On Float

[JBird]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

[watsa_is_a_randian_hero]

what is the source of the float.  Float from reinsurance is not the same as float from auto insurance.

[JBird]

A good question when dealing with the real world. But for the sake of simplicity the float doesn't even have to be from insurance. There are no constraints on your ability to invest it. It can be 100% in equities if you want.

[jay21]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

1. 999,999,999.99 - arbitrage

2. 999,925,000 ish - proceeds minus PV of $1b liability plus profit (theoretically should be 1 cent profit for arbitrage).

[constructive]

If the risk free rate is 10%, inflation is running pretty high. Or is that 10% real?

 

I don't believe the real risk free rate is ever likely be 10%. I also have my doubts about the existence of "risk free".

[constructive]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

1. 999,999,999.99 - arbitrage

2. 999,925,000 ish - proceeds minus PV of $1b liability plus profit (theoretically should be 1 cent profit for arbitrage).

 

I guess stealing the money from the widows and orphans who own the float is a Madoffian form of arbitrage.

[Guest deepValue]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

$1.5 billion for both. I'd pay no more than 15x earnings for a great company. Can generate $100mm in risk-free earnings in first year and more after that, assuming risk-free remains 10%.

 

100 years is too far into the future to really include in a dcf. Not sure what happens to the value when you include that, but it can't have much of an impact on npv.

[JBird]

If the risk free rate is 10%, inflation is running pretty high. Or is that 10% real?

 

I don't believe the real risk free rate is ever likely be 10%. I also have my doubts about the existence of "risk free".

 

Another good question for the real world. Let's say 10% real risk-free. Inflation is at 0%.

[LakesideB]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

Okay I;ll take a crack at the first one ....

 

From what you propose this float seems like a zero coupon perpetual liability. Because of this it essentially means its worth nothing to the bond holder. So if I invert this proposition ... this effectively means this is a source of equity to me.

 

Assuming I have a 10 year ten horizon and I think I could compound this equity at 15% in a 10% risk free environment ... using 12% discount rate (10% real + 2% inflation) ... i would be willing to bid 1.3 times equity ... ie roughly $1.3billon.

 

The answer to second question would probably elongate the time horizon to 100 years ... and the critical assumption would be how much you can compound your capital by ... if you think 12.5% over 100 years .. @12% discount rate the equity is probably worth 13,500 x. From this you subtract the initial payment of $1b of libility so its likely worth 13,499 x. So 13,499 * $1billion. is $13.49 trillion. Given world's total wealth is about $300 trilion ... i effectively need to come up with 10% of world's wealth!!! The answer to second question is largely irrelvant .... is purely a match exercise. I would still probably bid $1.3b to $1.5b.

 

[constructive]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

1. 999,999,999.99 - arbitrage

2. 999,925,000 ish - proceeds minus PV of $1b liability plus profit (theoretically should be 1 cent profit for arbitrage).

 

I guess stealing the money from the widows and orphans who own the float is a Madoffian form of arbitrage.

 

Ditto on these numbers.  (Sorry, I misinterpreted your arbitrage comment.  :-[)

 

The reason you shouldn't pay more than $1B is that you should be able to earn the same return on your own money as on someone else's money. Therefore if you pay $1.5B you are giving up earning $150M risk free in order to earn $100M risk free.

[LakesideB]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

1. 999,999,999.99 - arbitrage

2. 999,925,000 ish - proceeds minus PV of $1b liability plus profit (theoretically should be 1 cent profit for arbitrage).

 

I guess stealing the money from the widows and orphans who own the float is a Madoffian form of arbitrage.

 

Ditto on these numbers.  (Sorry, I misinterpreted your arbitrage comment.  :-[)

 

The reason you shouldn't pay more than $1B is that you should be able to earn the same return on your own money as on someone else's money. Therefore if you pay $1.5B you are giving up earning $150M risk free in order to earn $100M risk free.

 

Well if I can earn more than the risk free and can get free leverage .. .the levered returns to me will be magnitudes higher as my own equity will be smaller portion of the total capital in question.

 

The question is how much higher than risk free and how much I need to bid to get the free leverage.

[jay21]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

Okay I;ll take a crack at the first one ....

 

From what you propose this float seems like a zero coupon perpetual liability. Because of this it essentially means its worth nothing to the bond holder. So if I invert this proposition ... this effectively means this is a source of equity to me.

 

Assuming I have a 10 year ten horizon and I think I could compound this equity at 15% in a 10% risk free environment ... using 12% discount rate (10% real + 2% inflation) ... i would be willing to bid 1.3 times equity ... ie roughly $1.3billon.

