Fairfax 2020

[Xerxes]

Most of the investment portfolio is held in the subs -- like 95% of it or so.  If the subs succeed in their underwriting, and if Hamlin Watsa does a good job of investing the subs' float for them, the subs can be highly profitable and can issue dividends to FFH holdco.  But, the subs can only issue a dividend to the holdco if the insurance regulators in the various jurisdictions approve.  On page 95 of the AR, FFH describes the approved dividend capacity of the major subs.  However, if the subs max out their dividends to the holdco, it results in a reduction of the subs' capital and underwriting capacity, so the challenge is to find that happy medium.
SJ

Thanks … I ll have a look at A/R page 95.

putting this in reverse, they said this yesterday in their COVID update "During the first quarter of 2020, Fairfax utilized approximately $400 million and $300 million of its cash and marketable securities to provide capital support to its insurance and reinsurance operations and to pay common and preferred share dividends, respectively."

When FFH injects money into the subs for capital support, as oppose to receive dividends from them, is that akin to equity injection?

If so when FFH does it for an entity like Allied World, which is co-owned with OMERS, does it mean that capital injection by FFH is pro-rated and matched by OMERS ? if FFH taking the full burden of that capital injection and OMERS not participating, that would mean that it is actually doing on its own behalf as well as OMERS, so in fact increasing its stake in Allied World as the expense of OMERS

[StubbleJumper]

Most of the investment portfolio is held in the subs -- like 95% of it or so.  If the subs succeed in their underwriting, and if Hamlin Watsa does a good job of investing the subs' float for them, the subs can be highly profitable and can issue dividends to FFH holdco.  But, the subs can only issue a dividend to the holdco if the insurance regulators in the various jurisdictions approve.  On page 95 of the AR, FFH describes the approved dividend capacity of the major subs.  However, if the subs max out their dividends to the holdco, it results in a reduction of the subs' capital and underwriting capacity, so the challenge is to find that happy medium.
SJ

Thanks … I ll have a look at A/R page 95.

putting this in reverse, they said this yesterday in their COVID update "During the first quarter of 2020, Fairfax utilized approximately $400 million and $300 million of its cash and marketable securities to provide capital support to its insurance and reinsurance operations and to pay common and preferred share dividends, respectively."

When FFH injects money into the subs for capital support, as oppose to receive dividends from them, is that akin to equity injection?

If so when FFH does it for an entity like Allied World, which is co-owned with OMERS, does it mean that capital injection by FFH is pro-rated and matched by OMERS ? if FFH taking the full burden of that capital injection and OMERS not participating, that would mean that it is actually doing on its own behalf as well as OMERS, so in fact increasing its stake in Allied World as the expense of OMERS

Yes, it is exactly an equity injection.  Some of us have been bitching and moaning over the past couple of months about the fact that some of the subs did not seem to have adequate capital to crank up their underwriting to exploit this hardening market.  If FFH is confident that it can write a CR or 95 or lower, it makes perfect sense to inject some money into the subs and rapidly grow the book of business.  For every dollar of capital injected into a sub, they can comfortably write $1.50 or $2 of incremental premium and invest those premium dollars in fixed income.  Page 195 of the AR depicts the existing premiums:capital ratios.

If an injection is made into a sub with a minority interest, presumably the minority will also pony up some cash.  Prem made some noise about Riverstone expanding its book in the future....


SJ

[Pedro]

Which subs do you believe received the capital?

How would  the average investor determine for themselves in an annual or quarterly report which subs are cutting it close to requiring capital? Any walk thorough or guidance would be greatly appreciated.

[petec]

They can’t buy any more equities. Simplistically, they can invest their equity in equities but their float must be invested in fixed income.

So the opportunities are in switching from treasuries to corporates at expanded spreads and buying back stock. They’re doing a little of both but neither will change their prospects much.

They entered this sell off fully invested in cyclical value stocks. As a result, there’s not much they can do.

Hi Petec,

How did you conclude this?  They've said numerous times, Sam Mitchell, Prem, Brian, Francis...there is no limitation to how much they can allocate to equities, be it float or equity, but they have to make sure the portfolio is in a position where they aren't risking a huge reduction in statutory surplus or liquidity.

I asked and they told me. As I understand it regulation does not explicitly forbid it but as you say, they can't risk the surplus or their liquidity, so to all practical intents and purposes they are limited, and it shows in their behaviour, because IIRC they have never invested substantially more than book value in equities. I must check.

[petec]

Petec / StubbleJumper

What is the link between cash at holding co. ... and the $40 billion portfolio ?

I understand that the debt they are raising, recap of insurance entities, dividends, buybacks, and the money they are getting by selling run-off business, and the buyout of the minorities are all financed through the holding company cash. That is clear.

What about the return on the $40 billion portfolio ? the returns generated by $40 billion portfolio are either unrealized (so not usable just yet), realized (some phantom accounting return but some real gain as well) or through dividend/interest streams. How does the interest/dividend generated by the portfolio flow back to the company holding co.

I am trying to understand the mechanics of how one side of the business (portfolio) is funding the overall FFH business (i.e. holding co. cash position)

In very rough and simplistic terms the $40bn splits $10bn equity (which FFH own) and $30bn float (which policyholders own, but FFH can keep the investment returns.

Those returns actually show up at the insurance subsidiaries, because that's where the float is. Insurance company profits (which includes investment returns) can be retained to fund growth or dividended up to the holdco.

The holdco's main source of cash flow is insurance subsidiary dividends. It uses these cash flows to service holdco prefs and debt, to pay head office costs, and to pay the dividend.

That's all fine. The issue at the moment is that the holdco actually needs to put money into the insurance subs to support growth (rather than receive dividends from them) and also needs to fund the purchase the Brit and eventually Allied minorities (Eurolife will fund the purchase of the Eurolife minority itself).

