Fairfax 2024

[73 Reds]

29 minutes ago, Viking said:

 

@73 Reds , to better understand some of the variables at play, let's look a Travelers 2023 numbers and compare them to Fairfax.

 

When looking at Travelers 2023 numbers two things jump out:

• Underwriting income represents 57% of their income streams (like most P/C insurers, they only have 2 income streams).
• The yield (pre-tax) on their investment portfolio is about 3.3% (using the YE value of investment portfolio). 

Travelers is earning peanuts on its $88.5 billion investment portfolio - about 3.3%. It is expected to increase a small amount in 2024 ($200 million, which will bump the average yield to about 3.5%). This is because they are investing solely in fixed income. And it looks to me like they match the duration of their fixed income portfolio with their insurance liabilities.

 

Now compare Travelers to Fairfax. Fairfax is earning about 7% on its investment portfolio - double what Travelers is earning (see the chart at the bottom of the post). That is a massive gap. 

 

Fairfax is earning much, much more on their investment portfolio for a couple of reasons:

1.) They do not restrict their investments to bonds/fixed income.

2.) They are an active manager - they look to exploit dislocations/volatility (wherever it shows up).

3.) They are very good at what they do.

 

Comparing Fairfax and Travelers you really get some good insight into the power and value of the business model Fairfax that is successfully executing today. 

 

 

 

Below is a summary of investment returns for Fairfax. The returns have been smoothed over 2 year intervals to smooth out the annual volatility and make it easier to understand.

 

Viking, I understand that Travelers invests much like most insurance companies so the idea that Fairfax is not levered as much to the insurance cycle assumes that investment results will overcome a softer insurance market and has little to do with the actual volume of premiums?  This has been one element of Berkshire's secret sauce as well; the question is if it works so well for companies like Berkshire, Fairfax and Markel, why don't other insurance companies adopt a similar model?

[73 Reds]

27 minutes ago, Viking said:

For board members who think 5% is a good 'normalized' return to use for Fairfax for its investment portfolio... let me stir the pot a little. 

 

From 2016 to 2022, Fairfax had four severe headwinds battering its investment portfolio:

1.) Zero interest rates

2.) Significant losses from the equity hedge/short positions

3.) An equity portfolio that was stuffed with shitty companies

4.) Historic bear market in bonds in 2022.

 

Despite these 4 significant headwinds, from 2016 to 2022, Fairfax still earned an average return of about 5.4% on its total investment portfolio.

 

Today, none of those headwinds exist. Some have been eliminated (equity hedge/short). And others have reversed and become tailwinds:

1.) Interest rates have normalized to much higher levels. It is highly unlikely they return to the lows of a few short years ago.

2.) Fairfax's equity portfolio has been fixed and is much higher quality (in terms of earnings power). 

 

My guess is a 5.4% return on the investment portfolio was a trough (smoothed) number for Fairfax. Today, Fairfax is earning about 7% on its investment portfolio. If we continue to get a few large asset sales in the coming years (likely, given what we have seen the past 10 years) then I think 7% is a reasonable baseline estimate to use looking out the next 3 to 5 years. and yes, the results will be volatile from year to year.

 

 

Here is the data for each year (from which the averages in the above table were calculated).

 

 

Also, one would expect that during a period of zero interest rates, just about any equity investment should do well.  Though I was not a shareholder throughout the 2010s, that had to be very frustrating for those who owned the stock during the period.

[Buckeye]

15 minutes ago, 73 Reds said:

Viking, I understand that Travelers invests much like most insurance companies so the idea that Fairfax is not levered as much to the insurance cycle assumes that investment results will overcome a softer insurance market and has little to do with the actual volume of premiums?  This has been one element of Berkshire's secret sauce as well; the question is if it works so well for companies like Berkshire, Fairfax and Markel, why don't other insurance companies adopt a similar model?

