GLRE - Greenlight Capital Re

[premfan]

Heres my take on green capital re. Assuming  Einhorn continues to outperform the market and underwriting delivers even a modest profit this company should develop into a compounding machine. Currently it trades at  1.5 times bv so its definitely not cheap. So far into the companys history the underwriting has been okay.  The 5yr ratios are 2006=109.6, 2007=92.2, 2008=96.5, 2009=96.5, so far in 2010=101.4 .  Einhorn owns 17% of the company and all the voting power.  Buying greenlight capital re you get a insurance company with superior investing abilities and average underwriting. Mini fairfax in the making?

[valuecfa]

Even though Einhorn owns a good chunk of the company, i believe he still charges the hefty typical hedge fund mgmt. fees to stockholders (permanent capital). This was the case a few years ago when i looked at it, if i recall correctly. It's been a while, but i think that was the case.

[Myth465]

I would rather hand Einhorn money vs investing in Greenlight.

 

1.5 book value in this environment is too much.

[stahleyp]

I looked at it around $22-$23. Didn't pull the trigger, unfortunately.

 

I was hoping it would get closer to book. It's something I'll keep an eye on though.

[jay21]

twacowfca,

thank you! Your answer is accurate and precise as usual.

Here is something I don’t understand though: you once wrote that Mr. Brindle could not invest the way Mr. Buffett does, because Lancashire concentrates on short tail contracts, while Mr. Buffett could hold the float for much longer. If that is really the case, how do you explain the way Mr. Einhorn invests? GRLE, just like Lancashire, underwrites short tail contracts, but invests almost nothing in short-term low-yielding bonds.

What am I missing here?

 

giofranchi

 

From what I understand about insurance, you can invest short tail insurance in a long term manner if you get renewals.  This explains why Buffet like GEICO.  Instead of renewals he gets an increasing amount of premiums, which is even better.  Do to the duration mismatch this may create problems, but GLRE's low investment leverage mitigates this risk.

 

 

I haven't looked that closely at Greenlight Re for a few reasons. 

 

I think Mr. Einhorn is a good investor, but not great.  (very few are great, in my opinion)

 

Mr. Einhorn gets a rather large amount of the profits, before the remainder are available for the shareholders.

 

Greenlight has not been able to write a lot of property business and still keep their good rating.  Thus the leverage they have gotten from their model has not been great.  S&P discounts assets according to type when they rate a company.  They discount equity investments by 39% compared to high grade, low duration, sovereign debt.  Thus, if Greenlight invested in high quality, low duration sovereign debt instead of equity, they could write perhaps 65% more insurance dollar for dollar of invested assets.

 

It is very hard for a start up to participate in the best opportunities, even if they know where these are and how to do this.  It's like being a rookie fighter pilot.  You will be placed in the most vulnerable spot in the squadron until you earn your wings.  Mr Einhorn is a good poker player, but playing in this league is more about knowing the players and being respected for your knowledge and experience than for being smart in another field, especially as an absentee owner.  As such, opportunities may be limited to the more commoditized types of reinsurance that are price sensitive.  Even Brindle as one of the most respected players in the industry had to cool his heels for a year or two after LRE's start up before LRE was able to first participate in and then become the lead underwriter in some of the better niches.

 

For these and perhaps other reasons, Greenlight Re has experienced P/B contraction since immediately after their IPO.  They are a better buy now than then.  :)

 

1.  I think that Einhorn is a great investor capable of 15% returns after fees.  He falls in the second tier of investors for me with the first tier being Buffet and Klarman (possibly Greenblatt).  My original thesis for buying this was Einhorn should easily do at least 10% and if it is levered a little than you can get an amazing compounding return.

 

2.  Einhorn and team have been pretty clear that they will try to write insurance for a profit.  They have been waiting for the market to harden and then will try to write a lot more business.  This is a major reason why their leverage is low.

[jay21]

Here's a quote from the recent investor call

 

I like to discuss why we entered the commercial motor liability business in 2008 in the first place. Our thesis was that the pricing would improve due to the recent exit of a large carrier and the belief that the economic slowdown would result in fewer accidents and lower frequency of loss from having less miles driven and more experienced drivers on the road to mitigate potential accidents. Unfortunately that thesis proved incorrect.

