Why Insurance Stocks and Why Now?

[Guest misterstockwell]

I think the insurance industry now presents a once in a (decade? lifetime? generation?) opportunity. One of my favorites is W R Berkley, and their conference call is always a cornucopia of information.  From today's call, one slide provides a great summary of why? and why now?

Check page 3

http://files.shareholder.com/downloads/BER/627729795x0x290125/21bc1358-c76f-4493-9da3-b0eb8ab19067/1Q09%20Earnings.pdf

[Partner24]

Interesting. W.R. Berkley is a great underwriter and their conference calls comments are often interesting.

 

Cheers!

[Mungerville]

Similar to slide at FFH AGM.

 

Partner,

 

May I ask you

 

Which high-quality insurer do you believe to be cheapest now - one that is good on the underwriting and stays out of trouble on the investment side or is good on the investing side - other than ORH and FFH?

 

Also of your core non-insurance holdings,which one do you think is most undervalued?

[Guest misterstockwell]

Although I am not Partner, unless you happened to be speaking like John Wayne in this case, but I have spent a great deal of time finding exactly what you are asking about.  I ended up with this list of good investors/excess cash/chance for much increased underwriting:

 

FFH/ORH--you know about them

HCC--best underwriters, very conservative investors--book value is $23.27 as of last Q

WRB--never seems to get below book which is 19.22 now--I buy the dips

Y--well below 277 book now, good investment history/lots of equity exposure, but has a small workmans comp subsidiary that sucks

MKL--below book is worth buying, but it's well above book now.

 

Of these, Y is most undervalued at the moment. HCC got down to a buyable level a few days ago--yuo had to be quick though. WRB had the same buyable dip.

 

As for others, I want to try and understand WTM, which is way below book, and never seems to get any love. I also want to take a closer look at PRA, which does malpractice insurance. If anyone has input on these, please post.

 

I look forward to Partner's ideas.

[Mungerville]

Thks.  Question: With ORH trading at 85% of book, are ANY of these better deals?

[Mungerville]

My hunch would be that they are not and ORH is indeed most undervalued.  Is that fair?

[Partner24]

Mungerville,

 

You ask a great question. When I study P/C insurance businesses, I basicaly like to find two things:

 

- A good and conservative underwriter

- A good investor

 

...and frankly to find both of these his hard!!!

 

So, FFH/ORH are on that list, but mostly on the investing side of the business. I give an "ok" to FFH on the insurance side of the business.

 

MKL is on that list too. But granted they are not the cheapest. I estimate that they have a price of approximately 10X normalized earnings yield actually and I estimate their intrinsic value per share of 500$ that can grow by 12-15% CAGR over the next decade.

 

I follow Alleghany too. They got more involved in insurance in recent years and seem to have produced decent returns. To me, they are good investors, but not great. They had some subprime stuff in their assets and their portfolio holdings are ok. Their biggest investment by far is Burlington Northern. Alleghany was involved in railroads a lot some decades ago. I never bought shares because I always preferred FFH and MKL.

 

Regarding WRB, it's a very good specialized underwriter. But not a very good value investor. I like the idea of a company that can grow it's float profitably AND invest the float in a astute way. So even if I follow them because of their underwriting expertise and insight, that's not the case with their investing. So I prefer FFH and MKL.

 

There is WTM. I'm not a big fan of them since Jack Byrne is gone. I still follow them from time to time, but to me they are not in the FFH/MKL category.

 

There is also Flagstone Re (managed by the Mark Byrne) but it's history is short and I'm not so sure about their investing style.

 

So, there is some very interesting underwriters that I've seen so far, but the list of very good investors is very short. How many saw the storm coming like FFH and were as much protected? I don't know a lot. How many sold some of their treasury bonds, hedges, etc. and bought stock on the very cheap and very decent yielding munis garanteed by Berkshire? To me, that was brillant. I keep searching for interesting insurance businesses to invest for the long run, but in the end, I compare them to FFH and MKL and to me the bar is quite high! You'll see other insurance businesses that are better underwriters than FFH and are quite conservative, but great investors too? Not necessarely. 

