LRE.L - Lancashire Holdings Ltd

[WhoIsWarren]

Thanks for the link to the interview.

 

Of note, Brindle said:

"I don’t think I’ve seen such a rapid intrusion of new capital into the business in all my twenty-nine years in the re/insurance business. It’s been driven by the low interest rate environment and lots of pools of money looking for ways to make a return."

 

Gulp!!  :o

 

Maybe Lancashire Re will be okay, but that's a general warning sign!  And for more than the (re)insurance industry too -- low interest rates could have all sorts of consequences across all sorts of industries.

 

Hi WhoIsWarren!

Just before your quote, Mr. Brindle also said:

In this marketplace you adapt or you die. I think with our leadership position, with large lines and close relationships, I think we are well placed to adapt.

Do you see a world without insurance? Well, me neither! ;)

And, imo, if there is an insurance company that will do fine, that company is Lancashire!

Of course, I agree with you that low interest rates could have all sorts of consequences across all sorts of industries.

 

giofranchi

 

Hi Gio,

 

I don't follow LRE very closely but am certainly intrigued by it.  They seem like really smart, disciplined guys with  skin in the game and so I'll bet that they'll successfully navigate the various ups and downs in the reinsurance market (as I hope too will Fairfax and Berkshire).

 

My comment was a more general "gulp".  It's not possible for the overall insurance industry (and elsewhere) to successfully navigate such an inflow of capital.  Or is it?  Maybe I've got this wrong.  Be interested to hear if anyone disagrees with me.

[twacowfca]

Good interview with Brindle.  He tells it like it is.

[jay21]

Thanks for the link to the interview.

 

Of note, Brindle said:

"I don’t think I’ve seen such a rapid intrusion of new capital into the business in all my twenty-nine years in the re/insurance business. It’s been driven by the low interest rate environment and lots of pools of money looking for ways to make a return."

 

Gulp!!  :o

 

Maybe Lancashire Re will be okay, but that's got to be a general warning sign, right?  And for more than the (re)insurance industry too -- low interest rates could have all sorts of consequences across all sorts of industries.

 

I think that the insurance world is pretty interesting now.  It seems like companies are shedding capital through buybacks and dividends.  So I think that Brindle is more discussing the increase in cat bonds and sidecars.  I don't care too much for these derivative products as they penalize disciplined insurers.  But it is interesting to note that LRE takes advantage of this by using sidecars.  I think that MKL also said they would like to grow their sidecar business. 

 

Having flexible capital probably allows for a more efficient insurance market, so it may be good, but at the same time some of these investors might not be sophisticated and can get killed.

[merkhet]

Let me first say that this thread has been incredibly instructive on this company. I think that this is a great company run by people who have their heads on straight.

 

That said, as I was reading through this thread, a persistent thought popped through my head and that thought was Charlie Munger's admonition that one of the most dangerous investments is a great company that can't scale.

 

Do you guys think Lancashire can/can't scale? And why?

[Myth465]

Lancashire doesnt want to scale.

They want to be profitable. They pay out excess cash so they dont have to worry about scaling.

 

Which is probably what you want in insurance. Insurance is the easiest business to scale, just lower prices, but it comes back in a few years when the tide comes in.

[twacowfca]

Thanks for the link to the interview.

 

Of note, Brindle said:

"I don’t think I’ve seen such a rapid intrusion of new capital into the business in all my twenty-nine years in the re/insurance business. It’s been driven by the low interest rate environment and lots of pools of money looking for ways to make a return."

 

Gulp!!  :o

 

Maybe Lancashire Re will be okay, but that's got to be a general warning sign, right?  And for more than the (re)insurance industry too -- low interest rates could have all sorts of consequences across all sorts of industries.

 

I think that the insurance world is pretty interesting now.  It seems like companies are shedding capital through buybacks and dividends.  So I think that Brindle is more discussing the increase in cat bonds and sidecars.  I don't care too much for these derivative products as they penalize disciplined insurers.  But it is interesting to note that LRE takes advantage of this by using sidecars.  I think that MKL also said they would like to grow their sidecar business. 