 

As it turned out, even with fewer trucks on the road the frequency of loss increased as did the average amount of a claim. We exited the long haul trucking business when we observed the continued competitive pricing environment and we exited the rest of the business when the emerging claims experience demonstrated that it was also likely to generate a loss.

 

I can't tell if this is good underwriting or not.  It seems like a sound thesis to me, but they are making decisions partly based upon perceived changes in loss rates.  Wouldn't it be better/easier to try to write business based upon changes in price as opposed to expected changes in loss rates?  Any thoughts?

 

[giofranchi]

Here's a quote from the recent investor call

 

I like to discuss why we entered the commercial motor liability business in 2008 in the first place. Our thesis was that the pricing would improve due to the recent exit of a large carrier and the belief that the economic slowdown would result in fewer accidents and lower frequency of loss from having less miles driven and more experienced drivers on the road to mitigate potential accidents. Unfortunately that thesis proved incorrect.

 

As it turned out, even with fewer trucks on the road the frequency of loss increased as did the average amount of a claim. We exited the long haul trucking business when we observed the continued competitive pricing environment and we exited the rest of the business when the emerging claims experience demonstrated that it was also likely to generate a loss.

 

I can't tell if this is good underwriting or not.  It seems like a sound thesis to me, but they are making decisions partly based upon perceived changes in loss rates.  Wouldn't it be better/easier to try to write business based upon changes in price as opposed to expected changes in loss rates?  Any thoughts?

 

I think you are right, but I also think Mr. Einhorn & Company are very well aware of it, and are working to improve their underwriting decisions. If I remember well, during that same conference call Mr. Einhorn sounded quite upset about the underwriting mistake they had committed. So, no wishful thinking here! At least, that was my impression from the conference call.

 

giofranchi

[WhoIsWarren]

I read with interest the interview with Jim Tisch and Joe Rosenberg of Loews Corporation in the Fall 2012 Graham & Doddsville newsletter.  In particular, the following question and answer stood out:

 

G&D: Over the last few years a few hedge fund managers have started P&C insurance businesses. Given how well you know the space, what are your thoughts on this?

 

JT: I think they are crazy! I haven’t looked at this carefully at all but the thing I know is that they are generally going into the reinsurance business. It’s really easy to lose a lot of money in the reinsurance business. There are a lot of people in that business who sound like they are really smart and who know a lot about it. One thing I think these upstarts need to remember is that it’s not written that your losses can be only 100% of your premiums. They can go much higher than that. And I assume that these hedge funds are getting into this business because they see it as a source of permanent capital, but the reinsurance business is not an easy business, as it’s basically blind risk that you are taking. You don’t really know what the risk is and it’s easy to lose a lot of money.

 

It's as if Jim Tisch was speaking directly to David Einhorn!

 

Einhorn might be "quite upset" about how their foray into commercial motor liability ended up, but he's no God-given right to earn an underwriting profit.  Reinsurance (as well as primary insurance) is very competitive and Greenlight Re are unlikely to have as much data and knowledge of the business than the longer-established competitors.

 

What I'd like to get an understanding of what is Greenlight Re's underwriting 'edge'.  Can anyone shed any light on this?

 

 

[giofranchi]

I read with interest the interview with Jim Tisch and Joe Rosenberg of Loews Corporation in the Fall 2012 Graham & Doddsville newsletter.  In particular, the following question and answer stood out:

 

G&D: Over the last few years a few hedge fund managers have started P&C insurance businesses. Given how well you know the space, what are your thoughts on this?

 

JT: I think they are crazy! I haven’t looked at this carefully at all but the thing I know is that they are generally going into the reinsurance business. It’s really easy to lose a lot of money in the reinsurance business. There are a lot of people in that business who sound like they are really smart and who know a lot about it. One thing I think these upstarts need to remember is that it’s not written that your losses can be only 100% of your premiums. They can go much higher than that. And I assume that these hedge funds are getting into this business because they see it as a source of permanent capital, but the reinsurance business is not an easy business, as it’s basically blind risk that you are taking. You don’t really know what the risk is and it’s easy to lose a lot of money.

 

It's as if Jim Tisch was speaking directly to David Einhorn!

 

Einhorn might be "quite upset" about how their foray into commercial motor liability ended up, but he's no God-given right to earn an underwriting profit.  Reinsurance (as well as primary insurance) is very competitive and Greenlight Re are unlikely to have as much data and knowledge of the business than the longer-established competitors.

