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Prem Watsa Q & A - Gurufocus


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I would like to know what the thesis is on the Hellenic debt. ORH has been buying a staggering amount over the past couple of quarters. Also, are the Sino Forest bonds going to work out?

 

Hi A_Hamilton,

 

Could you provide a little more color regarding your comment? How much is a staggering amount? Also what % of par are they buying the debt at? I imagine you're finding this info in the NAIC filings.

 

Thanks for the heads up on the developments in ORH's portfolio!

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I would like to know what the thesis is on the Hellenic debt. ORH has been buying a staggering amount over the past couple of quarters. Also, are the Sino Forest bonds going to work out?

 

Hi A_Hamilton,

 

Could you provide a little more color regarding your comment? How much is a staggering amount? Also what % of par are they buying the debt at? I imagine you're finding this info in the NAIC filings.

 

Thanks for the heads up on the developments in ORH's portfolio!

 

-At 12/31 ORH reported $190 million in cost of Greek bonds par was $298 million (all of this is rounded)

-3/31 purchases of $59 million, par of $91 million

-6/30 purchases of $80 million, par of $180 million.

 

These are all down this quarter as well. Needless to say they are averaging down and have claims on millions of man hours of greek workers' time at this point.

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-At 12/31 ORH reported $190 million in cost of Greek bonds par was $298 million (all of this is rounded)

-3/31 purchases of $59 million, par of $91 million

-6/30 purchases of $80 million, par of $180 million.

 

These are all down this quarter as well. Needless to say they are averaging down and have claims on millions of man hours of greek workers' time at this point.

 

A_Hamilton,

 

Thanks for the additional details! That is quite a bit of change, but it looks like they are paying less than 50% of par and if they are still buying probably lower. It's nice to see the bond gurus in action, moving out of Treasuries and US govt to Sovereign debt.

 

I sleep well knowing that Fairfax has an experienced bond team.

 

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Absolutely agree Grenville!

 

I just would like to hear something from them that is along the lines of well...the french and germans are going to be holding the bag and you should really look at all EU debt as being the same because they are all stuck with the currency now and they can't let anyone default/leave the Euro zone.

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The two-year Greek bond yield rose by 2.64 percentage points to 45.92%, widening the yield spread over similarly dated German schatz by 2.47 percentage points to 45.39%. The five-year yield rose by 0.83 percentage point to 28.56%, while the 10-year yield climbed by 0.16 percentage point to 17.54%.

 

The 10-year Italian bond yield rose by 0.10 percentage point to 5.235%, widening the yield spread over similarly dated German bunds by 0.23 percentage point to 3.25 percentage points, the widest in a month.

 

http://online.wsj.com/article/SB10001424053111904583204576546553664672660.html

 

Wow.

 

Wed May 4, 2011 4:01pm EDT

 

May 4 (Reuters) - Fairfax Financial Holdings Ltd (FFH.TO) on Wednesday sold $500 million of notes in the 144a private placement market, said IFR, a Thomson Reuters service.  Bank of America Merrill Lynch was the sole book running manager for the sale.

 

BORROWER: FAIRFAX FINANCIAL HOLDINGS LTD

AMT $500 MLN      COUPON 5.75 PCT    MATURITY 5/15/2021

TYPE NTS          ISS PRICE 99.646    FIRST PAY 11/15/2011

MOODY'S Baa3      YIELD 5.847 PCT    SETTLEMENT 5/9/2011

S&P BBB-MINUS    SPREAD 262.5 BPS    PAY FREQ SEMI-ANNUAL

FITCH BBB-MINUS    MORE THAN TREAS    MAKE-WHOLE CALL 50 BPS

 

http://www.reuters.com/article/2011/05/04/fairfaxfinancial-debt-notes-idUSN0457393520110504

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Any chance FFH *also* owned Greece CDS?

 

I think that either you own the CDS for a big gain as interest rates climb, or you own the debt for a big loss as interest rates climb, but these large swings in valuation just cancel each other out if you own both. 

 

So no chance they own both is my vote.

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Ericopoly:

 

In theory, Greece CDS spikes when Europe implodes -- and, as there's a flight to the safety of the US Dollar in an increasingly deflationary world -- Treasury yields drop

 

GREEK CDS

http://www.bloomberg.com/apps/quote?ticker=CGGB1U5:IND

 

TREASURY YIELD

http://www.bloomberg.com/apps/quote?ticker=USGG10YR:IND

 

 

Another angle:  FFH has been buying very high yield Greek debt -- reasonable to argue a Greek CDS position functions as a hedge on this debt allocation, if the CDS were purchased early/cheap enough?

 

Any chance that owning a pile of Greek debt and owning a pile of Greek CDS could be akin to flipping a coin that pays 3:1?  If bonds are money-bad, the CDS will do very well.  If CDS declines in value, the bond will do very well.  One will expire worthless, other will J-curve. Obviously, it's not a 50/50 situation.  Hypothetically, something akin to 20/80 split, with 10:1 payout for the 20% probability, and then 2:1 payout for the 80% probability?

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After the annual meeting Brian Bradstreet mentioned that he didn't think anyone would ever be paid off on a big CDS bet again - essentially saying that if Greece or someone else blew up, the debts would be restructured in a way that would not trigger CDS payment/settlement.

 

This makes sense, because banks previously (still?) didn't have reserve any capital against selling sovereign CDS, because it was just like buying a AAA sovereign bond, which led to bankers selling a lot of this stuff to make "free" money.  This is a systemic risk, so the politicians will likely insure that they never have to pay up on these contracts.

 

For this reason, I would not be shocked if FFH bought cheap greek CDS a while ago, and is now essentially taking the trade off by buying the bonds.  If they buy cheap long-dated bonds they get a lot of current income and if there is an acual default (unlikely in my opinion), their CDS will have to pay out.

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This makes sense, because banks previously (still?) didn't have reserve any capital against selling sovereign CDS, because it was just like buying a AAA sovereign bond, which led to bankers selling a lot of this stuff to make "free" money.  This is a systemic risk, so the politicians will likely insure that they never have to pay up on these contracts.

 

I hope this is not the situation. If, after seeing AIGFP blowup from selling CDS on "riskless" bonds, bankers were still selling CDS to make free money, they surely deserve to fail. But then again, maybe this is why the European authorities cannot get to grips with the crisis.

 

I always thought that the Euro sovereign debt problem was a finite one and all it required was the political will to agree on a comprehensive package to deal with the problem - i.e. do a real stress test on the banks and come out with whatever bailout funds are required. But if there are substantial CDS side bets, we could be looking at "deja vu all over again."

 

 

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A play on the restructuring of these Greek bonds?  In a restructuring scenario, how much would Greece still be on the hook for?  50% of the old debt outstanding?  Do you get exchanged for some sort of Brady bond, with principal guaranteed by some German zero coupoon?  A 1 year 97% yield would imply in a restructuring you only get 3%, i.e. EU let's Greece wipe away all of their debt, and absorb all the pain in the banking system, which seems quite unlikely... 

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