Hello Reds,

 

I think one thing that’s become apparent with regards to insurance companies is that in order for them to adopt similar practices as Berkshire, Fairfax and Markel is they need to be able to focus on the long term. So it seems like the insurance companies with heavy insider ownership are the only ones able to play the long game. 

Edited August 22 by Buckeye

[Viking]

33 minutes ago, Buckeye said:

Hello Reds,

 

I think one thing that’s become apparent with regards to insurance companies is that in order for them to adopt similar practices as Berkshire, Fairfax and Markel is they need to be able to focus on the long term. So it seems like the insurance companies with heavy insider ownership are the only ones able to play the long game. 

+1.  The P/C insurance model pioneered by Buffett (leverage float) is simple to understand. And difficult to execute well. 

[StubbleJumper]

54 minutes ago, 73 Reds said:

Also, one would expect that during a period of zero interest rates, just about any equity investment should do well.  Though I was not a shareholder throughout the 2010s, that had to be very frustrating for those who owned the stock during the period.

 

There was one quarterly release in particular when FFH reported capital losses on its equity hedges AND it reported capital losses on its equity portfolio.  That was a particularly dumbfounding earnings release when the company lost money on both the equities it invested in AND the hedges against those equities (if you are hedging properly, when you have a loss on the equities, you should have a gain on the hedges).  But, that was how it went.

 

 

SJ

[SafetyinNumbers]

48 minutes ago, StubbleJumper said:

 

There was one quarterly release in particular when FFH reported capital losses on its equity hedges AND it reported capital losses on its equity portfolio.  That was a particularly dumbfounding earnings release when the company lost money on both the equities it invested in AND the hedges against those equities (if you are hedging properly, when you have a loss on the equities, you should have a gain on the hedges).  But, that was how it went.

 

 

SJ

Yet it raised money at 1.3x BV in 2016 and traded as high as 1.6x a year earlier but is only worth 1.2x BV now according to the market.

 

Edited August 22 by SafetyinNumbers

[Xerxes]

Wow so that hedge/deflation/short optionality in the 2010s was worth 0.2-0.3 book. 
 

seems there were a lot of supporters 

[StubbleJumper]

16 minutes ago, SafetyinNumbers said:

Yet it raised money at 1.3x BV in 2016 and traded as high as 1.6x a year earlier but is only worth 1.2x BV now according to many members of the board.

 

 

 

Yep, the market price was buoyant after the outstanding results of the financial crisis.  In 2017, many of us thought that the share price should never drop below US$500.  Well, apparently we were wrong!

 

But as you note, that's one thing that FFH has done well over its history.  It has issued shares at high valuations, and then occasionally re-bought shares at lower valuations.  That's a small, but important part of that 18.3% average BV growth.

 

Turning to your observation about the company being worth only 1.2x BV today, I don't know who you are referring to.  I certainly have observed in 2022 that Mr Market would be unlikely to give us more than 1.2x BV any time soon.  But, perhaps in 2025, we'll get that 1.2x BV and perhaps even 1.3x.  

 

 

SJ

[SafetyinNumbers]

8 minutes ago, StubbleJumper said:

 

 

Yep, the market price was buoyant after the outstanding results of the financial crisis.  In 2017, many of us thought that the share price should never drop below US$500.  Well, apparently we were wrong!

 

But as you note, that's one thing that FFH has done well over its history.  It has issued shares at high valuations, and then occasionally re-bought shares at lower valuations.  That's a small, but important part of that 18.3% average BV growth.

 

Turning to your observation about the company being worth only 1.2x BV today, I don't know who you are referring to.  I certainly have observed in 2022 that Mr Market would be unlikely to give us more than 1.2x BV any time soon.  But, perhaps in 2025, we'll get that 1.2x BV and perhaps even 1.3x.  

 

 

SJ

I was rounding up 1.192 to 1.2 as it shows in the chart. 