 

What I'd like to get an understanding of what is Greenlight Re's underwriting 'edge'.  Can anyone shed any light on this?

 

 

Of course I had read that interview, but I do not completely agree.

Underwriting profitably is much like investing profitably: study Mr. Brindle as an underwriter and study Mr. Watsa as an investor. What they have in common is that they take calculated risks, always trying to understand where the herd is going wrong. They both are successful, because they gather all the facts scrupulously, they analyze them correctly, and they draw the right conclusions. Furthermore, they are able to take advantage of the fact that other people gather facts approximately, perform sloppy analysis, and therefore often draw the wrong conclusions.

So, the question is: are Mr. Einhorn and his team in the same league of Mr. Brindle and his team, or Mr. Watsa and his team? Of course, I don’t know. But I have read “Fooling Some of the People all of the Time”, among many other letters and papers he has penciled during his successful career, and I am quite positive of the fact that Mr. Einhorn doesn’t leave anything unchecked! He is among the least approximate persons I know of! And that is something I like and admire.

What I won’t be really worried about is size. Look at Lancashire: not big, but a unique underwriter. Vice versa, look at CNA: among the largest P&C insurance companies in the US, but doesn’t really seem to get their act together!

 

giofranchi

[WhoIsWarren]

Thanks giofranchi.

 

I too read "Fooling Some of the People all of the Time" and I was gob-smacked at the level of detail he went into.  It would appear that Mr. Einhorn is indeed an excellent investor.

 

[As an aside I hate the circus surrounding Einhorn these days -- Herbalife dumps because he asks a question on the company's conference call; then he doesn't mention Herbalife in a speech and stock recovers....oh dear.]

 

I understand your point about liking insurance to investing.  A mindset of going against the crowd must be critical to underwriting success. 

 

However I believe there are critical differences between underwriting and investing.  In investing, everyone has access to the publicly available documents and while these are by no means sufficient they are very necessary.  On the other hand in insurance, can a new entrant into (say) the auto insurance industry get access to GEICO's years of accident data?  Or can a new entrant get access to the most lucrative specialty commercial lines of business being directed by the insurance brokers?  I also understand the point you are making about scale not necessarily equalling profitability, but in general scale is your friend in insurance (lower per policy cost), while in general scale (size) is your enemy in investing (as it reduces the size of your universe).

 

One area that I would love to understand better is what allows one insurer to earn terrific underwriting profits and what confines another, despite best efforts, to underwriting losses over time.  Why has CNA been such a poor underwriter over time?  Why is Fairfax's underwriting record inferior to Markel's?  It's very easy to be seduced by intangible explanations, a narrative to fit the facts.  In the absence of more tangible explanations I am always nervous.  As such I generally confine myself to insurers who have a long (say 20 years) record of underwriting success, though even here you can be fooling yourself.

 

Thoughts?

[jay21]

I read with interest the interview with Jim Tisch and Joe Rosenberg of Loews Corporation in the Fall 2012 Graham & Doddsville newsletter.  In particular, the following question and answer stood out:

 

G&D: Over the last few years a few hedge fund managers have started P&C insurance businesses. Given how well you know the space, what are your thoughts on this?

 

JT: I think they are crazy! I haven’t looked at this carefully at all but the thing I know is that they are generally going into the reinsurance business. It’s really easy to lose a lot of money in the reinsurance business. There are a lot of people in that business who sound like they are really smart and who know a lot about it. One thing I think these upstarts need to remember is that it’s not written that your losses can be only 100% of your premiums. They can go much higher than that. And I assume that these hedge funds are getting into this business because they see it as a source of permanent capital, but the reinsurance business is not an easy business, as it’s basically blind risk that you are taking. You don’t really know what the risk is and it’s easy to lose a lot of money.

 

It's as if Jim Tisch was speaking directly to David Einhorn!

 

Einhorn might be "quite upset" about how their foray into commercial motor liability ended up, but he's no God-given right to earn an underwriting profit.  Reinsurance (as well as primary insurance) is very competitive and Greenlight Re are unlikely to have as much data and knowledge of the business than the longer-established competitors.

 

What I'd like to get an understanding of what is Greenlight Re's underwriting 'edge'.  Can anyone shed any light on this?

