Coronavirus impact on Berkshire

[ValueArb]

Sorry if this has been discussed to death elsewhere but didn't see a specific thread for it, and it's a concern that keeps bubbling up in the back of my mind.

 

Coronavirus costs would hit Berkshire in many ways, some obvious (lower spending at DQ, lower travel spending for airlines, etc, etc) and some not super obvious.

 

The concern I have is around Ajit Jain's insurance portfolio, and the shutdown of almost all professional and amateur sports leagues. Given how quickly and easily they've acquiesced to shutdowns* it seems clear they have significant levels of insurance coverage, and that makes me wonder how big Berkshire's exposure is there. Obviously in Ajit and Warren I trust, but still makes me nervous.

 

Anyone have any thoughts, information on this or any other coronavirus exposure that could be significant to Berkshire?

 

*excepting the UFC, perhaps proving Warren's point that you only find out who's been swimming naked when the tide goes out.

[thefatbaboon]

Good questions, been on my mind too regarding the insurance and reinsurance...while I know no special info I did go back to his 2001 Annual Letter and reread the following:

 

The Economics of Property/Casualty Insurance

Our main business ó though we have others of great importance ó is insurance. To understand Berkshire, therefore, it is necessary that you understand how to evaluate an insurance company. The key determinants are: (1) the amount of float that the business generates; (2) its cost; and (3) most critical of all, the long-term outlook for both of these factors.

To begin with, float is money we hold but don't own. In an insurance operation, float arises because premiums are received before losses are paid, an interval that sometimes extends over many years. During that time, the insurer invests the money. This pleasant activity typically carries with it a downside: The premiums that an insurer takes in usually do not cover the losses and expenses it eventually must pay. That leaves it running an "underwriting loss," which is the cost of float. An insurance business has value if its cost of float over time is less than the cost the company would otherwise incur to obtain funds. But the business is a lemon if its cost of float is higher than market rates for money.

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Historically, Berkshire has obtained its float at a very low cost. Indeed, our cost has been less than zero in about half of the years in which weíve operated; that is, weíve actually been paid for holding other peopleís money. Over the last few years, however, our cost has been too high, and in 2001 it was terrible.

The table that follows shows (at intervals) the float generated by the various segments of Berkshireís insurance operations since we entered the business 35 years ago upon acquiring National Indemnity Company (whose traditional lines are included in the segment ìOther Primaryî). For the table we have calculated our float ó which we generate in large amounts relative to our premium volume ó by adding net loss reserves, loss adjustment reserves, funds held under reinsurance assumed and unearned premium reserves, and then subtracting insurance- related receivables, prepaid acquisition costs, prepaid taxes and deferred charges applicable to assumed reinsurance. (Got that?)

Year GEICO 1967

1977

1987

1997 2,917 1998 3,125 1999 3,444 2000 3,943 2001 4,251

General Re

Other Reinsurance

Other

Primary Total

20 20 131 171 807 1,508 455 7,386 415 22,754 403 25,298 598 27,871 685 35,508

Yearend Float (in $ millions)

  40 701 4,014 14,909 4,305 15,166 6,285 15,525 7,805 19,310 11,262

Last year I told you that, barring a mega-catastrophe, our cost of float would probably drop from its 2000

level of 6%. I had in mind natural catastrophes when I said that, but instead we were hit by a man-made catastrophe

th

on September 11 ñ an event that delivered the insurance industry its largest loss in history. Our float cost therefore

came in at a staggering 12.8%. It was our worst year in float cost since 1984, and a result that to a significant degree, as I will explain in the next section, we brought upon ourselves.

If no mega-catastrophe occurs, I ñ once again ñ expect the cost of our float to be low in the coming year. We will indeed need a low cost, as will all insurers. Some years back, float costing, say, 4% was tolerable because government bonds yielded twice as much, and stocks prospectively offered still loftier returns. Today, fat returns are nowhere to be found (at least we canít find them) and short-term funds earn less than 2%. Under these conditions, each of our insurance operations, save one, must deliver an underwriting profit if it is to be judged a good business. The exception is our retroactive reinsurance operation (a business we explained in last yearís annual report), which has desirable economics even though it currently hits us with an annual underwriting loss of about $425 million.

Principles of Insurance Underwriting

When property/casualty companies are judged by their cost of float, very few stack up as satisfactory businesses. And interestingly ñ unlike the situation prevailing in many other industries ñ neither size nor brand name determines an insurerís profitability. Indeed, many of the biggest and best-known companies regularly deliver mediocre results. What counts in this business is underwriting discipline. The winners are those that unfailingly stick to three key principles:

1. They accept only those risks that they are able to properly evaluate (staying within their circle of competence) and that, after they have evaluated all relevant factors including remote loss scenarios, carry the expectancy of profit. These insurers ignore market-share considerations and are sanguine about losing business to competitors that are offering foolish prices or policy conditions.

