No. of Recommendations: 11
That short seller report on Fairfax was a surprise.
Fairfax is a large and complex business. I do not know it well enough to have a meaningful investment and my comments should be taken lightly.
The insurance business has performed exceptionally well for a long time now. That is very valuable. However, insurance is a dangerous business.
Fairfax has played a blinder on the bond portfolio in recent years. They acted rationally and Buffett like, when rates were near zero, staying in short dated bonds, earning next to nothing. Avoiding the disastrous returns that buyers of longer duration bonds purchased a few years ago a near zero rates, have experienced. When rates whet up, Fairfax has locked in higher rates. And importantly both moves were done on scale. Fairfax is now is a sweet spot and enjoying large increases in bond interest income. Against a backdrop of a low price to book and PE ratio, shorting the company is an odd strategy. There must be easier ways to try and make money than this.
Outside of the bond portfolio, Fairfax has a smaller investment operation. This is what this short seller is focused on. I’m in no position to assess Fairfax capital allocation skills, but from what I can see, the investments performance, in public and private companies are nothing impressive. That might be a function of the difficult environment for deep value investors. The market ratings on statistically cheap companies has been low for some time. It’s always dangerous to compare any capital allocator to Buffett. Buffett’s approach is easy to understand. The idea of allocating capital at 15% or more is very attractive but sadly for almost everyone: over long periods of time, people generally can’t do what Buffett does.
My understanding, is that Fairfax has not demonstrated an ability to allocate capital outside of the bond portfolio (tied to insurance) in a fashion that makes Fairfax attractive for that reason for a long term buy and hold. Shorting it for that reason, sounds like a bad idea, given that it’s not likely to be disastrous. It does however demonstrate, how much higher quality Berkshire is compared to Fairfax in my opinion.
Fairfax will have strong earnings growth over the next two or three years. Good luck shorting that at a low book value and PE. It would take a blow up in insurance underwriting (they have a long and great record), or some big investment write downs (possible but no obvious reason for that on the cards).
What happens to the share price after the large run up in recent years? In the short term, I guess it could cool off a little, as it has become less under valued and now a short seller attack. But my best guess is management will blow away the short seller arguments, starting next week when they report strong earnings.
In the long term, the short seller report does provide a useful reminder, that Fairfax is not in the Berkshire league, when it comes to compounding capital.
My personal opinion is, Fairfax has been a good value play over recent months and may continue to be, but it’s not high enough quality, to be a core part of my portfolio long term. Nothing particularly special about it and it has risks associated with it that can be avoided elsewhere.
Apologies to long term Fairfax holders, that will know the company and situation better than me.
