Fairfax’s Watsa still avoids stocks despite hedging loss

26 Oct 2012 12:49 ET

* Value investor remains concerned about economy

* Fairfax took investment loss due to stock hedges

* Watsa sees benefits ahead from being conservative

By Cameron French

TORONTO, Oct 26 (Reuters) – Prem Watsa, investment guru and chief executive of Fairfax Financial Holding Ltd, said on Friday the time is not right to undo Fairfax’s equity hedges even as the insurance company loses money due to recent strong stock markets.

Watsa, who made billions for Fairfax by correctly calling the 2008 financial crisis, fully hedged the company’s equity exposure in 2010 in anticipation of a prolonged market funk. His strategy has led to choppy quarterly results for Fairfax as markets have fluctuated.

Indeed, strong markets during the third quarter led the insurer to take a $23.6 million net investment loss, the company reported late on Thursday, although it posted an overall profit due to robust insurance underwriting results.

But Watsa, whose value investing approach has earned him comparisons to Warren Buffett, said chasing investments that have performed well, or “reaching for yield”, would be a mistake.

“Right now it’s very important not to reach for yield, because if you do reach for yield, if you put money into the stock market at these prices, you could suffer permanent losses,” he said on a conference call to discuss the company’s results.

“We’ll take temporary losses, but we don’t like taking permanent losses.”

Fairfax’s main business is property and casualty insurance, but the company’s fortunes tend to rise and fall with Watsa’s management of its investment portfolio.

Fairfax, which is Research In Motion’s largest shareholder with a 9.9 percent stake, posted a profit of $34.6 million in the third quarter, down sharply from a profit of $973.9 million a year earlier, when the results were goosed by a $1.6 billion gain on investments.

That gain was thanks to the strong performance of the company’s hedges against a double-digit stock market decline.

That result was followed by a net loss of $771.5 million in the fourth quarter of last year, when markets reversed and the company took an investment loss.

The uneven performance has weighed on the company’s shares, pulling them down 16 percent year to date. Fairfax stock was down 0.7 percent at C$367.20 on the Toronto Stock Exchange at midday on Friday.

Watsa, who has long asserted that the company focuses on the long-term rather than quarterly results, said he’s still concerned about the economies of North America and Europe, and he feels there is a large disconnect between economic fundamentals and market valuations.

“We feel very good where we are in terms of our underwriting and I must say, our investment positions, even though we’re not making money for our shareholders. Our company is poised to reap the benefits of being conservative,” he said.

Fairfax ended the quarter with about $8 billion in cash and short-term investments, or about one-third of its investment portfolio.

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One thought on “Fairfax’s Watsa still avoids stocks despite hedging loss

  1. “Right now it’s very important not to reach for yield, because if you do reach for yield, if you put money into the stock market at these prices, you could suffer permanent losses,” he said on a conference call to discuss the company’s results.”

    In my analysis yield is only one small potion of corporate sustainability of profits stream. The fluctuations in the market however depend, as of now, on profits stream only without the knowledge of what is happening behind. There are two important factors that would stabilize the market 1. corporates developing an in-house rating system of policies and value system. 2. Investors look for the rating so that confidence is assured of sustainability of profits. When Goldman Sachs, Bank of America, Barclays direct their energy on profits sans policies and value system, results are bound to be bumpy if one goes investing in such companies based on yield. Risk appetite and risk culture are not evident from Balance Sheets.

    What is needed is Corporates and Governments alike, have to convert a n-dimensional problem into n problems of one dimension: from the Planning & Budget stage itself. Measuring by Return On Intangible, a concept that I have expounded rather than the traditional Return on Investment would be of immense benefit to corporates, governments, investors and people alike. Return on Intangible is a matrix of policies, value system and profits that it would clearly identify companies of high value, value being underlined for sustainability. I invite you to look at the following two presentations:

    1. Planning & Budget: Measuring by Return On Intangible
    http://jayaribcm.wordpress.com/2012/10/24/planning-budget-measuring-by-return-on-intangible/

    2. Investment Decisions for Pension Funds By Intangible Value Capital
    http://jayaribcm.wordpress.com/2012/09/29/investment-decisions-for-pension-funds-by-intangible-value-capital/

    Jayaraman

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