ERICOPOLY

Is there enough liquidity in out of the money puts for a multi billion portfolio? I'm sure there is. They can deal directly with the bank(s). In 2007 they had a multi-billion dollar hedge via call options (a hedge against the market climbing).

--Didier Sornette, world renowned mathematician. Why not? Yes, it certainly could be sustainable. For one thing, you said real growth rate and the 10-15% returns could be nominal. Second, if we are talking about equity returns, then earnings can be reinvested in more shares. So if the P/E is right, you can certainly generate those kind of returns simply from earnings growth per share (thus, it is sustainable in perpetuity).

Russia defaulted back in 1998 and they printed their own currency. However, Russia inherited most of that debt from the Soviet Union -- and it was owned by foreigners. Compare that to Japan where most of the debt is owned by Japanese. Default on yourselves? That would start a banking crisis because the Japanese banks own a lot of it. So in a sense the government debt is assets in the private sector -- default and you have a sudden vanishing of assets, and then maybe the deflation comes back again? So when you default on a foreigner, you get debt service relief. But when you default on your private bondholders, you might get a collapse... or at least it would seem a bigger one (since no/few foreigners are sharing the pain).

10%-20% declines can happen in any given year. So they should be hedged for that all the time, if they are hedged for it now. Don't you see that? They are worried about potential for a far greater decline. They could instead simply express that worry by purchasing puts that are 10%-20% out-of-the-money. That way, they accept the normal 10%-20% decline that any year can bring them, but they are protected in case anything far more severe arises. Well anyway, that's the only irrational thing I see with their hedges. They are hedging against every single penny of potential decline... when honestly, they know that in any give year, at any given time, you could be suffering 10%-20% decline. That's just life in the markets. So that's just what I find frustrating -- you can protect against 1-in-100 year declines without losing most/all of your gains when the market goes up instead. It seems pretty obvious really.

Sure. For equities. However, the bond market might reverse, meaning rates might go higher as deleveraging comes to a conclusion. Then, he'll be sitting on big losses in his bond portfolio. Many people have warned about rates going higher... but they are being ignored by almost everybody. My thinking is that for a few reasons, rate movements have opposite effects on book value and economics. There are a lot of long duration insurance liabilities, so the bond portfolio is probably "overhedged". But for financial reporting, I don't think rates have any effect on the balance sheet value of the liabilities. Also, in banking terminology they seem asset sensitive, so as rates rise their reinvestment opportunities increase faster than insurance rates decrease, and relative cost of float economics improve. Not an insurance expert, so I don't know that prices respond so directly to rate movements like in banking. But in any case, I think consistent with the insurance liabilities, looking at the bonds at cost is the more appropriate way to evaluate Fairfax's book value. Particularly for changes in book value. I understand you in terms of liability management, but a hit to book value is a hit to book value. Similarly, a drop in equities markets merely means that company earnings/dividends can be reinvested into the shares at a higher earnings yield. They still hedge for this though -- but they don't when it comes to bonds.

Sure. For equities. However, the bond market might reverse, meaning rates might go higher as deleveraging comes to a conclusion. Then, he'll be sitting on big losses in his bond portfolio. Many people have warned about rates going higher... but they are being ignored by almost everybody.

Straight from the 2006 Fairfax Annual Report -- copy/paste (with emphasis added in red): At December 31, 2006, as protection against a decline in equity markets, the company had short positions in Standard & Poor’s Depository Receipts (‘‘SPDRs’’) and U.S. listed common stocks of $500.0 and $99.6, respectively (2005 – $500.0 and $60.3, respectively) and equity index swaps with a total notional amount of $681.4 (2005 – $550.0). The company has purchased near dated call options to limit the potential loss on the SPDR short positions and the equity index swaps to $131.1 and $31.6, respectively, at December 31, 2006 (2005 – $112.1 and $110.0, respectively) and as general protection against the short position in common stocks.

It's not as simple as right, right, right, wrong, vs wrong, wrong, wrong, right. They changed how they do things. Back in the 2007 version, they had out-of-the-money index calls to hedge against the possibility of the markets shooting up. This time, they chose not to do that... so, Murphy's Law -- the markets went straight up. That simple change in tactics is what this fuss is mainly about. In both cases, they were hedged. So there is more to talk about than whether or not they are hedging for collapse of equities. You can achieve that without getting run over on the upside.