 

Having flexible capital probably allows for a more efficient insurance market, so it may be good, but at the same time some of these investors might not be sophisticated and can get killed.

 

There's more than one way to skin a cat. Selling ultra cheap cat bonds and buying cheap ILW's are a way to reduce volatility in returns.  LRE's PML's have come down from about 25% of equity to 15% over the last year. This means that they can write more business with the same amount of capital and maintain their rating or return more capital than otherwise.  It's even possible to make money on these while reducing risk.  The ILW they recently settled for 40 cents on the dollar and a price of 3 1/2 times what they paid for it would never have have been bought if it hadn't been so cheap.  :)

 

Interestingly, there may have been a parody at a recent insurance conference about the suck (oops, sorry) about the unsophisticated investors who are putting capital into risky products. :)

[merkhet]

Lancashire doesnt want to scale.

They want to be profitable. They pay out excess cash so they dont have to worry about scaling.

 

Which is probably what you want in insurance. Insurance is the easiest business to scale, just lower prices, but it comes back in a few years when the tide comes in.

 

That's sort of the point I'm making. If they can't scale (profitably), they shouldn't be worth more than 10X their earnings. Thus, they'd be roughly fairly priced on a cash flow basis at the moment, no?

[giofranchi]

If they can't scale (profitably), they shouldn't be worth more than 10X their earnings. Thus, they'd be roughly fairly priced on a cash flow basis at the moment, no?

 

If on average they can achieve a 19% ROE and on average they sell at 1.7 x BVPS, it is like holding a bond which yields little more than 11%. If you reinvest the dividends, it is like compounding your capital at 11% annual. This means that you need just a few percentage points of yearly BV growth, to be able to compound capital in between 12% and 15% annual. And, most of all, in a very safe way! If, finally, once in a while you get the chance of averaging down on your entry Price/BVPS level, LRE might turn out to be the surest way to compound capital at 15% annual that I know of. :)

 

giofranchi

[merkhet]

giofranchi, I don't disagree. I'm just trying to get a feel for the valuation of the common as opposed to the reinvestment prospects of the bond-like coupons.

[twacowfca]

If they can't scale (profitably), they shouldn't be worth more than 10X their earnings. Thus, they'd be roughly fairly priced on a cash flow basis at the moment, no?

 

If on average they can achieve a 19% ROE and on average they sell at 1.7 x BVPS, it is like holding a bond which yields little more than 11%. If you reinvest the dividends, it is like compounding your capital at 11% annual. This means that you need just a few percentage points of yearly BV growth, to be able to compound capital in between 12% and 15% annual. And, most of all, in a very safe way! If, finally, once in a while you get the chance of averaging down on your entry Price/BVPS level, LRE might turn out to be the surest way to compound capital at 15% annual that I know of. :)

 

giofranchi

 

That's a very good perspective, Giofranchi.

 

Keep in mind that virtually all their earnings are owners earnings with great optionality. If there is a huge event, especially in NOrth Am, like the KRW hurricanes of 2005, they can reinvest capital at much more than their average return after rates spike on cat coverage. In the current market, they can invest a certain amount of capital at high rates as the manager of sidecars. If the price of their shares gets knocked down, they can buy back stock at very high compounding rates for shareholders.

 

Otherwise, their high dividends give shareholders the option to reinvest in LRE or in the event of a market meltdown, to buy shares in other companies at bargain basement prices. :)

[giofranchi]

If they can't scale (profitably), they shouldn't be worth more than 10X their earnings. Thus, they'd be roughly fairly priced on a cash flow basis at the moment, no?