[nwoodman]

2 hours ago, Viking said:

+1.  The P/C insurance model pioneered by Buffett (leverage float) is simple to understand. And difficult to execute well. 

+2, the model requires superior investment acumen and a willingness to potentially suffer a “conglomerate discount”  A game that only aligns with longer term thinking (nuts on the line helps too).  A motherhood statement but Berkshire is primarily an investment company/capital allocation machine  that uses float as part of their funding.  As it turns out they have been pretty damn good at insurance but I think this is partly a reflection of temperament (again thinking long term).  Fairfax only has to do 1/10th as well as Berkshire and the answer should be quite pleasing. A high probability IMHO.

[UK]

4 hours ago, 73 Reds said:

This has been one element of Berkshire's secret sauce as well; the question is if it works so well for companies like Berkshire, Fairfax and Markel, why don't other insurance companies adopt a similar model?

 

 

[SafetyinNumbers]

4 hours ago, Xerxes said:

Wow so that hedge/deflation/short optionality in the 2010s was worth 0.2-0.3 book. 
 

seems there were a lot of supporters 

When the market would get weak, portfolio managers would sell their other financials and buy FFH because it was hedged. That should still be true because the financial position FFH is in right now affords it so much optionality.
 

If FFH can dividend out $4b from the insurance subsidiaries to the holdco that means they can buy a lot more equities at the subsidiaries if the opportunity presented itself. That could supercharge returns. They seem almost certain to buy in their insurance minority interests which have a 20% return based on trailing results. The cost as of December was $2.5b so that might add ~$20/sh to EPS.

 

Return expectations are super low for the non-fixed income part of the portfolio. I think consensus probably reflects closer to 6% on a FTM basis. While these numbers might seem reasonably conservative, Fairfax has a few big engines in Eurobank, Poseidon and the TRS that are expected to provide 25%+ returns on 20% of the carrying value of the non-fixed income portfolio. That means 5% of the 6% expected is covered and the remaining $16b of non-fixed income has a very low hurdle to beat consensus. 
 

That’s why 15% ROE doesn’t seem like it’s difficult and 20% might be more likely than 12% for the next 5 years at least.

[LC]

I have been thinking about how a longer, lower rate environment will impact Fairfax.

 

A low rate period will present some reinvestment risk for the fixed income portfolio primarily. 

 

On the other hand, I wonder how the minority interests (as a whole) are capitalized? 

 

If they are currently paying high rates on their debt, lower rates could mean significant refinancing.

 

Of if they are conservatively financed, levering up in a period of low rates could provide a solid amount of capital.

 

 

[Dinar]

1 hour ago, SafetyinNumbers said:

When the market would get weak, portfolio managers would sell their other financials and buy FFH because it was hedged. That should still be true because the financial position FFH is in right now affords it so much optionality.
 

If FFH can dividend out $4b from the insurance subsidiaries to the holdco that means they can buy a lot more equities at the subsidiaries if the opportunity presented itself. That could supercharge returns. They seem almost certain to buy in their insurance minority interests which have a 20% return based on trailing results. The cost as of December was $2.5b so that might add ~$20/sh to EPS.

 

Return expectations are super low for the non-fixed income part of the portfolio. I think consensus probably reflects closer to 6% on a FTM basis. While these numbers might seem reasonably conservative, Fairfax has a few big engines in Eurobank, Poseidon and the TRS that are expected to provide 25%+ returns on 20% of the carrying value of the non-fixed income portfolio. That means 5% of the 6% expected is covered and the remaining $16b of non-fixed income has a very low hurdle to beat consensus. 
 

That’s why 15% ROE doesn’t seem like it’s difficult and 20% might be more likely than 12% for the next 5 years at least.

They are buying out their Ukrainian minorities.

[John Hjorth]

11 hours ago, 73 Reds said:

... so the idea that Fairfax is not levered as much to the insurance cycle assumes that investment results will overcome a softer insurance market and has little to do with the actual volume of premiums?  This has been one element of Berkshire's secret sauce as well; the question is if it works so well for companies like Berkshire, Fairfax and Markel, why don't other insurance companies adopt a similar model?