2. They limit the business they accept in a manner that guarantees they will suffer no aggregation of losses from a single event or from related events that will threaten their solvency. They ceaselessly search for possible correlation among seemingly-unrelated risks.

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3. They avoid business involving moral risk: No matter what the rate, trying to write good contracts with bad people doesn’t work. While most policyholders and clients are honorable and ethical, doing business with the few exceptions is usually expensive, sometimes extraordinarily so.

The events of September 11th made it clear that our implementation of rules 1 and 2 at General Re had been dangerously weak. In setting prices and also in evaluating aggregation risk, we had either overlooked or dismissed the possibility of large-scale terrorism losses. That was a relevant underwriting factor, and we ignored it.

In pricing property coverages, for example, we had looked to the past and taken into account only costs we might expect to incur from windstorm, fire, explosion and earthquake. But what will be the largest insured property loss in history (after adding related business-interruption claims) originated from none of these forces. In short, all of us in the industry made a fundamental underwriting mistake by focusing on experience, rather than exposure, thereby assuming a huge terrorism risk for which we received no premium.

Experience, of course, is a highly useful starting point in underwriting most coverages. For example, itís important for insurers writing California earthquake policies to know how many quakes in the state during the past century have registered 6.0 or greater on the Richter scale. This information will not tell you the exact probability of a big quake next year, or where in the state it might happen. But the statistic has utility, particularly if you are writing a huge statewide policy, as National Indemnity has done in recent years.

At certain times, however, using experience as a guide to pricing is not only useless, but actually dangerous. Late in a bull market, for example, large losses from directors and officers liability insurance (ìD&Oî) are likely to be relatively rare. When stocks are rising, there are a scarcity of targets to sue, and both questionable accounting and management chicanery often go undetected. At that juncture, experience on high-limit D&O may look great.

But thatís just when exposure is likely to be exploding, by way of ridiculous public offerings, earnings manipulation, chain-letter-like stock promotions and a potpourri of other unsavory activities. When stocks fall, these sins surface, hammering investors with losses that can run into the hundreds of billions. Juries deciding whether those losses should be borne by small investors or big insurance companies can be expected to hit insurers with verdicts that bear little relation to those delivered in bull-market days. Even one jumbo judgment, moreover, can cause settlement costs in later cases to mushroom. Consequently, the correct rate for D&O ìexcessî (meaning the insurer or reinsurer will pay losses above a high threshold) might well, if based on exposure, be five or more times the premium dictated by experience.

Insurers have always found it costly to ignore new exposures. Doing that in the case of terrorism, however, could literally bankrupt the industry. No one knows the probability of a nuclear detonation in a major metropolis this year (or even multiple detonations, given that a terrorist organization able to construct one bomb might not stop there). Nor can anyone, with assurance, assess the probability in this year, or another, of deadly biological or chemical agents being introduced simultaneously (say, through ventilation systems) into multiple office buildings and manufacturing plants. An attack like that would produce astronomical workersí compensation claims.

Hereís what we do know:

(a) The probability of such mind-boggling disasters, though likely very low at present, is not zero.

(b) The probabilities are increasing, in an irregular and immeasurable manner, as knowledge and materials become available to those who wish us ill. Fear may recede with time, but the danger wonít ñ the war against terrorism can never be won. The best the nation can achieve is a long succession of stalemates. There can be no checkmate against hydra-headed foes.

© Until now, insurers and reinsurers have blithely assumed the financial consequences from the incalculable risks I have described.

(d) Under a ìclose-to-worst-caseî scenario, which could conceivably involve $1 trillion of damage, the insurance industry would be destroyed unless it manages in some manner to dramatically limit its assumption of terrorism risks. Only the U.S. Government has the resources to absorb such a blow. If it is unwilling to do so on a prospective basis, the general citizenry must bear its own risks and count on the Government to come to its rescue after a disaster occurs.

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Why, you might ask, didnít I recognize the above facts before September 11th? The answer, sadly, is that I did ñ but I didnít convert thought into action. I violated the Noah rule: Predicting rain doesnít count; building arks does. I consequently let Berkshire operate with a dangerous level of risk ñ at General Re in particular. Iím sorry to say that much risk for which we havenít been compensated remains on our books, but it is running off by the day.

At Berkshire, it should be noted, we have for some years been willing to assume more risk than any other insurer has knowingly taken on. Thatís still the case. We are perfectly willing to lose $2 billion to $21⁄2 billion in a single event (as we did on September 11th) if we have been paid properly for assuming the risk that caused the loss (which on that occasion we werenít).

Indeed, we have a major competitive advantage because of our tolerance for huge losses. Berkshire has massive liquid resources, substantial non-insurance earnings, a favorable tax position and a knowledgeable shareholder constituency willing to accept volatility in earnings. This unique combination enables us to assume risks that far exceed the appetite of even our largest competitors. Over time, insuring these jumbo risks should be profitable, though periodically they will bring on a terrible year.

