Fairfax 2024

[Hamburg Investor]

1 hour ago, StubbleJumper said:

 

 

Well, you don't have to agree with how I've described the phases.  What's important is to not blindly take the historical 17.7 percent cumulative average growth in BV as something that would necessarily be indicative of FFH's future.  The first dozen or so years exert a great deal of leverage on the average outcome.   I've suggested that some of those were start-up years and are unlikely to be replicated...and you've taken the perspective that those were years with a small asset base and a particular set of circumstances that are unlikely to be replicated.  Okay.

 

I'm not sure that I underestimate FFH management's abilities in comments about the second phase.  I described it as lacklustre results which I viewed as a pretty charitable term given the numbers.  Lots of things went on during those years outside of FFH's control (as you said 9/11, the KRW year, and the four horsemen of the apocalypse) and there were a few unforced errors.  But, that's the insurance industry.  In the end, it was 20 years where BV growth fell short of the 15% annual bogey.  

 

If you get 3 or 4 years in a row of great underwriting conditions and good investing conditions, it is well worth going back and looking at the company's historical financing differential and its history of BV growth.  

 

 

SJ

I don‘t think we are far away from each other and do agree, that returns weren’t good and that it’s worth looking back and not thinking, FFHs future will always be bright. There will be ups and downs. But it‘s important to understand, that the years until 1999 weren’t just normal times; and after they weren’t too either. 
 

In particular I think, that what we see in the rearview mirror since 1999 was much more headwind for the insurance sector and value investors (and FFH and Prem are both), than on average since over a hundred years:

- a long phase with the lowest interest rates ever; and it weren’t high in the years before. So on average - really low.

- growth beating value. Of course that’s a product of low and lowest interest rates. 

- 2 of the 4 severiest bear markets (and the second best bull market).

- the rest is just normal „noise“ over such a long timeframe. 
 

It is no coincidence, that Berkshire and Markel weren’t reaching their goals too within that timeframe. All three performed better in the nineties and before. And while Markel and Berkshire were outperforming FFH since 2009, Markel struggles a bit at the moment, and FFH now is catching up with both. 
 

So while I agree that the outperformance of all three will not be as good as it‘s been in the 90ies (and before), I also think that the chances are good that the three might outperform the market a little bit more than within the last decades and reach their targets. Maybe we’ll live in another two decades with low interest rates, soft markets and growth beating value. If that happens, I am glad if they are a bit above the market average. But if the circumstances go back to normal (whatever that is…), than I think insurance and in particular the outperformance of the three named should widen and FFH could reach the goal of 15%.

Edited February 19 by Hamburg Investor

[Hamburg Investor]

On 2/17/2024 at 8:08 PM, StubbleJumper said:

 

To be worth 1.5x BV, effectively, you need to argue that the long-term ROE on a going-forward basis will be high enough.  We know that the first dozen years of FFH's existence were characterised by an absolutely ridiculous run of consistently high growth in BV (see the table on page 20 of Prem's annual letter from last year).  But following that start-up phase that began in 1986 and ended a dozen or so years later, there has been a period of about 20 years with much less convincing growth in BV.   And then there's been the past 3 or 4 years. 

 

It's really interesting to take that table that Prem publishes every year and monkey around with it a bit.  Erase 1986 and 1987 on the argument that you can't "start up" twice and then recalculate compound annual growth.  Break the series into the growth phase from 1986-99 and the lacklustre phase from 2000-2019 or 2020, and calculate the compound growth rates for each of those phases.  When you do this exercise, you might view the 17.7% historical average growth in BV on that table in a somewhat different light and you should certainly question whether that series can be replicated going forward.

 

That then leaves the really difficult task of guessing what all of that means for the future.  My take is that the economics of the insurance industry will not allow FFH to routinely achieve its bogey of 15% growth in BV on a going forward basis.  I'd be happy if they could grow BV by 12%, but suspect that it may be more like 10% over the long term.  That's not a knock on FFH, it's just a tough industry.  If they actually do routinely achieve that 15% goal, I'll be the happiest guy around.