 

If on average they can achieve a 19% ROE and on average they sell at 1.7 x BVPS, it is like holding a bond which yields little more than 11%. If you reinvest the dividends, it is like compounding your capital at 11% annual. This means that you need just a few percentage points of yearly BV growth, to be able to compound capital in between 12% and 15% annual. And, most of all, in a very safe way! If, finally, once in a while you get the chance of averaging down on your entry Price/BVPS level, LRE might turn out to be the surest way to compound capital at 15% annual that I know of. :)

 

giofranchi

 

That's a very good perspective, Giofranchi.

 

Keep in mind that virtually all their earnings are owners earnings with great optionality. If there is a huge event, especially in NOrth Am, like the KRW hurricanes of 2005, they can reinvest capital at much more than their average return after rates spike on cat coverage. In the current market, they can invest a certain amount of capital at high rates as the manager of sidecars. If the price of their shares gets knocked down, they can buy back stock at very high compounding rates for shareholders.

 

Otherwise, their high dividends give shareholders the option to reinvest in LRE or in the event of a market meltdown, to buy shares in other companies at bargain basement prices. :)

 

twacowfca,

of course, I do agree completely: that “great optionality” you have referred to, and their constant and watchful willingness to be always opportunistic on behalf of shareholders – whether it is by reinvesting capital at much more than their average return after rates spike, or it is by managing sidecars, or it is by buying back stocks, or it is by distributing dividends, whatever makes more sense and maximizes shareholders’ return – are probably the most reliable predictive attributes for outperformance that could be found in any public company. :)

 

giofranchi

 

[ASTA]

Thanks everyone on the information on this stock.

Added 7% of my portfolio to this stock yesterday.

[buylowersellhigh]

Thanks everyone on the information on this stock.

Added 7% of my portfolio to this stock yesterday.

 

I've looked thru past posts but I didn't see any evidence where it makes sense to put this stock in a taxable or roth.  Are there withholdings?  Was actually thinking of reinvesting the divvy for this one.  Anybody recommend that?

[muscleman]

I am quite confused about the stock price.

Its book value is $7 but the stock price is 756 GBp, which is $1179? ::)

[orion]

@muscleman

It is my understanding that in the UK stocks are quoted in pence. So the stock trades at 7.56 GBP

[muscleman]

@muscleman

It is my understanding that in the UK stocks are quoted in pence. So the stock trades at 7.56 GBP

 

Got you! So this is trading at nearly 50% premium to book right now.

[ASTA]

buylowersellhigh

 

I agree as I am not an american I don't have the same problems as one would have in the USA regarding tax on dividends.

But think of it this way you can enjoy america where as I can only go there on holiday which I do :D 

So do like me move to a good investment culture place and take long holidays in america ;D

Hint I have more then 10 days holiday's. Plus so hard for foreigners to get a green card. 

[WhoIsWarren]

If on average they can achieve a 19% ROE and on average they sell at 1.7 x BVPS, it is like holding a bond which yields little more than 11%. If you reinvest the dividends, it is like compounding your capital at 11% annual. giofranchi

 

Sorry to nit-pick here, but can I get some thoughts on the after-tax return to investors in LRE?

 

My understanding of LRE is that the markets it plays in is quite small, so they typically can't reinvest capital earned at 19% RoE and therefore return excess capital to shareholders in the form of dividends.

 

Unfortunately dividends are taxed.  At the very least an investor will be subject to dividend withholding tax (say a pension fund), and may even be subject to tax at the marginal rate of income tax (over 50% where I come from).  And that's the case whether you take the cash or reinvest the divis back into the company.

 

So the after tax return to an investor in LRE is much different to the experience of an investor in a company that can use the capital internally.

 

I guess the bottom line is that your 11% 'yield' on LRE is too high, or alternatively in order to get a 11% yield you should demand a lower P/B.

 

Or maybe there are other future avenues / niches for LRE to deploy retained earnings at high returns?

 

Any thoughts on this?  Am I wrong to view it like this?

[tombgrt]

Nope, you are right. I'm taxed at the same 50%+ on divs so lre isn't nearly as attractive for me as for others.

