Fairfax 2023

[dartmonkey]

21 minutes ago, UK said:

 

Maybe will be helpful. 

ffh brk float.xlsx 38.89 kB · 0 downloads

Yes, very helpful indeed! 

 

So in the 2022 AR we are told the 10y average was 2.5%, and your data confirm this. And for the last 20 years it was 1.3%; however, for the last 23 years, including the terrible 2000, 2001 and 2002, the underwriting profit drops to 0.4% of float.

 

Your table had one column that surprised me: since 1999, Berkshire's float is up from 2.8 times Fairfax's float, to 5.6 times Fairfax's now. I would have guessed the opposite.

[SafetyinNumbers]

2 hours ago, dartmonkey said:

At a 10,000 ft level, I view Fairfax as a levered bond fund (leverage coming from float and debt) managed by a group of smart bond guys who have consistently delivered. The rest of the investments are hit and miss; sometimes they do ok, sometimes not. As long as they can underwrite below 100 CR and the bond guys keep executing, this will be a decent investment. 

 

I love this summary. My attempt, with a little more detail:

 

A levered bond fund with enormous safe leverage provided by a solidly executing insurance base. As for investments, on the bond side, as well as the acquisition of controlling stakes in insurance and non-insurance businesses, there is a history of very successful performance, whereas on the stock investment side, it's a bit more hit and miss (Blackberry and the various shorts being the well-known examples of 'miss'.) Fortunately, out of $62b in investments, the successful side if much bigger: $36.7b in bonds, and $6.3b in associated companies like Poseidon, Eurobank, Stelco, Fairfax India,  and $1.5b in derivative instruments, mostly swaps on Fairfax stock; on the more speculative side there are $6.9b in common stocks. I don't know where to put the $2.4b in preferred stocks, probably on the safe side, and it's small.

 

So for $26b in equity, you get the returns from about $42b in bonds and associated companies, and $7b in more speculative equity investments (Occidental, Micron, Blackberry, Grivalia, Mytilineos, Kennedy Wilson, etc.). And you get some underwriting returns*, as a bonus. 

 

 

*Question for someone like Viking who has probably already done the calculation: what is the average underwriting performance of Fairfax, say since the year 2000, as a percentage of net premiums written for instance? I'll do the calculation at some point, but if someone's done it already, that would be quicker!

Is it fair to say that unlike Buffett, you both don’t think float generating businesses are worth more than book value?

[Munger_Disciple]

22 minutes ago, SafetyinNumbers said:

Is it fair to say that unlike Buffett, you both don’t think float generating businesses are worth more than book value?

 

That's a bizarre interpretation of my post. I talked about the mental model I use for FFH not its valuation. 

[Hamburg Investor]

On 11/20/2023 at 2:49 AM, Viking said:

”Does Fairfax have an endurable moat?” This is a great question and one that i have not actually thought much about.  I would love to hear what others think.
 

@Hamburg Investor Here is my question to you: Do you think Fairfax will continue to make big macro bets moving forward?

 

 

As far as I remember, the deflation hedge from Prems point of view wasn't exactly a "bet", but more like an "black swan insurance", as he was cautious, when interest went to zero. So more a bit like: "I don't do it to get a great performance, but to get through a black swan event." Wasn't that what he wrote in the annual report back than? In hindsight it was wrong and the insurance was unnecessary; still than it wasn't made with some hubris, but with cautioness and that sheds a different light to Prem as a manager.

My gut feeling is, that Prem tries to avoid big macro bets, but he may fall back into the old pattern after all; reminds me a bit of Buffett trying to avoid Airplanes, but than investing into those again and again (he ones joked, he's an "airoholic" - from memory).

 

My impression is, he and Fairfax have been focussing on insurance (improving cr and growth, widening global footprint - bought all this little insurers around the world and on nearly every continent), bond portfolio and investments in Greece and India. It works fine - so maybe, hopefully he stays on the path.

At least I just hope that, as the new Fairfax doesn't need that in my eyes. I'd be happy, if he just stays on that route of the last years. Improve quality, be a value investor. The way Markel has gone with Ventures and Buffett/ Gayner both have done with investing into more into quality has some logic, as you grow and investments have to get bigger and going in and out gets more difficult. On the other hand I sometimes ask myself if maybe low (or hidden) quality is just so much out of favor for such a long time, that Prems style might outperform. Everything comes back from time to time - look at inflation. So who's still doing "cigar butt investing"? And buying what nobody else wants in general is a very good concept. But I don't know, maybe quality investing is just better.