The bottom-line today is that we will write some coverage for terrorist-related losses, including a few non- correlated policies with very large limits. But we will not knowingly expose Berkshire to losses beyond what we can comfortably handle. We will control our total exposure, no matter what the competition does.

 

Also, in his recent interviews with CNBC and Yahoo he has sounded quite calm about the pandemic and I'm pretty sure he said that this kind of thing has been on his and Bill Gates' minds for years.

[rb]

I wouldn't worry too much.

 

I'm sure that this will be a bad loss year for the insurance industry - all that business interruption insurance out there. Berkshire surely has its fair share of exposure to that. But it is a very smart underwriter and risk manager. They'll probably fare better than others. It'll benefit in some ways as well - GEICO will probably have a banner year as losses will decline.

 

The bottom line is this though. If an event comes to pass that even remotely threatens Berkshire, the streets are lined with the corpses of insurance companies. At that point Berkshire will rip the eyes out of the insurance market on the other side. At the very least you'll see a very hard market in insurance. Guess who's gonna have an appetite for underwriting?

 

In a worst case scenario exposure to corona risk may be toxic to keep on the books and you could see a Lloyds type deal. This is unlikely though because it's not long period risk. Epidemics tend to end. But who really knows how this thing shakes out? There were losses from 9/11 for years and years after the actual event transpired.

[Spekulatius]

Insurance is more tail risk, but a lot of their wholly owned business are highly sensitive to the economy : Iskar (Tools, Peer would be KMT), PCP (aircraft, energy are main markets), Burlington (moves still a lot of coal and recently crude), retailers and then a portfolio chuck full with bank stocks thet were done 30-40%.

 

I frankly don’t think they it is that great of a bargain here real-time to many other securities available right now. One can sleep well at night knowing that they do have a great balance sheet, stable utility and insurance earnings (Geico probably has a great year because people are driving less) and he might be able to snap up and elephant  for a good price. There is a lot of value in that.

[scorpioncapital]

Berkshire performed poorly before the coronavirus, and after even more poorly. Is something wrong ?

[longterminvestor]

Regarding Business Income Insurance, or what brokers call BI, is written with a trigger for "Direct Physical Loss".  Meaning the business needs to sustain physical damage.  To be clear, a business losing revenue because their clients are not buying because of fear of disease - IS NOT "direct physical loss".  There are policies written for Continent Business Income (Continent BI) to insure supply chain or reliance on other business to produce profit of insured business.  Continent BI is also written on Direct Physical Loss basis.  Meaning, BI or Contigent BI does not cover Pandemics.  Standard policies exclude this exposure.  Any large losses from Pandemic would come from Ajit's book who has capacity for large "un-insurable events" like a pandemic but it would have to be specifically endorsed and guidence on Ajit's book is not gonna be disclosed so we won't know.  Only product I am aware of in the market for Pandemic cover is written by Munich Re/Metabiota brokered by Marsh.  (I bet their phones are ringing off the hook!)

 

Workers Compensation exposure is also limited due to exclusions.  Some insureds will have draw down in payrolls and thus premium collected will be down however there is STRONG data over time that shows in economy down cycles less claims are reported due to employee wanting to keep their job. 

 

GEICO should perform well - less cars on road = less accidents. 

 

From an insurance perspective, this type of panic is when Berkshire will outperform the market and with an already hardening market - these are great tailwinds for a great business to continue to operate from a position of strength. 

 

In other parts of business, Mr. Buffett's Equity index put option contracts with expiration in Feb 2023 will need adjustment.  As per 10-K, a 30% move to downside would result in a change of $1.8B in value.  Annual report does cite conditions could fair worse considering concentration of puts.  Good news a large portion of the outstanding puts were retired in Feb 2019.  Some impairment will be applied in coming quarters. 

 

The cash pile is a HUGE option for Berk and hopefully being deployed wisely.  I also believe the value of Tedd/Todd as capital allocators will be tested here and hope they show significant strength during this opportunity.   

[netnet]

This are the times for which Berkshire is built.

 

To me more importantly, about right after the Daily Journal Annual meeting, I was getting very nervous about Charlie and Warren in a wash of all those people who could potentially infect them. I was very relieved that BH's annual is now online. (There are also a fair number of elderly shareholders who would also have been at risk.)

[DooDiligence]

GEICO temporarily pausing policy cancellations

[rb]

GEICO temporarily pausing policy cancellations

I wonder if they're just being a good corporate citizen or if they're seeing an upswing is non-payments. If it's the latter, it's really not good.

[Okonomen]

So.. just doing some calculations. Seems like the BRK market pf has lost around 30 bn USD value as of late... So my dnamic BV still gets me to around 1,2x bv at 180/share. Any thoughts? However, BRK has lost close to 100 bn USD in market value. Some ofi t seems fair geiven that 2020 and maybe 2021 will significantly impact the earning power

[ebdem]

Greggory Warren just wrote a piece on that: https://www.morningstar.com/articles/981005/what-the-pandemic-means-for-berkshire-hathaway