 

GLRE's edge is that they will only write (estimated) profitable insurance contracts.  Their leverage is low and on every conference call they keep saying they are waiting for a hard market so they can start writing more contracts.  This is not a luxury that many insurers have.  Many insurers are rewarded for growing premiums without regard to the economics of the contract.  This is not so at GLRE.

 

Also, on JT's comments, many other hedge funds have started these entities (Loeb and Coen).  The problem with these vehicles is that hedge funds are volatile and potentially levered.  Reinsurance can also be thought of as a levered vehicle.  So a leveraged asset financed with a leveraged liability can be disastrous.  GLRE mitigates this by having a low leverage ratio. 

[giofranchi]

Thanks giofranchi.

 

I too read "Fooling Some of the People all of the Time" and I was gob-smacked at the level of detail he went into.  It would appear that Mr. Einhorn is indeed an excellent investor.

 

[As an aside I hate the circus surrounding Einhorn these days -- Herbalife dumps because he asks a question on the company's conference call; then he doesn't mention Herbalife in a speech and stock recovers....oh dear.]

 

I understand your point about liking insurance to investing.  A mindset of going against the crowd must be critical to underwriting success. 

 

However I believe there are critical differences between underwriting and investing.  In investing, everyone has access to the publicly available documents and while these are by no means sufficient they are very necessary.  On the other hand in insurance, can a new entrant into (say) the auto insurance industry get access to GEICO's years of accident data?  Or can a new entrant get access to the most lucrative specialty commercial lines of business being directed by the insurance brokers?  I also understand the point you are making about scale not necessarily equalling profitability, but in general scale is your friend in insurance (lower per policy cost), while in general scale (size) is your enemy in investing (as it reduces the size of your universe).

 

One area that I would love to understand better is what allows one insurer to earn terrific underwriting profits and what confines another, despite best efforts, to underwriting losses over time.  Why has CNA been such a poor underwriter over time?  Why is Fairfax's underwriting record inferior to Markel's?  It's very easy to be seduced by intangible explanations, a narrative to fit the facts.  In the absence of more tangible explanations I am always nervous.  As such I generally confine myself to insurers who have a long (say 20 years) record of underwriting success, though even here you can be fooling yourself.

 

Thoughts?

 

“One of the things we try and do after an event is come in and take advantage of the pricing. In our industry you want to try and move in the reverse direction from the herd if you can - and it is a very herd-like industry. People tend to just increase levels of risk, more and more and more - then something really big happens, and they go "Oh, better get out of that particular line of business". And out they all go - and then smarter people (hopefully including ourselves) will then go into that niche, or pocket of opportunity as Jonny would say, and take advantage of that.”

Mr. Charles Brindle

 

You see? Small and nimble entities, like Lancashire or GreenlightRe should just try to be opportunistic. They should relentlessly try to scan the globe for that “niche, or pocket of opportunity” to get into. And, of course, take advantage of that! I don’t really see how very long dated spreadsheets filled with statistics of past accident rates could really make the difference… I might be wrong, but it seems to me they are somehow in a different business than the one CNA Financial deals with (not very satisfactorily) or Geico deals with (quite satisfactorily!).

How to recognize that pocket of opportunity? How to analyze it and be sure it is not a trap? How to finally take advantage of it? Only the right management can tell: they should have proved to be sound and conservative decision makers, sound and conservative risk takers.

Of course you must check and try to judge what they are doing: for instance, Mr. Einhorn long/short value based with macro hedges strategy of investing makes great sense to me, and with Investments / Surplus = 140%, and Net Premium /Surplus = 45%, I like the fact that GreenlightRe is very much underleveraged. But in the end I think you should believe you have partnered with the right people, who form the right team, and who will be able to act successfully like Mr. Brindle suggests.

Otherwise, I agree with you and I would rather stay away from insurance companies.

 

giofranchi

[jay21]

Thanks giofranchi.

 

I too read "Fooling Some of the People all of the Time" and I was gob-smacked at the level of detail he went into.  It would appear that Mr. Einhorn is indeed an excellent investor.

 

[As an aside I hate the circus surrounding Einhorn these days -- Herbalife dumps because he asks a question on the company's conference call; then he doesn't mention Herbalife in a speech and stock recovers....oh dear.]

 

I understand your point about liking insurance to investing.  A mindset of going against the crowd must be critical to underwriting success. 