On the other hand regarding macro bets: Has someone here analyzed the outcome of ALL macro bets of Prem altogether? Maybe if we put the bad and the good decisions together, the macro bets have been a tailwind for returns?

My summary is somewhat that I hope it doesn't happen again, but also don't feel that a bad macro bet would ruin everything. Several things came together between 2010 and 2016: Growth outperformed value, Blackberry, zero interest rate. If it had just been the macro bet, book value growth would still have been bad, but not so underwhelming. Digit, Eurobank, Bangalore, TRS, better CR, growth of global insurance business, ... will work their magic.

[StubbleJumper]

23 minutes ago, Hamburg Investor said:

As far as I remember, the deflation hedge from Prems point of view wasn't exactly a "bet", but more like an "black swan insurance", as he was cautious, when interest went to zero. So more a bit like: "I don't do it to get a great performance, but to get through a black swan event." Wasn't that what he wrote in the annual report back than? In hindsight it was wrong and the insurance was unnecessary; still than it wasn't made with some hubris, but with cautioness and that sheds a different light to Prem as a manager.

My gut feeling is, that Prem tries to avoid big macro bets, but he may fall back into the old pattern after all; reminds me a bit of Buffett trying to avoid Airplanes, but than investing into those again and again (he ones joked, he's an "airoholic" - from memory).

 

 

You are being kind to FFH management.  For both the deflation derivatives and for the equity hedges, a key point of reflection is what should your hedge ratio be?  So, usually, you look at your exposure to the underlying asset and you choose a hedge ratio between 0 and 100 percent depending on your desire to lay-off risk.  But the deflation hedges and the equity hedges both exceeded 100% of FFH's exposure to the underlying.  When you have a hedge ratio above 100%, you are no longer hedging, you are speculating.  The fatal flaw with those two initiatives was not the concept, but rather the position size.

 

 

28 minutes ago, Hamburg Investor said:

At least I just hope that, as the new Fairfax doesn't need that in my eyes. I'd be happy, if he just stays on that route of the last years. Improve quality, be a value investor. The way Markel has gone with Ventures and Buffett/ Gayner both have done with investing into more into quality has some logic, as you grow and investments have to get bigger and going in and out gets more difficult. On the other hand I sometimes ask myself if maybe low (or hidden) quality is just so much out of favor for such a long time, that Prems style might outperform. Everything comes back from time to time - look at inflation. So who's still doing "cigar butt investing"? And buying what nobody else wants in general is a very good concept. But I don't know, maybe quality investing is just better.

 

At this point, FFH doesn't need to do anything fancy.  There are significant earnings baked in for the next year or two.  Some of the risky investments of the past are bearing fruit (ie, Eurobank).  Run the insurance companies in a rational manner, let Bradstreet be his normal fabulous self, and try to exploit value in plain sight.  They don't really need to swing for the fences at this stage.

 

31 minutes ago, Hamburg Investor said:

On the other hand regarding macro bets: Has someone here analyzed the outcome of ALL macro bets of Prem altogether? Maybe if we put the bad and the good decisions together, the macro bets have been a tailwind for returns?

 

This is a really good point.  The challenge of evaluating the macro bets is that the more recent ones were for much higher nominal dollars.  But, Bradstreet has made several good calls about the evolution of the yield curve that have earned FFH a shit load of money.  But, the shitload in the past was like $500m because the company was smaller.  The credit default swaps was a bigger shitload because the company was larger.  The deflation hedges and equity hedges were also large, in part because the company was larger yet again.  And now the excellent management of the fixed income portfolio in 2020 to 2023 has been done for yet a larger company.  So, the exercise is a little complicated because a good macro call in 2003 may have been for smaller nominal dollars, but it's had an enormous impact 20 years later.  Somebody smarter than me might be able to quantify all of this and net out the losers from the winners, but a simpler approach is to acknowledge that the winners have likely been more important over the long term.