 

I'm kicking a small footnote in here, that there actually exist other insurance companies with similar business model, but they may be few. I am only aware of one though : Protector Forsikring ASA, Oslo, Norway [ PROTCT.OS][ CoBF topic ].

 

- - - o 0 o - - -

 

Now back to Fairfax 2024.

[Xerxes]

4 hours ago, John Hjorth said:

 

I'm kicking a small footnote in here, that there actually exist other insurance companies with similar business model, but they may be few. I am only aware of one though : Protector Forsikring ASA, Oslo, Norway [ PROTCT.OS][ CoBF topic ].

 

- - - o 0 o - - -

 

Now back to Fairfax 2024.

And to a much lesser degree, Manulife, the Canadian life insurance giant, and its investment in timberland. 

[Xerxes]

15 hours ago, 73 Reds said:

This has been one element of Berkshire's secret sauce as well; the question is if it works so well for companies like Berkshire, Fairfax and Markel, why don't other insurance companies adopt a similar model?

I think the right way to answer this comment is to refer back to the Bloomstran comment about Berkshire vs Swiss RE and Munich RE where he states the latter two “never known a business for which they didnt want to write insurance for it”

 

said differently, the traditional players chose to maximize their revenue for today (risking mispricing) by writing as much business as they can. Whereas, the “quasi-families” that run Berk, FFH and Markel, have no problem in hitting the brakes, which leaves more surplus, to invest in common equity and more recently in FFH case to return capital to owners. 
 

So the secret sauce (which is not so secret), as Viking pointed out requires a “long term” approach, that is hard to replicate with EPS driven companies at the mercy of Wall Street on a quarterly basis. 

[Hamburg Investor]

17 hours ago, Viking said:

 

@73 Reds , to better understand some of the variables at play, let's look a Travelers 2023 numbers and compare them to Fairfax.

 

When looking at Travelers 2023 numbers two things jump out:

• Underwriting income represents 57% of their income streams (like most P/C insurers, they only have 2 income streams).
• The yield (pre-tax) on their investment portfolio is about 3.3% (using the YE value of investment portfolio). 

Travelers is earning peanuts on its $88.5 billion investment portfolio - about 3.3%. It is expected to increase a small amount in 2024 ($200 million, which will bump the average yield to about 3.5%). This is because they are investing solely in fixed income. And it looks to me like they match the duration of their fixed income portfolio with their insurance liabilities.

 

Now compare Travelers to Fairfax. Fairfax is earning about 7% on its investment portfolio - double what Travelers is earning (see the chart at the bottom of the post). That is a massive gap. 

 

Fairfax is earning much, much more on their investment portfolio for a couple of reasons:

1.) They do not restrict their investments to bonds/fixed income.

2.) They are an active manager - they look to exploit dislocations/volatility (wherever it shows up).

3.) They are very good at what they do.

 

Comparing Fairfax and Travelers you really get some good insight into the power and value of the business model Fairfax that is successfully executing today. 

 

 

 

Below is a summary of investment returns for Fairfax. The returns have been smoothed over 2 year intervals to smooth out the annual volatility and make it easier to understand.

 

What companies do you see on a worldwode scale that do mimic Buffetts approach? I see BRK, MKL, FFH and Protektor Forsikring, a small Norwegian company

 

There are other good companies, but as far as I can see they miss one of the points:

- e.g. RLI is a very good underwriter; but they fail the value / active / stock / whole company approach. 

- Some do invest a tiny bit into stocks, but its so less, that it doesn’t move the needle.

Anyone with further suggestions?