 

However I believe there are critical differences between underwriting and investing.  In investing, everyone has access to the publicly available documents and while these are by no means sufficient they are very necessary.  On the other hand in insurance, can a new entrant into (say) the auto insurance industry get access to GEICO's years of accident data?  Or can a new entrant get access to the most lucrative specialty commercial lines of business being directed by the insurance brokers?  I also understand the point you are making about scale not necessarily equalling profitability, but in general scale is your friend in insurance (lower per policy cost), while in general scale (size) is your enemy in investing (as it reduces the size of your universe).

 

One area that I would love to understand better is what allows one insurer to earn terrific underwriting profits and what confines another, despite best efforts, to underwriting losses over time.  Why has CNA been such a poor underwriter over time?  Why is Fairfax's underwriting record inferior to Markel's?  It's very easy to be seduced by intangible explanations, a narrative to fit the facts.  In the absence of more tangible explanations I am always nervous.  As such I generally confine myself to insurers who have a long (say 20 years) record of underwriting success, though even here you can be fooling yourself.

 

Thoughts?

 

From what I understand, market participants have auto insurance down to a science.  So GEICO may not be the best example.  Their competitive advantage isn't their loss ratio, it's their expense ratio.  Also, plenty of participants have access to actuarial data.  If they didn't, things like cat bonds wouldn't exist.  Insurance edges are about writing premiums in hard markets and not growing premiums in soft markets.  What makes LRE so successful is that they look everyday for a hard market or a distressed company exiting a line of business.  They are small, nimble, and smart enough to immediately enter the market and take advantage of the price increases.  This is why they cannot grow BV or premiums.  It also makes them singularly unique.

[WhoIsWarren]

Thanks giofranchi / Jay21. 

 

You both make very valid points.  I'm only vaguely familiar with LRE (I plan to a lot of work on it in the near future), which is much discussed on this board; it would appear that these guys underwrite counter-cyclically and with great results.

 

As I said earlier, acting counter-cyclically is a necessary condition for success.  Is it sufficient?

 

It is worth highlighting the experience of Leucadia in the White Mountains-fronted  Olympus Reinsurance.  Here's what LUK had to say in their 2005 letter to shareholders.

 

"Our investment in Olympus Insurance did not have such a happy outcome.  Several years ago, we invested in the startup of a new reinsurance company to participate with White Mountains in that catastrophe reinsurance market that offers protection to primary insurance companies for weather-related extreme losses, mainly hurricanes, typhoons, tornadoes, tsunamis, etc.  Pricing of the insurance is based on computer models which estimate total maximum losses under various scenarios.  Premiums seemed high relative to the risks and for the next few years we patted ourselves on the back for our investment acumen.  In retrospect, we did not appreciate the true risks of our investment and the shortcomings of the models.

 

During the 2005 hurricane season, Olympus was hit with a one-two-three punch and an eventual knockout by the lasses Katrina, Wilma and Rita.  The models were wrong.  The underwriters were too optimistic and drastically underestimated the maximum possible loss.  As the estimate of losses from these storms soared over several months our entire remaining investment was blown away, resulting in a loss of $1201.1 million for 2005.  Taking into account our original investment of $127.5 million, on which we received back cash of $79.5 million, our total loss on this investment was $48 million"

 

I don't know Greenlight Re well enough to know whether they write low-frequency, high-severity or visa versa, so you may not think this a relevant example.  However, the point of highlighting Leucadia / White Mountain's experience is here was a group of investors (headed by the famed Jack Byrne; other investors included Fairholme and Third Avenue) that knew all about writing insurance when others are not, and yet despite their best efforts they lost out in a fairly major way.

 

Like in investing, writing business counter-cyclically gets you so far.  But who knows, in Greenlight Re's case maybe that's enough!

 

[by the way Jay21, I see in your Insurance Questions thread that you ask about sidecars.  Olympus Re. was one of the first sidecars I think.  Here's a 2006 Forbes article that discusses sidecars and references Olympus.]

 

http://www.forbes.com/2006/07/26/hedge-funds-sidecars-cx_lm_0726hedge.html

[giofranchi]

Thanks giofranchi / Jay21. 

 

You both make very valid points.  I'm only vaguely familiar with LRE (I plan to a lot of work on it in the near future), which is much discussed on this board; it would appear that these guys underwrite counter-cyclically and with great results.