 

 

SJ

[Viking]

1 hour ago, Hamburg Investor said:

 

As far as I remember, the deflation hedge from Prems point of view wasn't exactly a "bet", but more like an "black swan insurance", as he was cautious, when interest went to zero. So more a bit like: "I don't do it to get a great performance, but to get through a black swan event." Wasn't that what he wrote in the annual report back than? In hindsight it was wrong and the insurance was unnecessary; still than it wasn't made with some hubris, but with cautioness and that sheds a different light to Prem as a manager.

My gut feeling is, that Prem tries to avoid big macro bets, but he may fall back into the old pattern after all; reminds me a bit of Buffett trying to avoid Airplanes, but than investing into those again and again (he ones joked, he's an "airoholic" - from memory).

 

My impression is, he and Fairfax have been focussing on insurance (improving cr and growth, widening global footprint - bought all this little insurers around the world and on nearly every continent), bond portfolio and investments in Greece and India. It works fine - so maybe, hopefully he stays on the path.

At least I just hope that, as the new Fairfax doesn't need that in my eyes. I'd be happy, if he just stays on that route of the last years. Improve quality, be a value investor. The way Markel has gone with Ventures and Buffett/ Gayner both have done with investing into more into quality has some logic, as you grow and investments have to get bigger and going in and out gets more difficult. On the other hand I sometimes ask myself if maybe low (or hidden) quality is just so much out of favor for such a long time, that Prems style might outperform. Everything comes back from time to time - look at inflation. So who's still doing "cigar butt investing"? And buying what nobody else wants in general is a very good concept. But I don't know, maybe quality investing is just better.

On the other hand regarding macro bets: Has someone here analyzed the outcome of ALL macro bets of Prem altogether? Maybe if we put the bad and the good decisions together, the macro bets have been a tailwind for returns?

My summary is somewhat that I hope it doesn't happen again, but also don't feel that a bad macro bet would ruin everything. Several things came together between 2010 and 2016: Growth outperformed value, Blackberry, zero interest rate. If it had just been the macro bet, book value growth would still have been bad, but not so underwhelming. Digit, Eurobank, Bangalore, TRS, better CR, growth of global insurance business, ... will work their magic.

@Hamburg Investor thanks for taking the time to write a thoughtful post. 
 

- yes, calling what Fairfax does ‘macro bets’ is not entirely accurate. But i also think Fairfax’s explanations can also be messy - like their reasoning for exiting the equity hedges in late 2016. 
- i do think Fairfax has moats - how else do you compound BV at such a high rate for 4 decades if you don’t have at least a few sustainable competitive advantages over most other P/C insurers? (Especially when you include the significant losses from the equity hedges.)
- what are the moats? Family control is likely one. The insurance business is likely another (today). Capital allocation might be the largest moat.

- capital allocation: what Fairfax does today is unique in the P/C industry. In comparison, Markel plays checkers and Fairfax plays chess. This is not to say Markel is bad. Fairfax has spent decades building out their capabilities.
- i think capital allocation might be the thing most mis-understood part of Fairfax today. They use such a diverse array of strategies. And a chunk of the value being created is hidden from view (and book value). We find out when Fairfax surfaces the value - like when they sold pet insurance.
- i also think in a higher interest rate (high volatility) world active management matters again. Fairfax has been building a diverse team at Hamblin Watsa for this exact moment. Returns moving forward could surprise to the upside.

- the power of compounding will also be something to watch in the coming years. Its possible we get some Berkshire type of magic. 

I think about Berkshire and holding a stock long term (buy and forget about it possibly for decades). And then i think about Fairfax and i can’t square the circle. 
 

What Fairfax does to be successful - with investments - just seems to take so much work year-in and year-out. Will fixed income continue to rock when Brian Bradstreet is gone? Will insurance continue to rock when Andy Barnard is gone?

 

My Christmas wish for Fairfax is that they continue to make the business model more self-sustaining. I think this is the direction they have been going for the last 5 years. I think we can see this with insurance. I think we are seeing that with the equity holdings - Fairfax has been moving up the quality ladder over the past 5 years. The fixed income portfolio looks locked and loaded for years (with average duration getting pushed out to 3.1 years). 
 

So with insurance/investments we might have just arrived in 2023 at ‘new Fairfax’ - a more predictable self-sustaining P/C insurance company. Chug, chug, chug. 
 