 

But, turning to valuation, if you pay 1.5x BV for something that grows its book by 15%, you are basically getting a 10% earnings yield with relatively rapid growth.  But, if you paid 1.5x BV and FFH grows BV by 10%, you are getting a 6.7% earnings yield and decent growth...and I'd say you'd have slightly overpaid, but not terribly so if the earnings are rock-solid, regular and predictable (in other words all of the things that the insurance industry is not!).  At this point it's trading at a shade over 1x BV, which means that the market finally figures that FFH is worth more alive than dead (ie, if it trades at <1x BV, in theory it's worth more dead than alive, so just break it up, sell off the pieces or run them off, and give the proceeds to the shareholders!).  I'd say that it's definitely worth 1.2x but I guess we'll see over the coming months whether the market agrees with that.  Maybe it'll rattle off 8 or 10 years of fabulous returns that will make me think it's worth 1.5x?  Time will tell....

 

 

SJ

Regarding roe and valuation: 

 

The actual pe ratio of the S&P500 is 27. My best guess is, that the average stock has an roe of about a bit above 11. That‘s the return of the S&P500 over 100 years or so, if I remember correctly.

 

So in my eyes the insurance stocks in general are totally undervalued, if compared to the market. If I can buy FFH at a pb ratio of 1.1 and it gets an roe of 15%, that’s a pe ratio of 7, right? What do we normally like to pay for a business with an roe of 15 today? You don’t find a lot roe 15% businesses with a normalized pe ratio under 20 these days. And Fairfax can be bought at a pe ratio of around 7. So a third of what I would think would be a low price in todays markets. So if Fairfax price would triple tomorrow and it could reach an roe of 15% over the next 20 years, than I am pretty sure buying FFH at that three-times todays price you’d beat the market with that investment. Sounds crazy, doesn’t it? But you‘d have an above average business (roe of 15% versus markets roe of 11%) for an under average price (pe ratio of 21 for FFH after tripling versus pe ratio of 27 for the market). That would be a pb ratio of 3.3. But with an roe of 15%, the bvps of Fairfax would 16-fold in 20 years, the markets bvps would just 8-fold. So after this triple, FFH would double the markets return. So bets should be pretty good to beat the market, if FFHs price wouldn‘t tank like in 2020. 

If FFH could reach the markets roe of 11 it still could outperform the market (you would buy the average business for a cheaper price than average - after FFH trippling). Of course, a pb ratio of 3.3 seems high as we are all not used to pay that normally for an average insurer. Still it’s only buying the average business at below markets pe ratio.

 

I am not saying anybody should buy FFH at those trippled prices; I wouldn‘t. But it shows the downside protection to me. And that insurance is cheap compared to other sectors. And that buybacks are a good idea at todays prices.

[Cigarbutt]

On 2/17/2024 at 3:04 PM, Viking said:

Great conversation @StubbleJumper and...

3.) It looks to me like Fairfax has been upgrading the quality of its insurance businesses. This suggest underwriting profit is likely to surprise to the upside moving forward (like it has in 2022 and 2023). 

 

That's a point that needs to be underlined.

-Short version

FFH's underwriting has improved and this improvement can be seen in reported numbers and more can be inferred to support the conclusion that future underwriting results are likely to surprise, positively, overall, over the next 5 years.

-Longer version

This has been discussed before (a few years back in these pages and with you at times...). Here are two pictures. The first is the reserve cycle which is tied to the underwriting cycle.

This is a longer term graph which includes US P/C (relative proxy for world P/C) and which shows how reported combined ratios eventually benefit from reserve releases a few years after a hard market has started and how the opposite occurs after a soft market. Opinion: for FFH with their insured lines profile, their comparable industry follows more the yellow bars, bars which should be compared to FFH's actual results (see below).

Here's another with 2022 results (from NIAC, US P/C):

So more of the same and a significant adjustment needs to be made for workers comp which, at the industry level, has seen a very unusual and high rate of reserve redundancy for a few years including more than 6.6B for 2022, thereby indicating otherwise a recent net adverse development pattern. Note: FFH writes WC policies but the proportion is much less than at the overall P/C level. If avid for details, one can go through their IFRS and otherwise appropriate disclosures and dissect the reserve development pattern at Zenith. Spoiler alert: this additional work does not materially change the conclusions from this post.