 

[frog03]

Same here, only thing that prevents me from buying into LRE.

[alpha231616967560]

For those of you holding LRE (as opposed to LCSHF) in a tax-protected account such as a Roth in the US, which brokerage are you using? Or do you hold LCSHF?

 

IB says that you cannot purchase LRE in a Roth (I have a Roth 401k as well as a Roth IRA) and ETRADE (my current broker since they bought Brown & Co.) said that they would only perform the trade for LRE in one of the Roth's on my behalf for a 15% commission!! (and another 15% on sale!).

 

I could use ETRADE's 'global trading platform' to buy it in a cash account and pay about $10 in commission, but I prefer to hold it in a Roth.

 

Any suggestions welcome.

 

Paul

[constructive]

IB says that you cannot purchase LRE in a Roth

 

Is the UK market turned on in your IB Roth account? Go to Account Management -> Manage Account -> Trading Permissions to confirm.

 

I've never had any trouble accessing foreign markets in mine.

[alpha231616967560]

IB says that you cannot purchase LRE in a Roth

 

Is the UK market turned on in your IB Roth account? Go to Account Management -> Manage Account -> Trading Permissions to confirm.

 

I've never had any trouble accessing foreign markets in mine.

 

I actually don't have an IB account yet, that's just what I was told when I called them this past week. I'll finish setting up the account and try your suggestion though. Thank you.

 

 

[giofranchi]

If on average they can achieve a 19% ROE and on average they sell at 1.7 x BVPS, it is like holding a bond which yields little more than 11%. If you reinvest the dividends, it is like compounding your capital at 11% annual. giofranchi

 

Sorry to nit-pick here, but can I get some thoughts on the after-tax return to investors in LRE?

 

My understanding of LRE is that the markets it plays in is quite small, so they typically can't reinvest capital earned at 19% RoE and therefore return excess capital to shareholders in the form of dividends.

 

Unfortunately dividends are taxed.  At the very least an investor will be subject to dividend withholding tax (say a pension fund), and may even be subject to tax at the marginal rate of income tax (over 50% where I come from).  And that's the case whether you take the cash or reinvest the divis back into the company.

 

So the after tax return to an investor in LRE is much different to the experience of an investor in a company that can use the capital internally.

 

I guess the bottom line is that your 11% 'yield' on LRE is too high, or alternatively in order to get a 11% yield you should demand a lower P/B.

 

Or maybe there are other future avenues / niches for LRE to deploy retained earnings at high returns?

 

Any thoughts on this?  Am I wrong to view it like this?

 

Hi WhoIsWarren,

first of all, you are right: the gross yield is little more than 11%. There is no doubt about that. And you are generally right, if you put in doubt the possibility to compound at 11% reinvesting the dividends.

 

To that, though, I must comment that not all situations might be the same: for instance, I invest on behalf of my company. And it must pay state taxes at the end of the year on the earnings it declares. Foreign taxes on dividends, instead, are non-existent for LRE. So, actually, my firm gets to reinvest all the dividends it receives from LRE, as soon as they are accredited on our bank account, and then it must pay taxes at the end of the year on pre-tax earnings. Furthermore, as a service company, there are many ways to reduce the amount of pre-tax earnings declared, and therefore to delay tax payments in the future. Think about what Mr. Malone did with TCI (which in 1988 generated $850 million in cash and declared no earnings!), on a much smaller scale of course, and you roughly get the idea.

 

Finally, just a few words about LRE’s prospects for growth:

1) LRE’s equity increased from $0.947 billion on December 2005 to $1.236 billion on March 2013, a 3.75% CAGR. On September 30, 2012 it reached a maximum of $1.5083 billion. That equates to a CAGR of 6.8%. Then it paid 2 special dividends in a 4 months time span: the reason why equity is currently low.

2) If it keeps growing equity at a CAGR in between 3.75% and 6.8%, let’s say 5%, 10 years from now it will have reached $2.01 billion. Imo, still a very low figure, if compared to the trillions of USD spent each year on insurance premium payments worldwide!