The big question for me is what are normalized earnings for ‘new Fairfax’. I keep throwing $150/share out there. But i think this could be way low moving forward. Capital allocation will be key. Active management will be another. I also wonder what hidden assets are sitting on Fairfax’s balance sheet that will be monetized moving forward. BIAL is a jewel. As is Digit. Fairfax India (and Fairfax’s capabilities there) are grossly undervalued. Fairfax has a bunch of things that are chugging away… I expect more large realized gains are coming - and these are not built into anyones models today (including my $150/share estimate).
 

Great time to be a Fairfax shareholder. I am doing my best to listen to @bearprowler6 - the big money is made by sitting on your hands and doing nothing. His posts remind me of this quote:

 

“It never was my thinking that made the big money for me. It always was my sitting. Got that? My sitting tight! It is no trick at all to be right on the market. You always find lots of early bulls in bull markets and early bears in bear markets. I've known many men who were right at exactly the right time, and began buying or selling stocks when prices were at the very level which should show the greatest profit. And their experience invariably matched mine--that is, they made no real money out of it. Men who can both be right and sit tight are uncommon.”
― Edwin Lefèvre - Reminiscences of a Stock Operator

Edited November 24, 2023 by Viking

[Hamburg Investor]

How good is Fairfax's insurance business? Is the CR just benefiting from low interest rates (so the industry is being pushed to profitability since the bond portfolio wasn't yielding interest for a long time?). Or has Fairfax Management done an indredible job?

I have picked out some figures from Fairfax's annual reports to analyze that: The combined ratio, the float differential (i.e. profitability + interest on the insurance business) etc. since the end of the 1980s (some of the figures are slightly different and are reported with a slightly different number some years later, does anyone know why? Are later payouts still partly offset against earlier years CRs, so that it changes until the last claim is paid out?)

And then I calculated an arithmetic mean of the CR over 5 years and compared it: Once with Markel and once with the US CR of the PC insurers (yes, that's not perfect... and I just haven't done that over 5 years but just added the percentage point up over the years - hope it is understandable and correct...?!). The idea was to get away from individual years ("noise"). Do we see any trends?

If the thesis is correct that Fairfax has only benefited from a general market trend in terms of improving CR, I would expect the gap between Fairfax and the PC insurers and Markel to have remained roughly the same over the decades or just moving around random.

However, this is not the case (see xls attached): Fairfax has consistently had a 4% to 9% worse CR than Markel between 1994 and 2013 in the 5 year view. There is one exception: from 2001 to 2004, Fairfax was slightly better than Markel (5 year view); in the years 2000 and 2001, Markel had by far its worst CRs since 1990 to date (114% and 124%). I suspect a Black Swan event at Markel and Fairfax, but haven't checked. Does anyone know? If It's been a special noncomparable situation, than I would ignore it; if not it would be interesting to know, where the improvement came from an why disapperas as sudden as it has occured.

In any case, Fairfax lags Markel by 8% over the prior 5-year period in 2011 - and then improves dramatically: In all 8 years since 2015, Fairfax CR was at most around 2% worse than Markel and in 3 years even slightly better than Markel. In comparison to Markel Fairfax CR has been record good in all eight 5-year periods after 2015. There is no 5-year period after 2015 with a worse CR compared to MKL than in any year before 2015 - with the exception of the years 2003 to 2005, which I suspect to be a historical exception. Since 2017 to date, there may be signs of a slow trend in the opposite direction. 

How does Fairfax compare with the US PC industry (I know, I know, Fairfax has very different insurance companies)? Very similar: from 2001 to 2011, Fairfax's lagging CR added up to almost 30 percentage points. From 2011 to 2022, Fairfax lost 37 percentage points again. This is already enormous: until 2011, Fairfax lagged behind the industry by around 3%, since then it has been around 3 percentage points ahead of the industry per year. The relative improvement in CR of around 6%/year before 2011 to the period after 2011 is also roughly reflected in the 5-year comparison with Markel; with a time lag, of course: while it was mostly between 4% and 9% underperforming until 2013, this changes to an average of around -1% after 2015, i.e. an average improvement of around 6%. 

I know that this is certainly not statistically perfect, but I just wanted to get a quick overview and tried to find some numbers, that are easy to get and seemed to make sense in a way to me. Anyway I am now surprised that such a clear trend can be identified. Let's hope that the indicated trend in the opposite direction does not become a fixed one; it can't be seen in comparison to the PC Insurers; there Fairfax outperformnce even improved a lot in the last two years.