Here's from FFH:

The first column is reported directly and represents the CR % points of reserve redundancy at operating subs. The second column requires some basic math and includes the run-off earned premiums and reserve development there also. Several aspects stand out but the main point is that FFH's pattern of reserve releases has been more or less parallel to the industry but better (few % points overall), is likely to improve over the next few years as the market turned around 2018-9 as more recent positive float reserve development will more than compensate older negative float reserve development. The big bonus though (and possibly underestimated and presently unrecognized?) is the fact that FFH grew their premiums very opportunistically, compared to peers. This means that the expected reserve releases over the next few years are likely to surprise to the upside and it's helpful to remember that, for a company writing at a ratio of premiums to equity near one, each one % point of improvement in the reported combined ratio, which includes the accident year combined ratio (which is expected to be reported at slightly to moderately below 100, on a net basis, over the next five years) and the reserve development CR %, corresponds to a pre-tax one % point of improvement in ROE.

 

Technical stuff related to the above Excel table:

-the 2023 result in the second column is likely correct or close to correct but this needs to be checked with the release of the annual report

-in Q4 2023, 0.7% of CR was released at operating subs, for a total of 1.4% for the year, perhaps putting some weight to the hypothesis that the trend for gradually higher reserve releases may have started to turn to the upside for the quarters to come...

[Viking]

Not sure if this has been posted before (it is from Feb 14). Great take-down of MuddyWaters. 
 

MUDDY WATERS ATTACKS FAIRFAX WITH UNFAIR FACTS

https://iansbnr.com/muddy-waters-attacks-fairfax-with-unfair-facts/

Edited February 19 by Viking

[Phoenix01]

6 hours ago, Viking said:

Not sure if this has been posted before (it is from Feb 14). Great take-down of MuddyWaters. 
 

MUDDY WATERS ATTACKS FAIRFAX WITH UNFAIR FACTS

https://iansbnr.com/muddy-waters-attacks-fairfax-with-unfair-facts/

Looks like Mark Dwell has seen it

[ValueMaven]

Who is Mark Dwelle?

Edited February 19 by ValueMaven

[Phoenix01]

54 minutes ago, ValueMaven said:

Who is Mark Dwelle?

He is an analyst for RBC that covers Fairfax.  He has been fairly conservative with his valuations in the past.

[SafetyinNumbers]

16 minutes ago, Phoenix01 said:

He is an analyst for RBC that covers Fairfax.  He has been fairly conservative with his valuations in the past.

He retired last year. 
 

I think it’s silly he thinks FFH traded at a discount because the market figured it out. I believe it has more to do with quant preferences. It doesn’t help if analysts like him think the market is efficient so keep their estimates unrealistically low as it just creates a feedback loop. Of course, it doesn’t matter in the long run. 

[Viking]

13 hours ago, Cigarbutt said:

That's a point that needs to be underlined.

-Short version

FFH's underwriting has improved and this improvement can be seen in reported numbers and more can be inferred to support the conclusion that future underwriting results are likely to surprise, positively, overall, over the next 5 years.

-Longer version

This has been discussed before (a few years back in these pages and with you at times...). Here are two pictures. The first is the reserve cycle which is tied to the underwriting cycle.

This is a longer term graph which includes US P/C (relative proxy for world P/C) and which shows how reported combined ratios eventually benefit from reserve releases a few years after a hard market has started and how the opposite occurs after a soft market. Opinion: for FFH with their insured lines profile, their comparable industry follows more the yellow bars, bars which should be compared to FFH's actual results (see below).

Here's another with 2022 results (from NIAC, US P/C):

So more of the same and a significant adjustment needs to be made for workers comp which, at the industry level, has seen a very unusual and high rate of reserve redundancy for a few years including more than 6.6B for 2022, thereby indicating otherwise a recent net adverse development pattern. Note: FFH writes WC policies but the proportion is much less than at the overall P/C level. If avid for details, one can go through their IFRS and otherwise appropriate disclosures and dissect the reserve development pattern at Zenith. Spoiler alert: this additional work does not materially change the conclusions from this post.