 

As I said earlier, acting counter-cyclically is a necessary condition for success.  Is it sufficient?

 

It is worth highlighting the experience of Leucadia in the White Mountains-fronted  Olympus Reinsurance.  Here's what LUK had to say in their 2005 letter to shareholders.

 

"Our investment in Olympus Insurance did not have such a happy outcome.  Several years ago, we invested in the startup of a new reinsurance company to participate with White Mountains in that catastrophe reinsurance market that offers protection to primary insurance companies for weather-related extreme losses, mainly hurricanes, typhoons, tornadoes, tsunamis, etc.  Pricing of the insurance is based on computer models which estimate total maximum losses under various scenarios.  Premiums seemed high relative to the risks and for the next few years we patted ourselves on the back for our investment acumen.  In retrospect, we did not appreciate the true risks of our investment and the shortcomings of the models.

 

During the 2005 hurricane season, Olympus was hit with a one-two-three punch and an eventual knockout by the lasses Katrina, Wilma and Rita.  The models were wrong.  The underwriters were too optimistic and drastically underestimated the maximum possible loss.  As the estimate of losses from these storms soared over several months our entire remaining investment was blown away, resulting in a loss of $1201.1 million for 2005.  Taking into account our original investment of $127.5 million, on which we received back cash of $79.5 million, our total loss on this investment was $48 million"

 

I don't know Greenlight Re well enough to know whether they write low-frequency, high-severity or visa versa, so you may not think this a relevant example.  However, the point of highlighting Leucadia / White Mountain's experience is here was a group of investors (headed by the famed Jack Byrne; other investors included Fairholme and Third Avenue) that knew all about writing insurance when others are not, and yet despite their best efforts they lost out in a fairly major way.

 

Like in investing, writing business counter-cyclically gets you so far.  But who knows, in Greenlight Re's case maybe that's enough!

 

[by the way Jay21, I see in your Insurance Questions thread that you ask about sidecars.  Olympus Re. was one of the first sidecars I think.  Here's a 2006 Forbes article that discusses sidecars and references Olympus.]

 

http://www.forbes.com/2006/07/26/hedge-funds-sidecars-cx_lm_0726hedge.html

 

WhoIsWarren,

as you can see on page 5 of the GreenlightRe Presentation I posted in this thread, their business in 2011 was 95% frequency.

Anyway, yours is an extremely valid point! …I will not even be able to say that nobody had warned me…  ;D

That’s why what I want to see most of all is CAUTION. If they just could get to Investments / Surplus = 175%, Earned Premium / Surplus = 50%, if they could maintain a Combined Ratio around 100% and Mr. Einhorn could get a 10% annualized return from his investment strategy, BV per share would compound at 18%!

They “don’t need to do extraordinary things to get extraordinary results”.

So, please, rule n.1: always be conservative and watch the downside!!

 

giofranchi

[WhoIsWarren]

 

WhoIsWarren,

as you can see on page 5 of the GreenlightRe Presentation I posted in this thread, their business in 2011 was 95% frequency.

 

giofranchi

 

giofranchi -- I can't find that Greenlight presentation.  Would you mind reposting?

 

 

 

They “don’t need to do extraordinary things to get extraordinary results”.

So, please, rule n.1: always be conservative and watch the downside!!

 

 

I hope so!  From a distance, Greenlight Re would appear to possess many of the attributes that I seek out in a (insurance) company.  I may well join you as a shareholder at some stage.  ;)

[giofranchi]

 

giofranchi -- I can't find that Greenlight presentation.  Would you mind reposting?

 

 

Opps, I'm sorry... actually that was another thread!

You can find it in attachment.

 

giofranchi

Greenlight_Re_2012_Investor_Meeting.pdf

[FrankArabia]

thanks Gio.....we're now partners at FFH....got in after the big drop....

[giofranchi]

thanks Gio.....we're now partners at FFH....got in after the big drop....

 

Hey Frank!