So, everyone who thinks about LRE only in terms of “bond-like yield”, and doesn’t take into account at least a 5% CAGR in BVPS, imo is missing something important in valuing the business.

 

giofranchi

[twacowfca]

If on average they can achieve a 19% ROE and on average they sell at 1.7 x BVPS, it is like holding a bond which yields little more than 11%. If you reinvest the dividends, it is like compounding your capital at 11% annual. giofranchi

 

Sorry to nit-pick here, but can I get some thoughts on the after-tax return to investors in LRE?

 

My understanding of LRE is that the markets it plays in is quite small, so they typically can't reinvest capital earned at 19% RoE and therefore return excess capital to shareholders in the form of dividends.

 

Unfortunately dividends are taxed.  At the very least an investor will be subject to dividend withholding tax (say a pension fund), and may even be subject to tax at the marginal rate of income tax (over 50% where I come from).  And that's the case whether you take the cash or reinvest the divis back into the company.

 

So the after tax return to an investor in LRE is much different to the experience of an investor in a company that can use the capital internally.

 

I guess the bottom line is that your 11% 'yield' on LRE is too high, or alternatively in order to get a 11% yield you should demand a lower P/B.

 

Or maybe there are other future avenues / niches for LRE to deploy retained earnings at high returns?

 

Any thoughts on this?  Am I wrong to view it like this?

 

Hi WhoIsWarren,

first of all, you are right: the gross yield is little more than 11%. There is no doubt about that. And you are generally right, if you put in doubt the possibility to compound at 11% reinvesting the dividends.

 

To that, though, I must comment that not all situations might be the same: for instance, I invest on behalf of my company. And it must pay state taxes at the end of the year on the earnings it declares. Foreign taxes on dividends, instead, are non-existent for LRE. So, actually, my firm gets to reinvest all the dividends it receives from LRE, as soon as they are accredited on our bank account, and then it must pay taxes at the end of the year on pre-tax earnings. Furthermore, as a service company, there are many ways to reduce the amount of pre-tax earnings declared, and therefore to delay tax payments in the future. Think about what Mr. Malone did with TCI (which in 1988 generated $850 million in cash and declared no earnings!), on a much smaller scale of course, and you roughly get the idea.

 

Finally, just a few words about LRE’s prospects for growth:

1) LRE’s equity increased from $0.947 billion on December 2005 to $1.236 billion on March 2013, a 3.75% CAGR. On September 30, 2012 it reached a maximum of $1.5083 billion. That equates to a CAGR of 6.8%. Then it paid 2 special dividends in a 4 months time span: the reason why equity is currently low.

2) If it keeps growing equity at a CAGR in between 3.75% and 6.8%, let’s say 5%, 10 years from now it will have reached $2.01 billion. Imo, still a very low figure, if compared to the trillions of USD spent each year on insurance premium payments worldwide!

So, everyone who thinks about LRE only in terms of “bond-like yield”, and doesn’t take into account at least a 5% CAGR in BVPS, imo is missing something important in valuing the business.

 

giofranchi

 

Good perspective.

 

Here's a scenario about the optionality of LRE's large special EOY dividends.  The timing of these on occasion will provide ammo for bagging a trophy at a bargain price.  For a contra factual example: suppose Hurricane Ike had not happened in late 2008.  In that nonevent, it is likely that LRE would have paid a huge special dividend that December.  They made 10% on their equity that year.  In the non event of hurricane Ike, they would have made a return of 20%+ on their equity.

 

Think about how valuable that cash  would have been to have available the first quarter of 2009.  WFC at 1/4 its current price. BRK at nearly 1/3 its price now. Garbage stocks at 1/10 their current prices.  With LRE, investors have a prolific generator of cash like the fountain of float from BRK's insurance businesses that Warren has used so effectively to buy stocks at great bargain prices every decade or so.