Can anyone explain this disparity for me?

[coc]

Hi guys,

 

I noticed Prem sold half of the JNJ position recently, as reported in the 13F. But when I compare the 13F's to Prem's own reporting in the annual letter, I get a huge disparity. In the annual letter, on page 8, he says that at Dec 31, 2012, Fairfax held 12M shares of Wells Fargo, 7.4M shares of JNJ, and 10.1M shares of US Bank.

 

But the number of shares reported in the 12/31/12 13F filing for each of these positions, especially for the banks, is not even close. (http://www.sec.gov/Archives/edgar/data/915191/000119312513059881/d487003d13fhr.txt)

 

Can someone explain why that is? Are the shares held in a subsidiary or group of subsidiaries that do not have to report as a part of the 13F? If so, why do those shares not need to be included? I notice that all of their Blackberry shares, for example, do show up in the 13F. What is the difference?

 

Thanks for your help. I am sure I am missing something obvious.

[Grenville]

They converted the shares to total return swaps which are reported in the NAIC filings for the insurance subs. See ORH.

 

It makes it harder to follow they're position in those companies.

[coc]

They converted the shares to total return swaps which are reported in the NAIC filings for the insurance subs. See ORH.

 

It makes it harder to follow they're position in those companies.

 

Thanks Grenville. There's my answer.

[coc]

Just to follow up - do you, or does anyone know why they made that choice? And secondly, are they allowed to write insurance against that capital as those positions appreciate? One of the reasons Buffett likes to hold those big positions for a long time is to build up the deferred tax account, which becomes a sort of equity-like capital if he never sells the position. So I'm just wondering how this move affects Fairfax's ability to do the same. (I believe this was part of their stated rationale when they bought those stocks four or five years ago.)

[Grenville]

Just to follow up - do you, or does anyone know why they made that choice? And secondly, are they allowed to write insurance against that capital as those positions appreciate? One of the reasons Buffett likes to hold those big positions for a long time is to build up the deferred tax account, which becomes a sort of equity-like capital if he never sells the position. So I'm just wondering how this move affects Fairfax's ability to do the same. (I believe this was part of their stated rationale when they bought those stocks four or five years ago.)

 

I believe it was to balance the cash flows they were making on their index shorts and other derivatives. I believe they also are with similar counter parties to somewhat hedge their exposure.

[coc]

I believe it was to balance the cash flows they were making on their index shorts and other derivatives. I believe they also are with similar counter parties to somewhat hedge their exposure.

 

Hmm, I'm not sure I understand this. How does switching their stock positions into total return swaps relate to the cash they've been losing on the short index swaps? I apologize if I'm being thick as a post.

[TwoCitiesCapital]

I believe it was to balance the cash flows they were making on their index shorts and other derivatives. I believe they also are with similar counter parties to somewhat hedge their exposure.

 

Hmm, I'm not sure I understand this. How does switching their stock positions into total return swaps relate to the cash they've been losing on the short index swaps? I apologize if I'm being thick as a post.

 

Total return swaps are legal agreements to exchange cash flows from two items. In Fairfax's case, they are paying the return on the Russel 2000 index (and will receive the return if it's negative) and are receiving payments on the financing leg of the swap (likely to be th 1mL or the 3mL rates plus or minus a spread). I don't know the exact specifics of the swaps, but it's likely that they result in either monthly or quarterly cash outflow for Fairfax as the index appreciates. The financing that Fairfax receives on the opposite side if the swap isn't going to be anywhere near the outflow on the index side so they need regular cash flow coming in for these payments.

 

Fairfax could regularly sell shares to cover this monthly/quarterly outflow, or they could enter into monthly/quarterly swap agreements to receive the return on the underlying stocks. This would result in cash flow coming in every quarter which will partially offset the cash outflow every quarter.

[coc]

I believe it was to balance the cash flows they were making on their index shorts and other derivatives. I believe they also are with similar counter parties to somewhat hedge their exposure.

 

Hmm, I'm not sure I understand this. How does switching their stock positions into total return swaps relate to the cash they've been losing on the short index swaps? I apologize if I'm being thick as a post.

 

Total return swaps are legal agreements to exchange cash flows from two items. In Fairfax's case, they are paying the return on the Russel 2000 index (and will receive the return if it's negative) and are receiving payments on the financing leg of the swap (likely to be th 1mL or the 3mL rates plus or minus a spread). I don't know the exact specifics of the swaps, but it's likely that they result in either monthly or quarterly cash outflow for Fairfax as the index appreciates. The financing that Fairfax receives on the opposite side if the swap isn't going to be anywhere near the outflow on the index side so they need regular cash flow coming in for these payments.

 

Fairfax could regularly sell shares to cover this monthly/quarterly outflow, or they could enter into monthly/quarterly swap agreements to receive the return on the underlying stocks. This would result in cash flow coming in every quarter which will partially offset the cash outflow every quarter.

 

So they're just matching the cash flow mechanics of the short bet- gotcha. Thanks for your help.