I had always known and said that you would have timed the entry point in FFH quite satisfactorily and at your big advantage! If the reasons for that 8% drop were the ones I read about on the board, you also got a little bit lucky… because they were simply idiotic! Good for you!!  ;)

 

giofranchi

[FrankArabia]

well it came at an opportune time as I was rereading Prem's annual letters a few weeks prior and was once again struck with how great of an investor he really is and the virtue of patience........I also have to restate my comments earlier about FFH not being a good insurance operation, it actually is quite decent

 

i would not mind putting 100% of my net worth in this company ....i hope prices stay this or worst for awhile as I got more cash to deploy

[giofranchi]

I was rereading Prem's annual letters a few weeks prior and was once again struck with how great of an investor he really is and the virtue of patience........

 

"As I look over the stock market picture for the past seven years it occurs to me that next to liquid capital the investor must have patience and courage. The bad break of the past few weeks is the 7th bad break since 1930. In between each break the market arose to heights that would have permitted several hundred percent profit over the previous lows. Any investor who had the patience to wait for a bad break and then bought could have made much money. Most people do not have the patience to wait for the bad break. The average speculator is tied up in the market to the hilt when the break comes and has no liquid cash for the bargains that prevail."

 

November 19, 1937 - The Great Depression A Diary, by Benjamin Roth

 

Who knows this better than Mr. Watsa?

By the way, also Mr. Einhorn is pretty conservative right now: 100% long and 73% short.

 

giofranchi

[twacowfca]

Thanks giofranchi.

 

I too read "Fooling Some of the People all of the Time" and I was gob-smacked at the level of detail he went into.  It would appear that Mr. Einhorn is indeed an excellent investor.

 

[As an aside I hate the circus surrounding Einhorn these days -- Herbalife dumps because he asks a question on the company's conference call; then he doesn't mention Herbalife in a speech and stock recovers....oh dear.]

 

I understand your point about liking insurance to investing.  A mindset of going against the crowd must be critical to underwriting success. 

 

However I believe there are critical differences between underwriting and investing.  In investing, everyone has access to the publicly available documents and while these are by no means sufficient they are very necessary.  On the other hand in insurance, can a new entrant into (say) the auto insurance industry get access to GEICO's years of accident data?  Or can a new entrant get access to the most lucrative specialty commercial lines of business being directed by the insurance brokers?  I also understand the point you are making about scale not necessarily equalling profitability, but in general scale is your friend in insurance (lower per policy cost), while in general scale (size) is your enemy in investing (as it reduces the size of your universe).

 

One area that I would love to understand better is what allows one insurer to earn terrific underwriting profits and what confines another, despite best efforts, to underwriting losses over time.  Why has CNA been such a poor underwriter over time?  Why is Fairfax's underwriting record inferior to Markel's?  It's very easy to be seduced by intangible explanations, a narrative to fit the facts.  In the absence of more tangible explanations I am always nervous.  As such I generally confine myself to insurers who have a long (say 20 years) record of underwriting success, though even here you can be fooling yourself.

 

Thoughts?

 

From what I understand, market participants have auto insurance down to a science.  So GEICO may not be the best example.  Their competitive advantage isn't their loss ratio, it's their expense ratio.  Also, plenty of participants have access to actuarial data.  If they didn't, things like cat bonds wouldn't exist.  Insurance edges are about writing premiums in hard markets and not growing premiums in soft markets.  What makes LRE so successful is that they look everyday for a hard market or a distressed company exiting a line of business.  They are small, nimble, and smart enough to immediately enter the market and take advantage of the price increases.  This is why they cannot grow BV or premiums.  It also makes them singularly unique.

 

Geico's loss ratio is important too.  We have a friend who was rear ended by a Geico policy holder.  As soon as she got home, a Geico representative called her on the phone and asked how she was and did she need any medical assistance.  They had a replacement car for her that was ready to be delivered to her home with a full tank of gas.  What kind of car would she like?  Someone else would be calling her soon to take care of full repair of her car.  Then, she got a call from that person arranging for those details. 

 

This went on and on. She got five calls from Geico over the next few days asking if everything was OK.  Did she need anything else?  Was there something more that Geico could do for her?  If something comes up later, any complication, please call this special number to speak to her personal representative.  She was overwhelmed with their generosity and concern.

 

All these actions increased Geico's expense ratio, perhaps by a few hundred dollars, but I bet they lowered their loss ratio dramatically by many thousands of dollars on average because she didn't sue their policy holder as many victims do after an accident.  :)

 

Geico has a history of having experienced and survived virtually everything that could happen to a motor insurance company.  This is a huge advantage.  Contrast them to a British motor insurer that is now on the block, trading at .4 times BV with no takers at a likely take out price of .6 to .7 times book.  In 2005,  a majority interest in that company was acquired by a large international insurance company at 4 times BV.