[Luke]

1 minute ago, Hamburg Investor said:

What companies do you see on a worldwode scale that do mimic Buffetts approach? I see BRK, MKL, FFH and Protektor Forsikring, a small Norwegian company

 

There are other good companies, but as far as I can see they miss one of the points:

- e.g. RLI is a very good underwriter; but they fail the value / active / stock / whole company approach. 

- Some do invest a tiny bit into stocks, but its so less, that it doesn’t move the needle.

Anyone with further suggestions?

Does Protektor own a stock portfolio where they invest the float? Never heard of them, sounds interesting...

[MMM20]

2 hours ago, Luke said:

Does Protektor own a stock portfolio where they invest the float? Never heard of them, sounds interesting...

Yes. I passed around $2-3 a few years ago and it’s looking like a pretty bad error of omission. There’s a good amount of research floating around out there. I think I heard of it from Dave Kim at Scuttleblurb.

 

Edited August 23 by MMM20

[SafetyinNumbers]

3 hours ago, Hamburg Investor said:

What companies do you see on a worldwode scale that do mimic Buffetts approach? I see BRK, MKL, FFH and Protektor Forsikring, a small Norwegian company

 

There are other good companies, but as far as I can see they miss one of the points:

- e.g. RLI is a very good underwriter; but they fail the value / active / stock / whole company approach. 

- Some do invest a tiny bit into stocks, but its so less, that it doesn’t move the needle.

Anyone with further suggestions?

E-L Financial is 20% insurance (Empire Life) and the rest is index/global quality portfolio. 12%+ for 50+ years.

[petec]

On 8/23/2024 at 4:14 AM, SafetyinNumbers said:

If FFH can dividend out $4b from the insurance subsidiaries to the holdco that means they can buy a lot more equities at the subsidiaries if the opportunity presented itself. That could supercharge returns. They seem almost certain to buy in their insurance minority interests which have a 20% return based on trailing results. The cost as of December was $2.5b so that might add ~$20/sh to EPS.

 

I should know this, but is the $4bn number the current combined dividend capacity of the subs or is it your own estimate?

 

And what's the $2.5bn cover? Allied, Brit, Odyssey?

 

It's a pity we don't know enough about the terms of each of these deals to assess whether buying in the subs is better than buying back shares.

[SafetyinNumbers]

5 hours ago, petec said:

 

1. I should know this, but is the $4bn number the current combined dividend capacity of the subs or is it your own estimate?

 

2. And what's the $2.5bn cover? Allied, Brit, Odyssey?

 

3. It's a pity we don't know enough about the terms of each of these deals to assess whether buying in the subs is better than buying back shares.

1. I think it was $3b at the end of 2023 for the insurance subsidiaries they could dividend up. I might be too high thinking that’s up from year end. They have been slowing premium growth and sending dividends up for buybacks but I don’t think dividend capacity has diminished.

 

2. I’m just using the non-controlling interests note from last year which showed ~$2.5b as the balance for Allied, Brit and Odyssey. It’s probably higher now. 
 

3. The table shows ~$500m in earnings for 2023, so that gives us some idea. It seems like the P/B multiple FFH buys back the minority interest is the same multiple they sold at so maybe the returns are highest for Allied World, then Brit and finally Odyssey. I like buying the subs in vs buying back the stock because it increases durability. This is something, I think analysts could model in over the next few years to show earnings growth but they remain committed to conservatism as opposed to making the best guess.

 

 

[petec]

On 8/24/2024 at 12:29 PM, SafetyinNumbers said:

I like buying the subs in vs buying back the stock because it increases durability.

 

Why does it increase durability? I would have thought it was a straight financial decision (between buybacks vs buying back minorities) based on price and expected returns.

[SafetyinNumbers]

2 hours ago, petec said:

 

Why does it increase durability? I would have thought it was a straight financial decision (between buybacks vs buying back minorities) based on price and expected returns.

Because they can always sell a stake again if they need capital for any other opportunistic reason but perhaps more importantly a defensive reason. It also removes the minority interests which boosts the total nominal earnings.