 

MKL has a terrific corporate culture, I trust their managers a lot, and Berkshire is a very strong inspiration to them. Their portfolio management basic policy makes a lot of sense. They invest policy holders money in mostly high quality bonds and match the duration of it with the time they expect to be able to keep the float before paying claims and they keep a margin of safety by investing more than their claims expected in bonds. Then, a significant part of what they call "shareholder's money" is invested in mostly high quality equities (big % is in BRK, FFH, Carmax, Diageo, BAM, GE and WMT) that has a very low turnover rate (they are long term investors).

 

Furthermore, both management have been there since a long time, are honest, owners friendly, have skin in the game, think for the long term, have decent salaries and no stock options.

 

Sooo...my list is quite short. Wich one is the cheapest between the two IMO? FFH. I have to say that since their balance sheet have improved significantly since a few years, the gap between their respective solidity is narrowing. That being said, Markel is very conservative with their reserves, so the MKL's book value is probably understated.

 

I'm still studying insurance companies that I've never studied before, so I might find better candidates for the long term, but so far I have not.

 

Finally, I have just 4 names in my personal portfolio. As you have guessed, FFH and MKL are in it (and by far take the most % of it). The 2 other names are diversified conglomerates. One is a name that you've heard about several times on this board, the other one sometimes, but not very often and have a terrific track record.

 

Cheers!

[Mungerville]

Thanks Partner.  That's the way I look at it when I compare MKL to say ORH.  One is just much cheaper.  Also investment leverage at ORH is more than underwriting revenues relative to book equity so the investment side is that much more important to a point.

 

And I think that a lot of people on this board forget the very basic notion that when you buy up things at below book value as a strategy, you will get integration years (1 to 4 years) where the combined ratio is north of 120% and if you keep doing that to grow, your underwriting track record looks just "OK".  BUT that is not the steady state situation on a go-forward basis.  So you have to split the underwriting record out and determine the impact of the integration years and when you do that, the historical record starts to look a lot lot better.  This is so simple but very very key.  And compare this to a strategy where you buy high-quality insurance companies not needing turnaround at 2x book value - of course they have better underwriting so your integration years combined ratios will be below 100% as they were good underwriters to begin with.  So, you have to adjust for that but a lot of people on this board forget this simple fact. 

 

If you ever get the urge to share your other two positions, I'll be listening.

[Guest misterstockwell]

Also looking at AHL and MHLD which are at much greater discounts to book

[Partner24]

If you ever get the urge to share your other two positions, I'll be listening.

 

Well, I would not want to share all my holdings openly, but you can check your emails.

 

Cheers!

[Guest kawikaho]

In regards to Y, their ONLY investment is Burlington Rail.  I bought them before, and when I realized that their only equity exposure was just that one stock, I got out.  Their not that good at investing the float.

[Guest misterstockwell]

In regards to Y, their ONLY investment is Burlington Rail.  I bought them before, and when I realized that their only equity exposure was just that one stock, I got out.  Their not that good at investing the float.

 

Not true at all. Check their 13-F

[prevalou]

http://www.sec.gov/Archives/edgar/data/775368/000095012309002112/0000950123-09-002112.txt

 

for information

[Partner24]

Regarding Y american stock holdings, you can also check at:

 

http://holdings.nasdaq.com/asp/OwnerPortfolio.asp?FormType=OwnerPortfolio&CIK=0000775368&HolderName=ALLEGHANY+CORP+%2FDE

[Partner24]

And since the reserves-to-equity ratio is more lower at Alleghany than a lot of their peers, probably that you cannot consider all the Burlington Northern investment as part of their float. Furthermore if Burlington was going to zero, it would not be the end of the world for Alleghany (Burlington 31/12 position at actual value weigh for more or less 10% of their equity and, by the way, Alleghany had NO corporate debt at the end of 2008).

[Guest kawikaho]

In regards to Y, their ONLY investment is Burlington Rail.  I bought them before, and when I realized that their only equity exposure was just that one stock, I got out.  Their not that good at investing the float.

 

Not true at all. Check their 13-F

 

Oops, I meant to say they're and not their--geez, been making bunch of typos. 

 

Well, when I received their shareholder report, I specifically went to their investments section to see what their holdings were.  I distinctly remember the only holding, and this was a year ago, was BNI.  Maybe it was just their core holding, and they probably had others, but that was the only company that was mentioned.