LRE.L - Lancashire Holdings Ltd

[twacowfca]

Their returns for Q1 were, as expected, a small profit, about break even with a CR of 97%.  But, they had to reach deep into their cookie jar of redundant reserves to stay in the black, otherwise they would have had a small loss of about 2% of their capital.  The way they did it was slick, but admirable and entirely above board.

 

They announced last conference call that they had commissioned Towers Watson to study their reserves and give an opinion of what they should be if still conservatively reserved using lancashire's loss experience instead of the general loss experience for the industry that they had had to use as a start up five and a half years ago with no loss experience of their own.  The Towers Watson report showed that they were currently $36.8M overreserved using their own loss experience.  This amount was added to their own "normal" reserve release for the quarter of $14.1 million.

 

In my opinion they are still overreserved, but not as much as before.  I think the Towers Watson study justified pulling about 30% of the cookies out of the jar of redundant reserves.  All in all, I think this was a good maneuver because this gives them more capital to write increased premiums in a cat market that is starting to harden like concrete.

[twacowfca]

Pretty handy set of results for Q1 given the number of disasters.

 

http://www.lancashiregroup.com/lre_group/media/releases/2011/2011-05-06/

 

Just hope they manage the move into equities as well as they manage underwriting.

 

Cheers

nwoodman

 

I sure hope they don't move big into equities...underwriting is their specialty.

 

Before they dropped their equity portfolio in mid 2008, they stated that they never want to have more than about 5% to 8% equities in their portfolio.

 

I think this is a good move and not anything that will have a material impact on their bottom line.  First, their risk adjusted  record in investing in equities and the record of their equity advisor is about as good as it gets.  Second the stocks they will buy, as stated will be high quality relatively high dividend paying stocks like the kind WEB would buy.  

 

They have dramatically shortened the duration of their bond portfolio to an average of 1.8 years to avoid interest rate risk.  Adding about 5% high quality equities to their portfolio is far less risky in my opinion than continuing to hold long term bonds.

[link01]

In my opinion they are still overreserved, but not as much as before.  I think the Towers Watson study justified pulling about 30% of the cookies out of the jar of redundant reserves.  All in all, I think this was a good maneuver because this gives them more capital to write increased premiums in a cat market that is starting to harden like concrete.

 

having more capital to write at increased prems is def a good thing. but, despite their opportune 36m release of loss reserves this Q & their obvious underwriting expertise, i couldnt help but be struck by the fact that their prelim loss estimate of 75m from the Tohoku Japan earthquake is based on a 20 bil industry loss estmate. where do these industry loss ests come from? so far i've seen 20b from lre, 30b from ffh, 35b from wtm, & (gasp!) 50b from brk. these are wildly different industry loss estimates, lowest to highest. if brk's est is right there's gonna be some delayed recognition of hurt for some insurers down the road.

[link01]

Their return to equities will be modest, probably no more than 5% of their assets, based on their policy before they got out of equities in mid 2008.  The equity advisor they have used in the past, including returns for many years before LRE was formed, is a value investor with an awesome record, something like a decade and a half without a losing year or something close to that.  That record was before 2008.  Lancashire pulled out of equities in mid 2008 before the crash because they didn't like the feel of the market.

 

thats a pretty savy call on their part for someone whose focus & expertise is primarily on underwriting

 

They have dramatically shortened the duration of their bond portfolio to an average of 1.8 years to avoid interest rate risk.  Adding about 5% high quality equities to their portfolio is far less risky in my opinion than continuing to hold long term bonds.

 

while i lean towards this view myself i think the views from the other side need to be respected as well, at least when they come from contrarians the likes of the watsa hamblin team at ffh & jeffry gundlach, not some nutty fringe group that merely revel in being contrary & thus are wrong about 95%of the time. only rational people that know how to pick their contrary spots are worth listening to.

[twacowfca]

In my opinion they are still overreserved, but not as much as before.  I think the Towers Watson study justified pulling about 30% of the cookies out of the jar of redundant reserves.  All in all, I think this was a good maneuver because this gives them more capital to write increased premiums in a cat market that is starting to harden like concrete.