Zahlen.xlsx

Edited November 24, 2023 by Hamburg Investor

[SafetyinNumbers]

4 hours ago, Munger_Disciple said:

 

That's a bizarre interpretation of my post. I talked about the mental model I use for FFH not its valuation. 

I guess I misunderstood I thought it was the discussion of the moat that got us there. Using your mental model, I wouldn’t pay NAV+ for a levered bond fund. Would you?
 

Sure insurance is a commodity business but Fairfax gets to choose how much business it writes when prices are low. Effectively that’s part of the culture/cap allocation moat, isn’t it?

 

I’m curious for the people looking at the track record in CR, how can you tell how well the comps have been reserving vs Fairfax over time? If Fairfax, over reserves after every acquisition would that skew combined ratios higher? Do you track operating expense ratios vs comps to see if there is a delta in structural cost advantages?

Edited November 24, 2023 by SafetyinNumbers

[This2ShallPass]

On 11/22/2023 at 4:18 AM, dealraker said:

But...over time these extensive endeavors proved as often as not to cost me money rather than make money.  Yep, I got so down in the dirt I missed the incredible growth sprouting up all around.  And I did it for some time.

This is a really good post, worth reading a few times!

 

Overanalyzing (e.g. the recent discussion about Fairfax moat) leads us to make bad investment decisions. Fairfax is now in the "sit on your hands" phase, only time to revisit is if Prem & co make a big impact the company bet..

 

[UK]

7 hours ago, Viking said:

“It never was my thinking that made the big money for me. It always was my sitting. Got that? My sitting tight! It is no trick at all to be right on the market. You always find lots of early bulls in bull markets and early bears in bear markets. I've known many men who were right at exactly the right time, and began buying or selling stocks when prices were at the very level which should show the greatest profit. And their experience invariably matched mine--that is, they made no real money out of it. Men who can both be right and sit tight are uncommon.”
― Edwin Lefèvre - Reminiscences of a Stock Operator

 

Coincidentally, I was listening to this book (audio) for the first time and just went through this chapter another day:). Yes, I think this is just the right approach to FFH currently. Trust and verify, watch and enjoy:)

 

Another thing I do not understand, but maybe somebody could explain this to me is why despite all it's sins of the first ~5 years of the last ~10 years, in 2014-2017, just when or after most mistakes were made and ZIRP was a never ending new normal, FFH was yet valued by market at 1.2-1.3 BV. And now, with much more clear future (at least for the mid term), better underwriting and with almost perfect track record in investing and everything else of the last 5 years, it trades only at 1 BV? I understand most of these attempts to rationalize current valuation, being cautious or skeptical on its future, or comparing to BRK and what not, but how does FFH of 2016 at ~1.3 BV vs FFH of 2023 at ~1 BV, while at the same time most peers enjoyed increasing valuation metrics, makes any sense?

 

My guess would be a lot of this skepticism is because market participants just concentrate too much on the price chart and it's recent impressive gains vs valuation changes, which also improved somewhat, but not nearly as impressively (because of improving fundamentals).

 

 

 

Edited November 24, 2023 by UK

[Hamburg Investor]

9 hours ago, StubbleJumper said:

You are being kind to FFH management.  For both the deflation derivatives and for the equity hedges, a key point of reflection is what should your hedge ratio be?  So, usually, you look at your exposure to the underlying asset and you choose a hedge ratio between 0 and 100 percent depending on your desire to lay-off risk.  But the deflation hedges and the equity hedges both exceeded 100% of FFH's exposure to the underlying.  When you have a hedge ratio above 100%, you are no longer hedging, you are speculating.  The fatal flaw with those two initiatives was not the concept, but rather the position size.

This is interesting and I admit, that I don‘t know a lot about hedging, so I am wrobg and you ware right here. What I don’t get: What would a 100% deflation hedge look like? I mean, what exacy is the definiton of „100%“ if it gets to currency inflation / deflation and its risk? I mean, I live in Germany and the culture memory of the „big depression“ in 1923 is very vivid. Hyper Inflation was some billion or trillion per cent in less than a year. People were paying a wheelbarrow full of bank notes for one bread. How do you derisk such situations or longterm high deflation? There are reciprocal things happening to the whole economy, people loose their jobs, economy hoes down - so I don‘t have any idea, what 100% hedging would be? By how much exceeded Fairfax hedge the underlying risk - 110%, 200% or more like 300%…? Would be interesting to know, as this information doesn‘t really build my personal trust to managament…?!