 

Quality and surviving many tests is very important in judging the worth of an insurance company.  :)  I doubt that anyone at BRK would have touched commoditized auto insurance, even with a ten foot pole.  By the way, commercial trucking insurance is what almost did in Markel Canada before the group led by Prem rescued them.  Experience is a hard teacher, but the lessons learned often are retained and last a lifetime.

 

 

[jay21]

 

WhoIsWarren,

as you can see on page 5 of the GreenlightRe Presentation I posted in this thread, their business in 2011 was 95% frequency.

Anyway, yours is an extremely valid point! …I will not even be able to say that nobody had warned me…  ;D

That’s why what I want to see most of all is CAUTION. If they just could get to Investments / Surplus = 175%, Earned Premium / Surplus = 50%, if they could maintain a Combined Ratio around 100% and Mr. Einhorn could get a 10% annualized return from his investment strategy, BV per share would compound at 18%!

They “don’t need to do extraordinary things to get extraordinary results”.

So, please, rule n.1: always be conservative and watch the downside!!

 

giofranchi

 

Gio, how do you think about the downside here?  If they hit a bad cat year and a bad year in the markets, what will happen? 

 

Leverage cuts both ways. 

[giofranchi]

 

WhoIsWarren,

as you can see on page 5 of the GreenlightRe Presentation I posted in this thread, their business in 2011 was 95% frequency.

Anyway, yours is an extremely valid point! …I will not even be able to say that nobody had warned me…  ;D

That’s why what I want to see most of all is CAUTION. If they just could get to Investments / Surplus = 175%, Earned Premium / Surplus = 50%, if they could maintain a Combined Ratio around 100% and Mr. Einhorn could get a 10% annualized return from his investment strategy, BV per share would compound at 18%!

They “don’t need to do extraordinary things to get extraordinary results”.

So, please, rule n.1: always be conservative and watch the downside!!

 

giofranchi

 

Gio, how do you think about the downside here?  If they hit a bad cat year and a bad year in the markets, what will happen? 

 

Leverage cuts both ways.

 

Well,

let’s first address “a bad year in the markets”:

Mr. Einhorn is conservatively positioned right now: 100% long and 73% short as of 31-October-2012. Not fully hedged, but almost! Furthermore, with Invested Assets / Surplus nearly 140% they are much underleveraged, if compared to their peers. Also, as far as downside protection is concerned, I always like to a look at how a company fared in 2008: if it survived 2008 almost unscratched, well I judge it hard to die! From Dec-07 to Dec-08 BV per share decreased from $16.57 to $13.39. A 19.2% decrease compared to a 37% decrease of the S&P500. Not bad.

Regarding “a bad cat year”, I think it is much more difficult to judge… I like the fact they write 95% high-frequency low-severity business: it seems to me that it mitigates the probability of a huge unexpected loss. And I like the fact that they write less business than their peers: all else being equal, an underwriting loss will have a smaller impact on shareholders equity.

But, in the end I guess it all comes down to management: on page 6 of the 2012 Investor Meeting presentation you can find their approach to both Investment and Underwriting. First of all in Investment: Capital preservation on an investment-by-investment basis. First of all in Underwriting: Focus on downside on a deal-by-deal basis. Mr. Einhorn has almost a 20% interest in the company: I am inclined to believe he has chosen the right underwriters to partner with.

What’s your thought about it?

 

giofranchi

[jay21]

I have a position in GLRE, but I am closer to selling it than buying more.

 

The -19.2 decline would be a little worse if they were more levered like they intend to be.  They also recorded an underwriting profit that year.  So if they had an underwriting loss, it could have easily been a >20% decline in BV.  I am not sure how this will affect this business.  Will they have to post more collateral and sell out of their equity positions (effectively causing them to sell low)?  I am not sure.

 

The low frequency business should help them avoid astronomic insurance losses but they can still mess that up by under reserving or not pricing correctly like they showed this year.

 

Overall, I still like the company because of Einhorn's large position in it and I think it has a chance to compound at a high rate.  I just think it's riskier than I initially thought.  Therefore, I would not make this a core position when I think they are safer options compounding at 15%.