 

The answer to second question would probably elongate the time horizon to 100 years ... and the critical assumption would be how much you can compound your capital by ... if you think 12.5% over 100 years .. @12% discount rate the equity is probably worth 13,500 x. From this you subtract the initial payment of $1b of libility so its likely worth 13,499 x. So 13,499 * $1billion. is $13.49 trillion. Given world's total wealth is about $300 trilion ... i effectively need to come up with 10% of world's wealth!!!

 

Do a reasonableness check.  Do you really think that a scenario were you pay back the $1b is worth more than a scenario were you don't pay it back? Do you really think option 2 is worth $13 trillion?

[LakesideB]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

Okay I;ll take a crack at the first one ....

 

From what you propose this float seems like a zero coupon perpetual liability. Because of this it essentially means its worth nothing to the bond holder. So if I invert this proposition ... this effectively means this is a source of equity to me.

 

Assuming I have a 10 year ten horizon and I think I could compound this equity at 15% in a 10% risk free environment ... using 12% discount rate (10% real + 2% inflation) ... i would be willing to bid 1.3 times equity ... ie roughly $1.3billon.

 

The answer to second question would probably elongate the time horizon to 100 years ... and the critical assumption would be how much you can compound your capital by ... if you think 12.5% over 100 years .. @12% discount rate the equity is probably worth 13,500 x. From this you subtract the initial payment of $1b of libility so its likely worth 13,499 x. So 13,499 * $1billion. is $13.49 trillion. Given world's total wealth is about $300 trilion ... i effectively need to come up with 10% of world's wealth!!!

 

Do a reasonableness check.  Do you really think that a scenario were you pay back the $1b is worth more than a scenario were you don't pay it back? Do you really think option 2 is worth $13 trillion?

 

Sorry I amended my comment later on to say that it was largely a match exercise and that the bid essentially remains the same ...

[jay21]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

Okay I;ll take a crack at the first one ....

 

From what you propose this float seems like a zero coupon perpetual liability. Because of this it essentially means its worth nothing to the bond holder. So if I invert this proposition ... this effectively means this is a source of equity to me.

 

Assuming I have a 10 year ten horizon and I think I could compound this equity at 15% in a 10% risk free environment ... using 12% discount rate (10% real + 2% inflation) ... i would be willing to bid 1.3 times equity ... ie roughly $1.3billon.

 

The answer to second question would probably elongate the time horizon to 100 years ... and the critical assumption would be how much you can compound your capital by ... if you think 12.5% over 100 years .. @12% discount rate the equity is probably worth 13,500 x. From this you subtract the initial payment of $1b of libility so its likely worth 13,499 x. So 13,499 * $1billion. is $13.49 trillion. Given world's total wealth is about $300 trilion ... i effectively need to come up with 10% of world's wealth!!!

 

Do a reasonableness check.  Do you really think that a scenario were you pay back the $1b is worth more than a scenario were you don't pay it back? Do you really think option 2 is worth $13 trillion?

 

Sorry I amended my comment later on to say that it was largely a match exercise and that the bid essentially remains the same ...

 

Ok, so instead of $1b, let's play this game scaled down to $1,000s for as many $1,000s as you want up to $100,000.  And I will offer either option 1 or 2 against your scaled bid, sound like a plan?

[constructive]

Well if I can earn more than the risk free and can get free leverage .. .the levered returns to me will be magnitudes higher as my own equity will be smaller portion of the total capital in question.

 

The question is how much higher than risk free and how much I need to bid to get the free leverage.

 

Think of it this way: you just paid $1.5B to acquire assets worth exactly $1B and liabilities worth approximately $0.

 

Your equity isn't small and your leverage isn't free in this scenario.

[jay21]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

Okay I;ll take a crack at the first one ....

 

From what you propose this float seems like a zero coupon perpetual liability. Because of this it essentially means its worth nothing to the bond holder. So if I invert this proposition ... this effectively means this is a source of equity to me.

 

Assuming I have a 10 year ten horizon and I think I could compound this equity at 15% in a 10% risk free environment ... using 12% discount rate (10% real + 2% inflation) ... i would be willing to bid 1.3 times equity ... ie roughly $1.3billon.

 

The answer to second question would probably elongate the time horizon to 100 years ... and the critical assumption would be how much you can compound your capital by ... if you think 12.5% over 100 years .. @12% discount rate the equity is probably worth 13,500 x. From this you subtract the initial payment of $1b of libility so its likely worth 13,499 x. So 13,499 * $1billion. is $13.49 trillion. Given world's total wealth is about $300 trilion ... i effectively need to come up with 10% of world's wealth!!! The answer to second question is largely irrelvant .... is purely a match exercise. I would still probably bid $1.3b to $1.5b.