[Mick92]

2 hours ago, UK said:

 

Another thing I do not understand, but maybe somebody could explain this to me is why despite all it's sins of the first ~5 years of the last ~10 years, in 2014-2017, just when or after most mistakes were made and ZIRP was a never ending new normal, FFH was yet valued by market at 1.2-1.3 BV. And now, with much more clear future (at least for the mid term), better underwriting and with almost perfect track record in investing and everything else of the last 5 years, it trades only at 1 BV? I understand most of these attempts to rationalize current valuation, being cautious or skeptical on its future, or comparing to BRK and what not, but how does FFH of 2016 at ~1.3 BV vs FFH of 2023 at ~1 BV, while at the same time most peers enjoyed increasing valuation metrics, makes any sense?

 

My guess would be a lot of this skepticism is because market participants just concentrate too much on the price chart and it's recent impressive gains vs valuation changes, which also improved somewhat, but not nearly as impressively (because of improving fundamentals).

 

It's impossible to say definatively but I suspect a good chunk of it is based on Prem's reputation in the investment community.

 

From Buffett of the north, hugely successful macro bets not that far in the rear view mirror to a maybe past it guy running an insurer in Canada, to idiot Prem torching shareholders money on Blackberry and other shitcos. All culminating in the guy screaming at him on one of the conference calls that he needed to go. But, by then the ship was turning. That was probably maximum Prem pessimism, I think he is on the rehabilitation path, but probably needs another year or two of excellent returns for the market to fully price that in and maybe the Buffett of the north nonsense starts being said again.

 

Plus, who is buying FFH when sentiment was so low and dropping? People were bailing because of Prem maybe, but for other people looking at it, it was now an insurer, only listed in Canada, with the market mired in an apparently perpetual state of ZIRP. I dunno, it's not that surprising to me that the BV multiple just kept dropping.

 

Right now though, I just don't see a reason to sell, it's become by far my biggest portfolio position so you have to watch it closely but everything is humming along and I think there's at least another couple of years outperformance here to be had. 

Edited November 24, 2023 by Mick92

[UK]

31 minutes ago, Mick92 said:

 

It's impossible to say definatively but I suspect a good chunk of it is based on Prem's reputation in the investment community.

 

From Buffett of the north, hugely successful macro bets not that far in the rear view mirror to a maybe past it guy running an insurer in Canada, to idiot Prem torching shareholders money on Blackberry and other shitcos. All culminating in the guy screaming at him on one of the conference calls that he needed to go. But, by then the ship was turning. That was probably maximum Prem pessimism, I think he is on the rehabilitation path, but probably needs another year or two of excellent returns for the market to fully price that in and maybe the Buffett of the north nonsense starts being said again.

 

Plus, who is buying FFH when sentiment was so low and dropping? People were bailing because of Prem maybe, but for other people looking at it, it was now an insurer, only listed in Canada, with the market mired in an apparently perpetual state of ZIRP. I dunno, it's not that surprising to me that the BV multiple just kept dropping.

 

Right now though, I just don't see a reason to sell, it's become by far my biggest portfolio position so you have to watch it closely but everything is humming along and I think there's at least another couple of years outperformance here to be had. 

 

Thanks. Sure. But how did this reputation was any better in 2016 vs 2023? This makes no sense to me? So OK, maybe it is still far from perfect in the eyes of the market, maybe only halfway to being perfect, everybody is entitled to have an opinion, but it seems to me, anyway you look, reputation should be way better now, than in 2016? But valuation is not.

 

Edited November 24, 2023 by UK

[SafetyinNumbers]

43 minutes ago, UK said:

 

Thanks. Sure. But how did this reputation was any better in 2016 vs 2023? This makes no sense to me? So OK, maybe it is still far from perfect in the eyes of the market, maybe only halfway to being perfect, everybody is entitled to have an opinion, but it seems to me, anyway you look, reputation should be way better now, than in 2016? But valuation is not.