Here's from FFH:

The first column is reported directly and represents the CR % points of reserve redundancy at operating subs. The second column requires some basic math and includes the run-off earned premiums and reserve development there also. Several aspects stand out but the main point is that FFH's pattern of reserve releases has been more or less parallel to the industry but better (few % points overall), is likely to improve over the next few years as the market turned around 2018-9 as more recent positive float reserve development will more than compensate older negative float reserve development. The big bonus though (and possibly underestimated and presently unrecognized?) is the fact that FFH grew their premiums very opportunistically, compared to peers. This means that the expected reserve releases over the next few years are likely to surprise to the upside and it's helpful to remember that, for a company writing at a ratio of premiums to equity near one, each one % point of improvement in the reported combined ratio, which includes the accident year combined ratio (which is expected to be reported at slightly to moderately below 100, on a net basis, over the next five years) and the reserve development CR %, corresponds to a pre-tax one % point of improvement in ROE.

 

Technical stuff related to the above Excel table:

-the 2023 result in the second column is likely correct or close to correct but this needs to be checked with the release of the annual report

-in Q4 2023, 0.7% of CR was released at operating subs, for a total of 1.4% for the year, perhaps putting some weight to the hypothesis that the trend for gradually higher reserve releases may have started to turn to the upside for the quarters to come...

@Cigarbutt thanks for your post. I am not an insurance analysts so i really appreciate the detail you provided in your post. Rather, i am a generalist and i develop a thesis (perspective) based on what i learn over time. And than i constantly adjust my thesis as i get new information.
 

I remember when Fairfax was buying up all the international insurers in 2015 and 2016 and thinking ‘old Fairfax’ buying shitty insurance companies… Yes, my ‘thesis’ at the time was completely wrong. 

 

The reality is Fairfax built out their international platform at the perfect time… AIG and others were looking to shed P/C insurance assets. Great strategic move for the company. The fact they were able to do this when they were bleeding money from the equity hedge/short positions is pretty amazing.
 

Fast forward to today and international is delivering a solid underwriting profit and looks poised to possibly be a growth engine in insurance for Fairfax in the coming years.

Edited February 19 by Viking

[Hoodlum]

With Quess hosting an investor meeting on the 21st to discuss the demerger and the Greek PM visiting India this week along with a business delegation, I wonder if Prem will be in India this week. 
 

https://www.ekathimerini.com/opinion/1232110/greeces-gateway-to-asia-indias-gateway-to-europe/
 

It is also interesting to note that Greece’s most important long-term foreign investor is Indian-Canadian billionaire Prem Watsa, founder and CEO of the Fairfax Financial Holdings. Mr. Watsa often states that “Greece is still by far the best European country to invest in.” With knowledge of both countries, he has been a steady promoter of Greek-Indian business cooperation. 

[glider3834]

https://www.theinsurer.com/viewpoint/embracing-2024-allied-worlds-european-platform/

 

“Our growth is not just about expansion, but about strategic adaptation. I joined Allied World in 2008 and have witnessed an amazing transformation from a small team to a global force, with $6.5bn in gross written premiums, over 1,600 employees and 26 global offices.”

For the European operations, the focus has been growing the teams and the business in a measured, profitable way. 

[jeyfox]

Fairfax did a great job on improving the combined ratio since 2004 on all of its insurance entities.

 

[gfp]

Well not that it matters much but the newswires are showing that both RBC and BMO have increased their "price targets" for FFH.

 

RBC from $1085 -> 1200 ( I assume this is CAD and they aren't very bullish) USD, good for them

BMO from C$1550 -> C$1650

Edited February 20 by gfp

[SafetyinNumbers]

3 minutes ago, gfp said:

Well not that it matters much but the newswires are showing that both RBC and BMO have increased their "price targets" for FFH.

 

RBC from $1085 -> 1200 ( I assume this is CAD and they aren't very bullish)

BMO from C$1550 -> C$1650

RBC target is US$1200. It’s 1.1x their BV estimate. They leave their 2024 EPS estimate unchanged at US$140 and increase 2025 to US$152 from US$150. Maintain Outperform rating.