 

Option 1 is probably a little easier to think about.  You will get $1b that you don't pay back.  So in other words you get $1b dollars.  Why would you pay anything more than $1b to get $1b?  You wouldn't.

 

Your first thought is one the right track.  If it's worth nothing to the holder, its worth face to you.

[LakesideB]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

Okay I;ll take a crack at the first one ....

 

From what you propose this float seems like a zero coupon perpetual liability. Because of this it essentially means its worth nothing to the bond holder. So if I invert this proposition ... this effectively means this is a source of equity to me.

 

Assuming I have a 10 year ten horizon and I think I could compound this equity at 15% in a 10% risk free environment ... using 12% discount rate (10% real + 2% inflation) ... i would be willing to bid 1.3 times equity ... ie roughly $1.3billon.

 

The answer to second question would probably elongate the time horizon to 100 years ... and the critical assumption would be how much you can compound your capital by ... if you think 12.5% over 100 years .. @12% discount rate the equity is probably worth 13,500 x. From this you subtract the initial payment of $1b of libility so its likely worth 13,499 x. So 13,499 * $1billion. is $13.49 trillion. Given world's total wealth is about $300 trilion ... i effectively need to come up with 10% of world's wealth!!! The answer to second question is largely irrelvant .... is purely a match exercise. I would still probably bid $1.3b to $1.5b.

 

Option 1 is probably a little easier to think about.  You will get $1b that you don't pay back.  So in other words you get $1b dollars.  Why would you pay anything more than $1b to get $1b?  You wouldn't.

 

Your first thought is one the right track.  If it's worth nothing to the holder, its worth face to you.

 

Sure ideally would love to get this at 1 times book.... but since free leverage has value there will be other players who would be willing to pay a multiple of book depending on what they think they could do with it. I just thought if I can compound this equity for the next 10 years at 15% ... I would be willing to pay 1.3 times book. so $1.3 billion.

 

I guess I am looking the future utility at this free float and PVing its usefulness today.

[LC]

Why pay anything for it? If I have 1.3 billion, why would I spend it to play with 1 billion, when I can just keep it and play with 1.3 billion.

[enoch01]

Float is money held but not owned. The question is, how much are you willing to pay for it?

 

1. $1 billion of static float that is both cost-free and enduring (it will never be paid back) is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

2. $1 billion of static float that is cost-free and must be paid back in full after 100 years is for sale. The risk-free rate is 10%. What's your maximum bid, and why?

 

1.  $1 billion assuming a frictionless transaction.  Money doesn't know if I own it or someone else does.

 

2.  A dollar less than a billion.  Lots can happen over 100 years.

 

Why you would ever pay more than $1 billion makes no sense to me.

[Guest deepValue]

Why pay anything for it? If I have 1.3 billion, why would I spend it to play with 1 billion, when I can just keep it and play with 1.3 billion.

 

Good point.

[LakesideB]

Why pay anything for it? If I have 1.3 billion, why would I spend it to play with 1 billion, when I can just keep it and play with 1.3 billion.

 

I guess the float is not really free if you pay a multiple > 1 to acquire it. Its free to the extent you can get it a discount to the face value.

 

So agree with Jays numbers. Max bid of 999,999,999.

 

My bad here!

[JBird]

Good discussion. I'd like to pose one more hypothetical.

 

$1 billion of cost-free float that must be paid back after 50 years is for sale. The float can only be invested in risk-free assets. The risk-free rate is 5%. Your required return rate / discount rate is 10%. What's the maximum amount you're willing to bid, and why?

[blainehodder]

I have one...

 

What is a 75B cost free float in perpetuity worth assuming a risk free rate of 3-6%? Should this be deducted from the book value as a liability as if it was due to be paid back?

 

 

[JBird]

I have one...

 

What is a 75B cost free float in perpetuity worth assuming a risk free rate of 3-6%? Should this be deducted from the book value as a liability as if it was due to be paid back?

 

In my view, the answer to the first question depends on the amount of investment income the float will generate over time, and when it will be generated. The second question is rhetorical, we all know the answer.

[LC]

Good discussion. I'd like to pose one more hypothetical.

 

$1 billion of cost-free float that must be paid back after 50 years is for sale. The float can only be invested in risk-free assets. The risk-free rate is 5%. Your required return rate / discount rate is 10%. What's the maximum amount you're willing to bid, and why?

87.2 m is the present value but you must account for inflation and sovereign risk. Probably something around 75m.