 

The short answer is that shareholders really liked the hedges when they were on.
 

I didn’t own Fairfax back then but I was buying US banks in early 2016. A lot of financials were in free fall because the fears of the US and Canada going into negative rates seemed like they were at their highest point. A lot of the same PMs that now complain about the hedges owned Fairfax because of the hedges. The stock acted well when the market was down and especially when other financials were down so FFH had the effect of dampening volatility and increasing risk adjusted returns. Even now, anecdotally FFH tends underperform on big up days for the market and outperform on big down days and I think it’s partially because the historical hedges (including GFC-related hedges which worked out) still influence investor behaviour. 
 

The market wasn’t efficient back then and it isn’t now. Valuation and expected returns are just not that important to most active managers who are trying to beat the market in the short term. If they were trying to generate high risk adjusted absolute returns over long periods of time maybe it would be a different story.

[MMM20]

11 hours ago, Hamburg Investor said:

in the years 2000 and 2001, Markel had by far its worst CRs since 1990 to date (114% and 124%). I suspect a Black Swan event at Markel and Fairfax, but haven't checked. Does anyone know?

 

Edited November 24, 2023 by MMM20

[UK]

28 minutes ago, SafetyinNumbers said:

The short answer is that shareholders really liked the hedges when they were on.
 

I didn’t own Fairfax back then but I was buying US banks in early 2016. A lot of financials were in free fall because the fears of the US and Canada going into negative rates seemed like they were at their highest point. A lot of the same PMs that now complain about the hedges owned Fairfax because of the hedges. The stock acted well when the market was down and especially when other financials were down so FFH had the effect of dampening volatility and increasing risk adjusted returns. Even now, anecdotally FFH tends underperform on big up days for the market and outperform on big down days and I think it’s partially because the historical hedges (including GFC-related hedges which worked out) still influence investor behaviour. 
 

The market wasn’t efficient back then and it isn’t now. Valuation and expected returns are just not that important to most active managers who are trying to beat the market in the short term. If they were trying to generate high risk adjusted absolute returns over long periods of time maybe it would be a different story.

 

Thanks. Again, then it is quite ironic and bizzare situation. Looking forward it to be fixed:)

[dartmonkey]

So for $26b in equity, you get the returns from about $42b in bonds and associated companies, and $7b in more speculative equity investments (Occidental, Micron, Blackberry, Grivalia, Mytilineos, Kennedy Wilson, etc.). And you get some underwriting returns*, as a bonus. 

...
Is it fair to say that unlike Buffett, you both don’t think float generating businesses are worth more than book value?

 

For my part, no, not at all, on the contrary. The float is the source of the leverage.

[SafetyinNumbers]

3 minutes ago, dartmonkey said:

So for $26b in equity, you get the returns from about $42b in bonds and associated companies, and $7b in more speculative equity investments (Occidental, Micron, Blackberry, Grivalia, Mytilineos, Kennedy Wilson, etc.). And you get some underwriting returns*, as a bonus. 

...
Is it fair to say that unlike Buffett, you both don’t think float generating businesses are worth more than book value?

 

For my part, no, not at all, on the contrary. The float is the source of the leverage.

So you would pay a premium for any leverage or is this leverage more valuable because of its characteristics?

[SafetyinNumbers]

16 minutes ago, UK said:

 

Thanks. Again, then it is quite ironic and bizzare situation. Looking forward it to be fixed:)

It makes sense in context with investor behaviour and typical institutional manager constraints. The narrative will change when price changes. 

[dartmonkey]

Q. Is it fair to say that unlike Buffett, you both don’t think float generating businesses are worth more than book value?

 

A. For my part, no, not at all, on the contrary. The float is the source of the leverage.

Q. So you would pay a premium for any leverage or is this leverage more valuable because of its characteristics?

 

A. Yes, in principle. Leverage from taking out a big loan would be worth a lot less than safe uncallable leverage from a steady self-renewing source of float like Fairfax's insurance business. Given the fact that float represents $28b at Fairfax, and equity is $26b (including non-controlling interests), and Fairfax is trading at only 1.1x book, you might say that Mr Market is giving very little value to that float, but I think it deserves a much more healthy premium. A huge loan that you never have to pay back is worth something.