Edited February 20 by SafetyinNumbers

[Hoodlum]

7 minutes ago, gfp said:

Well not that it matters much but the newswires are showing that both RBC and BMO have increased their "price targets" for FFH.

 

RBC from $1085 -> 1200 ( I assume this is CAD and they aren't very bullish)

BMO from C$1550 -> C$1650

 

The RBC Target is in US$

 

https://www.theglobeandmail.com/investing/markets/inside-the-market/article-tuesdays-analyst-upgrades-and-downgrades-for-feb-20/

 

RBC Capital Markets analyst Scott Heleniak continues to see shares of Fairfax Financial Holdings Ltd. (FFH-T, FFH.U-T) as “attractive at current levels” following “solid” fourth-quarter results that saw “one of the company’s better underwriting results in recent quarters as well as strong dividend and investment income.”

“Reserve releases were above normal in Q4 at a time when some peers are seeing weaker reserving while core margins remained healthy,” he added. “Overall premiums were down albeit this was impacted by a few large non-renewals. Affiliate income was lower than in recent quarters. Share buybacks picked up in Q4 and the company recently raised its annual dividend.”

 

On Thursday, the Toronto-based firm reported net earnings per share of US$52.87, which exceeded Mr. Heleniak’s US$30.70 net estimate. He estimated Fairfax earned US$31.15 per share on an operating basis versus his US$27.70 forecast, citing its combined ratio as the main source of the upside.

 

“Fairfax’s Q4 P&C combined ratio was 89.9 per cent, its best combined ratio all year,” he said. “Reserve development for the quarter (2.7 points) was above the recent run rate with OdysseyRe, Northbridge, and Zenith National each generating double-digit reserve releases. NWP declined 5.5 per cent due to non-renewals at Brit and OdysseyRe. Fairfax is still seeing mid-single-digit insurance rate increases in its insurance book, which we believe is still outpacing loss cost trends. On the Q4 call, the company refuted the Muddy Waters short report and specifically took time to defend their stance on topics such as their investment in Digit Insurance, valuation methods for Level III investments (specifically for Recipe, Exco, and Quest), third party transaction protocol, and IFRS 17. We thought management did a solid job of addressing these topics.”

 

Maintaining his 2024 forecast, Mr. Heleniak raised his 2025 net EPS estimate by US$2 to US$152.00, citing “slightly better” premium and combined ratio assumptions. That prompted him to raise his target for Fairfax shares to US$1,200 from US$1,085, maintaining an “outperform” rating. The average target on the Street is $1,744.76 (Canadian).

 

“We believe the new price target is warranted considering our constructive underwriting and net investment income outlook for 2024 and given favorable multiples for P&C insurers in the sector,” he said.

 

“Fairfax’s underwriting units continue to deliver impressive results and its investment portfolio has likewise begun delivering improving returns as some of its associate/affiliate holdings are monetized. We would look for these things to continue as Fairfax’s insurance companies are well positioned to capitalize on improved P&C pricing and have a track record of opportunistic growth in such environments. Our thesis is that Fairfax’s long-term track record of double-digit book value growth will continue and the current valuation provides an attractive risk-reward entry point for those willing to back the company’s long-term investment track record. Fairfax has a deep cash position and ample access to capital, which gives it the flexibility to be opportunistic as well as patient.”

[gfp]

Thanks for the clarification.  I primarily use Interactive Brokers in the USA and I can never seem to find FFH.U (the US dollar traded Toronto shares) - does anybody else with IB have access to FFH.U ?  Fairfax India shows up no problem.

[SafetyinNumbers]

19 minutes ago, gfp said:

Thanks for the clarification.  I primarily use Interactive Brokers in the USA and I can never seem to find FFH.U (the US dollar traded Toronto shares) - does anybody else with IB have access to FFH.U ?  Fairfax India shows up no problem.

Why do you want to? FRFHF is generally more liquid although for both I would convert the FFH.to bid/ask before putting in an order.