Soros Fund agrees: http://blogs.wsj.com/moneybeat/2014/02/14/soros-fund-purchases-stakes-in-jp-morgan-citi/?mod=yahoo_hs I like it when a great macro investor thinks the price is right given the risk.

True-- but if you click the 10y link, you see that they have been about the same. Long term is where it's at. That chart is heavily influence by their decision to buy TIG and C&F, which had little to do with whether they have a hedging strategy or not.

I suppose I'll just go ahead and state the obvious -- the lower the yield, the riskier that kind of thinking becomes... there isn't enough income generated to cushion the blow when you get the price direction wrong.

Rhetorical question? Bonds had a $900 million loss and equities underperformed the hedges by $500 million. These pretty much accounted for the underperformance. Vinod It's a little bit ironic that the bonds are the only thing they didn't hedge, and they're the biggest source of loss generation. They didn't hedge the interest rate risk. I think if they can live with $900 million in losses on bonds, they could also live with some amount of pain from equities losses -- for example, using out-of-the money puts to hedge against major market collapse. I know this is all hindsight, but I think it makes sense.

They have multiple parts: bond income underwriting income equities (hedged against indices) CPI thinging How did all four of them combine to just 2.8%? Did capital bond losses exceed all income generated over the period? Did equities underperform the index? Was there no net underwriting income? Which part was primarily responsible for dragging down the slugging percentage?

The exit tax has an exception (to avoid the tax). People who have been dual citizens since birth do not have to pay the exit tax as long as they are going "back" to that other country. I'm pretty sure I qualify for that as long as I go to Australia. This is because I have Australian citizenship by descent.

Book value was $369.80 back at end of 2009. So take out $40 in dividends paid ($10 per year for 4 years), and you've got $329.80. Compare that to $339 at the end of 2013. Do I have it right? It looks like it's taken 4 years to generate a cumulative 2.8% return.

The MAXIMUM the govt paid was $21,500 per single-family home. Maximum! Quoting: Other programs include:a $5,000 minimum home repair (MHR) grant from FEMA for limited repairs to primary dwellings, and Individual Family Grants (IFGP) combining FEMA and state funds (maximum $21,500) for real and personal property replacement. Yes, they are a guesstimate. Emphasis on guess. You started off in this thread claiming the government would pick up the tab. Not true! The MAJORITY of costs were born by the homeowner. Quoting the article again: The majority of the single-family housing reconstruction funding came through the SBA loan program.

I view the remaining $1.8b quarterly buyback for Q1 14 (right now) as a signal of what the regulators wanted them to do. Then the regulators will just give them approval to continue that pace through the end of this year, and then do another step-up in 2015. That's how I arrived at $1.8b x3. Q2, Q3, and Q4. Then the step-up to $2.1b in Q1 next year. So altogether, $7.5b.

Two years ago, in 2012, just months after the European debt standoff thingy, the Fed approved JP Morgan to increase it's share repurchase plan by $9 billion (to a total of $15 billion!). They additionally allowed raising JPM's quarterly dividend from 25 cents to 30 cents (which I think is roughly $4.5 billion dividend annually). http://www.businessinsider.com/jpmorgan-announces-15-billion-buyback-2012-3 So that was two years ago. You know, before JPM did their big $12b settlement. Before raising JPM's capital levels to meet the new guidelines. Before other world banks became relatively stronger, and the system relatively less fragile overall. BAC's cash return on tangible equity (using DTA) is close to 14%. On the latest conference call they said they believed the CCAR process would focus on capital generation, so they would give BAC credit for the DTA utilization.

This Merrill Lynch customer in Montecito loves him some alpha! I was shopping for a valentines gift in Montecito today -- literally standing in the jewelry store when I spied that license plate. You can see Merrill Lynch in the background.

The second major clue from the article is that the majority of single-family reconstruction costs were funded by the SBA loan program. Loans... Majority.... That's the short version.

The article clearly stated that $21,500 was the maximum combined assistance (federal and state) for repairs to a given single-family residence. It also mentioned that further relief was provided in the form of temporary housing, among other things. You are treating all of these costs as if they alltogether provide $50+k towards repairs to the home. The article was clear that not all of the assistance went towards repairs.