 

having more capital to write at increased prems is def a good thing. but, despite their opportune 36m release of loss reserves this Q & their obvious underwriting expertise, i couldnt help but be struck by the fact that their prelim loss estimate of 75m from the Tohoku Japan earthquake is based on a 20 bil industry loss estmate. where do these industry loss ests come from? so far i've seen 20b from lre, 30b from ffh, 35b from wtm, & (gasp!) 50b from brk. these are wildly different industry loss estimates, lowest to highest. if brk's est is right there's gonna be some delayed recognition of hurt for some insurers down the road.

 

I agree that losses from very large cats generally exceed first estimates.  LRE 's estimate is only for commercial losses due to earth movement.  This is all they reinsure.  Their 100 year PML for Japan earthquake is about $55M above the losses they have booked.  Total losses from the earthquake are very large, but most of the losses are from the tragic Tsunami, the multireactor nuclear meltdown, residential losses and business interruption.  Commercial losses from earth movement are a small part of the whole.  Thus, we see many different loss estimates from different sources.

 

I wouldn't be surprised to see LRE's loss estimate creep up a bit in the next quarter; that's the nature of the beast.  However, the thought that the earthquake with its tragic loss of life is close to being a 100 year PML for commercial losses from earth movement isn't supported by the facts.  Damage in the greater Tokyo area, the heart of commercial and industrial exposure and the area used for predicting PML's was light.

[biaggio]

all of our favorite insurers (FFH, BRK, MKL) are booking sizable insurance losses

[rjstc]

  Couple of simple-minded questions for twacowfca or any of the people who are knowledgeable about these types of companys.

 

    LRE is a great disciplined under writer which I know is a good thing and makes them a desirable investment. They hold enough in reserves to cover losses. They keep a good chunk in cash and a real large chunk in bonds. Also moving to 5-8% in equities. I don't know who does this equity investing for them. I guess from their conservatism and smarts it is someone good.

 

    However why couldn't they just put 15-20% maybe into Berkshire Hathaway and let Buffett do their investing for them. We know Berkshire is rock solid. Continues to earn solid returns. Growing, conservative, etc. Is there some reason why they can't do something like that for regulatory reasons? Just curious.

 

   

[twacowfca]

  Couple of simple-minded questions for twacowfca or any of the people who are knowledgeable about these types of companys.

 

   LRE is a great disciplined under writer which I know is a good thing and makes them a desirable investment. They hold enough in reserves to cover losses. They keep a good chunk in cash and a real large chunk in bonds. Also moving to 5-8% in equities. I don't know who does this equity investing for them. I guess from their conservatism and smarts it is someone good.

 

   However why couldn't they just put 15-20% maybe into Berkshire Hathaway and let Buffett do their investing for them. We know Berkshire is rock solid. Continues to earn solid returns. Growing, conservative, etc. Is there some reason why they can't do something like that for regulatory reasons? Just curious.

 

   

 

Lancashire, and other insurance companies, like to have investment income, especially as Lancashire's corporate tax rate is near zero.  Rating agencies would rather see stocks on the books that provide steady income than capital gains because high dividend paying stocks are generally less volatile and would be more available to be sold without markdown to pay claims than stocks that didn't pay dividends.  Therefore, BRK would not be nearly as attractive to hold as the type of stock that BRK might buy: a high quality company with a moat, that pays a nice dividend.  :)

 

[twacowfca]

all of our favorite insurers (FFH, BRK, MKL) are booking sizable insurance losses

 

 

Retrocessional insurance is necessarily a small part of  Lancashire's book because of the potential for large losses in an extreme event if too much is written.  The way LRE underwrites retro is easy to understand and commonsensical with a basic understanding of probabilities.

 

LRE might write earthquake insurance with a very high attachment point that is expected to pay off only once in 100 years.  Therefore, the probability that they will have a loss on that policy in a given year is (.01).  They might get a premium of perhaps 1/10 what the payout on the policy would be.  These are good odds.  The premium is ten times the expected annual average loss.

 

Most other reinsurers will prefer to write the same type of coverage at much lower attachment points because the amount of premium received per amount of coverage will be more, even though the odds won't be as good.  The premium might be 1/5 the coverage amount of a policy for a modeled event that might result in a loss one rear in ten.  If a company is happy to break even on underwriting and make profits on investing, this is the type of policy that would be sought because the premiums received from lower attachment points will generate considerable revenue and float that can be profitably invested compared to the lower premiums received from policies with high attachment points.

