want to get this to $1.1 billion = $300 million

2.) dividend: at US$10 paid in late January = $234 million

3.) grow insurance in hard market: Fairfax has said repeatedly this is a top pick. It appears the hard market is continuing into 2023. Most insurance subs look well capitalized to fund growth on their own; perhaps C&F (keep some proceeds from pet insurance sale) and Brit get top ups.
4.) Runoff: might need a top up of $200 million or so. Lots of long tail stuff (impact of inflation?)… we will know much more when Fairfax reports Q4 (and they have completed their actuarial review).

 

The top 4 items are pretty straight forward. Deciding what to do among the remaining options is where things get really interesting. The weightings are what i wonder about.

5.) Mergers and acquisitions: other than bolt on purchases (like Singapore Re in 2021), Fairfax has said repeatedly that they are done with big insurance purchases. They are happy with their global footprint. Fairfax actually has been a seller (at attractive prices): runoff in 2021, pet insurance in 2022 and Ambridge so far in 2023. 
6.) FFH stock buybacks: it is a given Fairfax will buy back stock in 2023. I think a stock buyback of 500,000 shares is a good baseline number = 2% of shares outstanding. This is similar to where 2022 will likely come in. 
7.) buy back minority interests (Allied, Odyssey and Brit): Fairfax was very active on this front in 2022, spending $750million to buy back a significant chunk of Allied. My guess is we see another spend of $500-$750 million in 2023. 
- some on the board feel this activity is similar to Fairfax doing a buyback. It does result in Fairfax shareholders owning a larger share of Fairfax earnings. 
8.) buy equities - current holdings: Fairfax’s biggest spend in 2022 was increasing its ownership of existing equity holdings = $1.14 billion. Makes sense we see a step down here in 2023.

a.) take private: Recipe = US$340 million, Grivalia Hospitality = $195 million

b.) increasing ownership: Kennedy Wilson, Fairfax India, Altas, Altius, Ensign, John Keels, Foran, Myrilineos = $800 million in total.

 

9.) buy equities - new positions: Fairfax spent a significant amount on large cap equities/private equity in 2022 = $550 million. Perhaps Fairfax increases this amount in 2023. 

a.) large cap US: Bank of America, Chevron, Occidental, Micron (add) = $350 million

b.) private equity: JAB investment fund = $200 (another $250 million in notes)

 

When you look back at 2022 you see a very balanced approach by Fairfax:

- grow insurance +20% in hard market - opportunistic

- pay $10 dividend

- sell high: pet insurance - opportunistic

- buy back Fairfax stock - opportunistic

- take out minority partners

- increase ownership of equities already owned - opportunistic

- seed new equity positions - opportunistic

 

For 2023 i see Fairfax doing more of the same as 2022. Balance. Rational. And as a shareholder, i applaud it. Lots of low risk / high return decisions that will benefit shareholders for years to come.

 

What changes from 2022 could we see in 2023?
1.) I think we will see some more purchases in India; and perhaps a very large one. I love Fairfax’s long term track record in India. But big purchases and Fairfax still makes me nervous… so we will see. 

2.) perhaps we see Fairfax get more active on the stock buyback front. But i am not sure. Looking at 2022, Fairfax appears to prefer buying other equities trading at bear market lows.

3.) large cap US stocks: coming out of the Great Financial Crisis, Fairfax was flush with cash (thank you credit default swaps) and they put more than $1 billion into large cap US stocks. Looks like they might be doing the same thing again. 

 

Bottom line, i love how Fairfax allocated capital so far in 2022. And i look forward to seeing what they did in Q4 and what they do in 2023. Interesting and exciting times for Fairfax shareholders.

Edited January 17, 2023 by Viking

[gfp]

Saw this Q4 letter covered Fairfax.  Is this investor a member of this forum?

https://www.edgepointwealth.com/article/Q4-2022-EdgePoint-commentary/

[Viking]

2 hours ago, gfp said:

Saw this Q4 letter covered Fairfax.  Is this investor a member of this forum?

https://www.edgepointwealth.com/article/Q4-2022-EdgePoint-commentary/

 

@gfp thanks for posting. Nice to see Fairfax getting some well served press. What I really liked about the article:

1.) it provides a concise, easy to understand history of Fairfax and bridges nicely to where the company is at today. This is not easy to do with Fairfax.

2.) identifies Fairfax as a GROWTH company. On this board we have done a good job of highlighting how cheap Fairfax is - looking at PE (about 6 x 2023 estimated normalized earnings) or P/BV (about 0.95 x Dec 31, 2022 estimated BV). 

 

Fairfax has grown like crazy. Over 9 years (2014-2023), a very long time, it has compounded net premiums at an incredible rate of 16% per year. Net premiums are up 300% over the past 9 years - from $6.1 billion to $24.6 billion in 2023 (my estimate). 

----------

And growth is one of the critical inputs in determining an appropriate P/BV multiple for insurance companies. The really interesting things with Fairfax is the growth of 16% per year HAS ALREADY HAPPENED. But it is not yet priced into the stock price.

 

That is a great set up for current shareholders. Multiple expansion will come... Mr. Market will eventually figure it out. 

 

And growing earnings + multiple expansion + lower share count = exceptional returns for investors.

 

Edited January 18, 2023 by Viking