They will ask for share buybacks that increase smoothly over time. $1.8b x3 $2.1b x1 So they'll ask for $7.5b buybacks. Then a $5b dividend (same starter level as last year's buyback).

I can't imagine there will be a "monster" capital return with either BAC and C for a long, long time. As long as there is any uncertainty in the world financial system (when is there not?) the Fed is going to rein them in. They couldn't care less about shareholders. Their job is to prop up the system. They won't let funds out until they think the risk is gone. Just my opinion. I'd be happy with their treatment of JPM for now. They let them return quite a bit.

Last years's capital return was based on 2012 earnings?

Hahahahahahahahahahahahahah Yeah, that would go over really well on the national news -- Obama orders it an emergency and uses national funds to restore $3m homes in Montecito. Well that was NOT a joke. Ok my use of the acronym FEMA may be incorrect. But when the fed government approves $3.5B in assistance to repair earthquakes, the fact that the funds are helping multi-millionaires in their beachfront condo is hidden from the taxpayer. That's my impression what happened in the 1989 quake. I just saw one article that said California paid $1B, and the Feds paid $3.5B, and elsewhere I read the cost of the quake is $5B. So there you go, seems like the math says the damage was 100% borne by the taxpayer. A friend of mine (when I was in high school) lived in a Los Altos Hills home that was knocked off it's foundation. No FEMA money. It was the Loma Prieta earthquake. Well, we are going back and forth on this, I stated that $5B was spent by the taxpayer to repair the damage from the Loma Prieta quake (I NOW live where the quake hit so this is not just a intellectual exercise). So let's invert the statement, are you saying none of that $5B was used to repair a home, or just none was used to repair a $3Mil home? Here are some facts regarding the financial assistance from the state/federal government with regards to the 1989 Loma Prieta earthquake: http://nisee.berkeley.edu/loma_prieta/comerio.html Repair of Single-Family Houses Individual homeowners with repairable damage found a variety of resources in federal and state housing recovery programs. The majority of the single-family housing reconstruction funding came through the SBA loan program. Other programs include:a $5,000 minimum home repair (MHR) grant from FEMA for limited repairs to primary dwellings, and Individual Family Grants (IFGP) combining FEMA and state funds (maximum $21,500) for real and personal property replacement. Mortgage assistance and Additional Living Expenses (ALE) were also available if needed through a FEMA program. Finally, if a homeowner’s needs were not met through these programs, they could apply for a loan from the California Disaster Assistance Program (CALDAP), administered by the state office of Housing and Community Development (HCD). The CALDAP program was initially set up on two tracks:CALDAP-O for owner occupiers, and CALDAP-R for rental housing owners, and initially funded with $23 million in each track for loans and grants. Four years after the event, CALDAP-O has provided $43 million in loans to homeowners, but there are still some loans applications pending. Ericopoly: I don't know what is your point in quoting the article because the article says nothing about how much gov't money was paid out for home repairs. I don't know whether you agree with my statement that gov't dollars went to repair homes. But I do see one fact from the article: about 43000 owned homes were damaged of which 1/4 was destroyed. So if that is 1/2 the damage of the earthquake that would work out to $5B / 2 / 43000 = 58k per house. So the cost of repair is about 58k which sounds reasonable. And the government paid $5B so it would make sense that the government could pay $58k on average for every damaged house. I mean my numbers are very rough guessemite but my point now sounds reasonable. I suppose a person can drown in a lake that is on average 1 millimeter deep. Therefore, the lake is safe enough to let your toddlers play in without any adult supervision??? I think that's what you are claiming. Or perhaps you don't need medical insurance because your expected losses from insured health issues don't exceed the monthly premium. That's a better analogy. Ahh.... but the point of insurance is to protect the individual that bears greater than his average share. So why are you making a point about average costs when you know some of the homes were completely destroyed? Didn't you tell us earlier that the government will pay for everything, so therefore catastrophic damage from an earthquake is not really something to worry about? PS: The article pointed out that the maximum cash grant was $21,500, and after that the individual homeowners were looking at getting further assistance via loans -- in other words, you are on the hook for the bulk of the catastrophic damage.