 

There is a perpetual moat around this type of business because the last thing most insurance companies want is to have to pay increased claims in a mega catastrophe when they are faced with paying many other claims at lower level attachment points where the great majority of business is written.

[biaggio]

TWACOWFCA

 

Thanks for the posts.

 

Do you think LRE is undervalued or fairly valued? I was hoping it would get to $8.5

 

Also has anyone purchased any using TD WAterhouse?

[rjstc]

  TWACOWFCA

 

    Thanks. Another question. Have they said who is doing their equity investing for them and what they might hold?

[twacowfca]

  TWACOWFCA

 

    Thanks. Another question. Have they said who is doing their equity investing for them and what they might hold?

 

No.  The advisor they used in 07 was a US boutique that had only a few institutional clients.  I presume they will likely go back to the same advisor if available because they were very satisfied with him.

 

They have said they intend to hold very high quality stocks that pay substantial dividends.

[Liberty]

Also has anyone purchased any using TD WAterhouse?

 

I've been wondering about how that would work. I'm also with TDW in Canada, but I've never tried to buy stocks outside of the Canadian and US markets. I think I remember reading that it's now possible, but I wonder how high the fees are.. Will have to look into it.

[twacowfca]

TWACOWFCA

 

Thanks for the posts.

 

Do you think LRE is undervalued or fairly valued? I was hoping it would get to $8.5

 

Also has anyone purchased any using TD WAterhouse?

 

The math is easy.  Their FDBV/SH at the end of Q1 was $7.50/SH.  There have not been any notable loss events since then that might have caused a significant loss.  Therefore, let's assume that their current FDBV/SH is $7.70.  Historically, they have earned  20% on BV, including Brindle's long record at Lloyds.  One can discount this rate by the premium that LRE's stock is now selling to FDBV/SH to get a normalized current earnings yield.  I am not aware of any company with a great long term record and excellent, current cash earnings that looks to be as good a value.  If you know of one, please let me know.  :)

 

Their earnings are especially valuable for owners:  Cash, used for the benefit of shareholders as dividends and share repurchases, not hoarded, but distributed.  Not needed for retention and reinvestment to maintain competitiveness.  These are owners' earnings in the fullest sense of that term, managed by perhaps the best underwriter in the business who has a huge stake in the company in alignment with LRE's other shareholders.  :)

[biaggio]

what would FDBV be?

[Packer16]

Two interesting firms who have higher earnings yeild are EGI Insurance and Fairfax.  EGI is a large Tim McElvaine holding.

 

Packer

[rjstc]

TWACOWFCA

 

Thanks for the posts.

 

Do you think LRE is undervalued or fairly valued? I was hoping it would get to $8.5

 

Also has anyone purchased any using TD WAterhouse?

 

The math is easy.  Their FDBV/SH at the end of Q1 was $7.50/SH.  There have not been any notable loss events since then that might have caused a significant loss.  Therefore, let's assume that their current FDBV/SH is $7.70.  Historically, they have earned  20% on BV, including Brindle's long record at Lloyds.  One can discount this rate by the premium that LRE's stock is now selling to FDBV/SH to get a normalized current earnings yield.  I am not aware of any company with a great long term record and excellent, current cash earnings that looks to be as good a value.  If you know of one, please let me know.  :)

 

Their earnings are especially valuable for owners:  Cash, used for the benefit of shareholders as dividends and share repurchases, not hoarded, but distributed.  Not needed for retention and reinvestment to maintain competitiveness.  These are owners' earnings in the fullest sense of that term, managed by perhaps the best underwriter in the business who has a huge stake in the company in alignment with LRE's other shareholders.  :)

    twacowfca; Thanks for this. It helps in the learning of these types of companies. I have purchased this through Schwab. $100.00 with a $5000.00 minimum through London. There are also some other costs on the other end.

[rjstc]

TWACOWFCA and any others holding LRE. Are you hedging this position or what are your thoughts if/when the $ starts getting stronger against the Pound. As long as this company keeps up the way they are I can see holding for a goodly amount of time. However the exchange rate at some point will erode the value somewhat since the $ is so weak vs. Thanks on input.