[gfp]

14 minutes ago, SafetyinNumbers said:

Why do you want to? FRFHF is generally more liquid although for both I would convert the FFH.to bid/ask before putting in an order.

 

I usually prefer to own the actual underlying over a non-marginable OTC ticker.  I am fine with FFH in Canadian dollars (30% margin requirement for the most part, sometimes 50% since MW report).  But in US tax deferred accounts I buy FRFHF because I don't want to buy the CAD before each trade and can't borrow it.

[SharperDingaan]

Just to throw it out there ..... 

FFH might want to include an EV/Common Share valuation every quarter, starting with the AGM. First time out include the methodology, and drive it from the Statement of Cashflow (PAT approach). Provide the estimated maintenance capex, the WACC, and the growth rate. Refresh the estimates every 2nd quarter.

 

Multiple of BV is just the dominant industry comparable; change the framing, and you change the valuation. Run the company as a business, versus an investment, and EV is a lot more relevant; as management makes the key decisions that influence cash flow activities, WACC, growth, maintenance capex, etc. Evaluate management on what they do.

 

Nobody else does it .... yet. Put the EV/share out there and you'll get a lot of attention!, particularly when it is a lot higher than the multiple of BV valuation. Successfully defend it, and others will follow; the combined effort achieves critical mass, and the framing changes.

 

It's risky .... not. If the EV/share is 20% higher than the BV multiple, to discredit the approach a naysayer has to consistently and persistently argue a discount to EV/share of  > 20%. Hard to do, and if only 50% successful, EV/share is now 10% higher than the BV multiple; and it gets near impossible to do ... if EV/share becomes the industry metric. Fear is the mind killer here, not the approach itself.

 

The bulk of the industry is a handful of players, that all know each other. Should one trial it for a year, lets the market decide, and it works out; the 'impossible' could well occur a lot quicker than everyone thought! 

 

To quote the renowned Trooper song . " If you don't like what you got, why don't you change it? If your world is all screwed up, then rearrange it?" https://www.azlyrics.com/lyrics/trooper/raisealittlehell.html

 

SD

 

  

[SafetyinNumbers]

1 hour ago, gfp said:

 

I usually prefer to own the actual underlying over a non-marginable OTC ticker.  I am fine with FFH in Canadian dollars (30% margin requirement for the most part, sometimes 50% since MW report).  But in US tax deferred accounts I buy FRFHF because I don't want to buy the CAD before each trade and can't borrow it.

Makes sense, thanks.

[glider3834]

11 hours ago, jeyfox said:

Fairfax did a great job on improving the combined ratio since 2004 on all of its insurance entities.

 

cheers - you might want to also update with 2023 below

 

what does the Fairfax India CR relate - I assume thats not FIH?

 

Just with Allied, Fairfax recorded only half a year's premium in 2017 so that throws the combined ratio for 2017 and also warps the avg CR number as seasonally the cat losses are usually concentrated in 2H.

 

In terms of CR I would look at averages in 5 year increments as well as trend in underlying CR along with qualitative info eg over last 12 mths Brit has been significantly reducing its property cat exposure 

 

Edited February 20 by glider3834

[Parsad]

12 hours ago, jeyfox said:

Fairfax did a great job on improving the combined ratio since 2004 on all of its insurance entities.

 

 

Andy Barnard took over as head of all of Fairfax's insurance business in April 2011...look at the results the year he took over and then today!  His expertise as Odyssey Re's head is what helped change all of Fairfax's insurance business.  They went from ho-hum/poor insurers to world class!  Cheers!

[Thrifty3000]

When FFH reports mind-blowing results and the stock price drops...

 

[gfp]

24 minutes ago, Thrifty3000 said:

When FFH reports mind-blowing results and the stock price drops...

 

 

Weren't those the approximate results that we all expected?  Which may have been a major factor in the bull run preceding the earnings announcement?

 

Did you expect a worse Q4 than what was reported?

[Masterofnone]

Isn't it wonderful that they reported great results! Getting rich fast is terrific but pretty fast works too. The stock is 6% off all time highs with shorts still working on it. Relax and wait a few months...