That's why holdco cash looks quite tight over the next few years. But the key point I think you're getting at is that they can't use the $40bn portfolio to service holdco cash needs because it is held at the insurance subsidiaries against future claims.

Edit: sorry, I didn't see that SJ had already answered this!

[petec]

Which subs do you believe received the capital?

How would  the average investor determine for themselves in an annual or quarterly report which subs are cutting it close to requiring capital? Any walk thorough or guidance would be greatly appreciated.

The annual letter gives statutory surplus/premiums and you can see that Odyssey and Allied are the two that have significant excess capital.

The quarterly and annual reports detail capital injections into the subs.

[petec]

If an injection is made into a sub with a minority interest, presumably the minority will also pony up some cash. 
SJ

I would also presume this - but if not, then we may be double counting the need to inject equity and buy in minorities. It is possible they can achieve both objectives with one outlay.

[StubbleJumper]

Which subs do you believe received the capital?

How would  the average investor determine for themselves in an annual or quarterly report which subs are cutting it close to requiring capital? Any walk thorough or guidance would be greatly appreciated.

Well, the quick way to eye-ball it is to look at page 95 of the AR which depicts dividend capacity, because that gives you a sense of "excess capital."  Then you can go to page 195 and look at the premiums:surplus ratio.

We know that last year, FFH drew a divvy from C&F and then for whatever reason, reinjected some capital.  When you look at C&F's dividend capacity on page 95, it was $140m, and then when you look at C&F's premiums:surplus ratio on page 195 it's 1.7:1.  Usually you don't see that ratio go above 2:1.  So, with a surplus of $1.4B, perhaps C&F could bump up its net written premiums by $500m to $2.8B (see page 16).  The problem is that C&F increased its net written by 18% during 2019, and 33% in Q4 2019 compared to Q4 2018 (page 5).  So you have a sub that looks to be a little lean on capital, received an injection in 2019 and is probably growing its premium at a pace of 20%+.  It cannot sustain that kind of premium growth throughout 2020 without a capital injection. 

Northbridge is in a similar situation so they probably would benefit from a bit of capital too, but it's a less pronounced "problem." 

Allied has lots of capital, while Zenith and Brit did not grow their book during 2019.  Odyssey has lots of capital, but it has also shot out the lights in the past when pricing got stupid, so it would not at all surprise me if their book could outgrow their capital.


SJ

[petec]

Which subs do you believe received the capital?

How would  the average investor determine for themselves in an annual or quarterly report which subs are cutting it close to requiring capital? Any walk thorough or guidance would be greatly appreciated.

Well, the quick way to eye-ball it is to look at page 95 of the AR which depicts dividend capacity, because that gives you a sense of "excess capital."  Then you can go to page 195 and look at the premiums:surplus ratio.

We know that last year, FFH drew a divvy from C&F and then for whatever reason, reinjected some capital.  When you look at C&F's dividend capacity on page 95, it was $140m, and then when you look at C&F's premiums:surplus ratio on page 195 it's 1.7:1.  Usually you don't see that ratio go above 2:1.  So, with a surplus of $1.4B, perhaps C&F could bump up its net written premiums by $500m to $2.8B (see page 16).  The problem is that C&F increased its net written by 18% during 2019, and 33% in Q4 2019 compared to Q4 2018 (page 5).  So you have a sub that looks to be a little lean on capital, received an injection in 2019 and is probably growing its premium at a pace of 20%+.  It cannot sustain that kind of premium growth throughout 2020 without a capital injection. 

Northbridge is in a similar situation so they probably would benefit from a bit of capital too, but it's a less pronounced "problem." 

Allied has lots of capital, while Zenith and Brit did not grow their book during 2019.  Odyssey has lots of capital, but it has also shot out the lights in the past when pricing got stupid, so it would not at all surprise me if their book could outgrow their capital.


SJ

SJ I don’t have the stats to hand. How much excess capital does Allied appear to have?

[StubbleJumper]

Which subs do you believe received the capital?

How would  the average investor determine for themselves in an annual or quarterly report which subs are cutting it close to requiring capital? Any walk thorough or guidance would be greatly appreciated.

Well, the quick way to eye-ball it is to look at page 95 of the AR which depicts dividend capacity, because that gives you a sense of "excess capital."  Then you can go to page 195 and look at the premiums:surplus ratio.

We know that last year, FFH drew a divvy from C&F and then for whatever reason, reinjected some capital.  When you look at C&F's dividend capacity on page 95, it was $140m, and then when you look at C&F's premiums:surplus ratio on page 195 it's 1.7:1.  Usually you don't see that ratio go above 2:1.  So, with a surplus of $1.4B, perhaps C&F could bump up its net written premiums by $500m to $2.8B (see page 16).  The problem is that C&F increased its net written by 18% during 2019, and 33% in Q4 2019 compared to Q4 2018 (page 5).  So you have a sub that looks to be a little lean on capital, received an injection in 2019 and is probably growing its premium at a pace of 20%+.  It cannot sustain that kind of premium growth throughout 2020 without a capital injection. 

Northbridge is in a similar situation so they probably would benefit from a bit of capital too, but it's a less pronounced "problem." 

Allied has lots of capital, while Zenith and Brit did not grow their book during 2019.  Odyssey has lots of capital, but it has also shot out the lights in the past when pricing got stupid, so it would not at all surprise me if their book could outgrow their capital.


SJ

SJ I don’t have the stats to hand. How much excess capital does Allied appear to have?

Allied's dividend capacity was $800m as at Dec 31.  Premiums to surplus was 0.6:1.  So, they could increase their premiums by maybe 150% and it would still only be 1.5:1?


SJ