 

 

[SafetyinNumbers]

1 minute ago, dartmonkey said:

Q. Is it fair to say that unlike Buffett, you both don’t think float generating businesses are worth more than book value?

 

A. For my part, no, not at all, on the contrary. The float is the source of the leverage.

Q. So you would pay a premium for any leverage or is this leverage more valuable because of its characteristics?

 

A. Yes, in principle. Leverage from taking out a big loan would be worth a lot less than safe uncallable leverage from a steady self-renewing source of float like Fairfax's insurance business. Given the fact that float represents $28b at Fairfax, and equity is $26b (including non-controlling interests), and Fairfax is trading at only 1.1x book, you might say that Mr Market is giving very little value to that float, but I think it deserves a much more healthy premium. A huge loan that you never have to pay back is worth something.

 

 

Sounds like a moat.

[StubbleJumper]

4 hours ago, Hamburg Investor said:

What I don’t get: What would a 100% deflation hedge look like? I mean, what exacy is the definiton of „100%“ if it gets to currency inflation / deflation and its risk? I mean, I live in Germany and the culture memory of the „big depression“ in 1923 is very vivid. Hyper Inflation was some billion or trillion per cent in less than a year. People were paying a wheelbarrow full of bank notes for one bread. How do you derisk such situations or longterm high deflation?

 

Working from memory, FFH had something like US$115 billion of deflation derivatives.  What was that supposed to cover?  Take a look at the balance sheet, take a look at the income statement, and the notional amount of those derivatives far exceeded the sum of liabilities and the expenses.  So what exactly were they trying to "hedge?"  Clearly, if you had, say 15% deflation you could have an issue with your nominal indemnities growing in real value, so you might want to hedge a portion of that (rarely is your ideal hedge ratio even 100%).  But, to date, I have never read a compelling explanation about why the notional value of those derivatives exceeded the exposure to the underlying.  It's a little like owning 100 shares of a company and then "hedging" by buying 120 put options against those shares.

 

Anyway, I have spilled much ink about this over the past 6 or 7 years to the point where people are undoubtedly tired of my belly-aching.  But I take issue with the word "hedging" in this case because usually hedging implies a thoughtful, analytical approach to risk management.  But, 6 and 7 years ago, FFH wasn't using derivatives to manage risk, but rather to speculate (I use speculate in the nicest possible sense, as any time you buy a security you are speculating).

 

 

SJ

[SafetyinNumbers]

14 minutes ago, StubbleJumper said:

 

Working from memory, FFH had something like US$115 billion of deflation derivatives.  What was that supposed to cover?  Take a look at the balance sheet, take a look at the income statement, and the notional amount of those derivatives far exceeded the sum of liabilities and the expenses.  So what exactly were they trying to "hedge?"  Clearly, if you had, say 15% deflation you could have an issue with your nominal indemnities growing in real value, so you might want to hedge a portion of that (rarely is your ideal hedge ratio even 100%).  But, to date, I have never read a compelling explanation about why the notional value of those derivatives exceeded the exposure to the underlying.  It's a little like owning 100 shares of a company and then "hedging" by buying 120 put options against those shares.

 

Anyway, I have spilled much ink about this over the past 6 or 7 years to the point where people are undoubtedly tired of my belly-aching.  But I take issue with the word "hedging" in this case because usually hedging implies a thoughtful, analytical approach to risk management.  But, 6 and 7 years ago, FFH wasn't using derivatives to manage risk, but rather to speculate (I use speculate in the nicest possible sense, as any time you buy a security you are speculating).

 

 

SJ

At the time the hedges were put on there was real concern about negative interest rates. What’s float worth if interest rates are hugely negative? I think that’s what they were hedging so they could keep growing premiums. 

[Hamburg Investor]

2 hours ago, MMM20 said:

 

... 2000...?

[gfp]

17 minutes ago, Hamburg Investor said:

... 2000...?

 

The year 2000 wasn't a black swan event for Fairfax or Markel, but they both had just completed acquisitions (Crum & Forster & TIG at Fairfax and what became Markel International - Terra Nova, at Markel).  These acquisitions took longer to turn around and Markel had some newly acquired lines of business that they decided to discontinue.  So in both companies, I think the poor consolidated combined ratios you observed for 2000 were largely acquisition related.