[twacowfca]

TWACOWFCA and any others holding LRE. Are you hedging this position or what are your thoughts if/when the $ starts getting stronger against the Pound. As long as this company keeps up the way they are I can see holding for a goodly amount of time. However the exchange rate at some point will erode the value somewhat since the $ is so weak vs. Thanks on input.

 

I agree with WEB's comments at the recent AGM.  The massive US monetary stimulus surely will erode the value of the dollar in the future.  But the deficits in some of the Euro countries and the stimulus in the Euro zone is also great.  Same for some other areas.  Therefore, it's not clear that the US $ generally will be relatively worse off in the months and years ahead than the currencies of its major trading partners.

[rjstc]

TWACOWFCA and any others holding LRE. Are you hedging this position or what are your thoughts if/when the $ starts getting stronger against the Pound. As long as this company keeps up the way they are I can see holding for a goodly amount of time. However the exchange rate at some point will erode the value somewhat since the $ is so weak vs. Thanks on input.

 

I agree with WEB's comments at the recent AGM.  The massive US monetary stimulus surely will erode the value of the dollar in the future.  But the deficits in some of the Euro countries and the stimulus in the Euro zone is also great.  Same for some other areas.  Therefore, it's not clear that the US $ generally will be relatively worse off in the months and years ahead than the currencies of it's major trading partners.

 

TWACOWFCA;    I've bought this through London. If the $ gets stronger VS pound then that would work against me as far as converting it back into $s should I sell wouldn't it. Pound/Euro are pretty strong VS $ at this point so if/when $ gets stronger VS them doesn't that work against our value here in US dollar terms? Just curious. If so how best to protect ourselves from that devaluation? Or is it just not that big of a deal to worry about?

[Liberty]

TWACOWFCA;     I've bought this through London. If the $ gets stronger VS pound then that would work against me as far as converting it back into $s should I sell wouldn't it. Pound/Euro are pretty strong VS $ at this point so if/when $ gets stronger VS them doesn't that work against our value here in US dollar terms? Just curious. If so how best to protect ourselves from that devaluation? Or is it just not that big of a deal to worry about?

 

Isn't LRE doing most of its business in USD, though? If the USD gets stronger against the GBP, wouldn't the stock price move proportionally in the other direction? That's my understanding...

[rjstc]

Liberty; GOOD POINT!!! being somewhat slow I hadn't thought of it that way. Thank you. Ron

[accutronman]

Latest from MS:

 

We think sidecar launch is likely to increase

shareholder returns: Lancashire has launched a

$250m sidecar called Accordian, which works as quota

share arrangement on its worldwide property

retrocession business. Lancashire has invested $50m of

its own capital in the sidecar, which implies its share

from the arrangement will be 20%. In addition, we

believe this will further benefit shareholders as

Lancashire will also receive an upfront fee on any new

business and a profit commission on underwriting profit,

which we estimate could be between 10-15% in a typical

arrangement such as this.

 

Further evidence of rating opportunities: Sidecars

are typically a post-loss product, usually set up to take

advantage of rating opportunities in selected classes.

Lancashire’s sidecar is the second sidecar we’ve seen

post Japan, following the launch of Alterra’s (a US based

insurer) $200m sidecar called New Point IV. We think

this points to increasing evidence of good opportunities

in the retro market driven by the demand for the product

as insurers’ need to maintain sufficient capital through

the US wind season. We expect rates in this market to

increase by up to 15-20%.

 

Capital facility on a draw down basis: Lancashire’s

sidecar differs slightly from a typical sidecar as it works

on a draw down facility – only deploying capital where

opportunities are available. We expect it to draw down

on this facility in chunks over the next year. Also, this

provides Lancashire with the flexibility to expand if we

see further rate hardening in the event of another further

loss from the US wins season.

 

Remain OW: We think the outlook appears increasingly

bullish for Lancashire – given its skew of business

towards property cat lines (approximately 30% of total

premiums), we believe it is well positioned to benefit

from the opportunities we see in this market. Lancashire

is trading at attractive multiples of 1.1x FY11e TBV with

a 17.5% FY12e RoTBV.

 

[twacowfca]

Good deal.  :)

[bargainman]

Looking here:

 

http://www.lancashiregroup.com/lre_group/investor_relations/

 

They say they have $7.5 book value per share.  So at the recent $10+ they are trading for a 1.25+ premium.  Just curious what folks around here thing fair value is for this one?