I don’t normally make posts about conference calls as I tend to look at things over the long term and things don’t change much from quarter to quarter or even year to year. If I look at something and like it, it is probably because I looked at how someone has done over a long period of time. Short term results won’t generally change my opinion about a company or management. But there were some interesting comments so I thought I’d make a post. This is by no means a summary or anything like that at all. They talk about a lot of things I don’t mention here so go check it out if you’re interested (like Loews Hotels).
Berkshire Hathaway (BRK) Disclosure
And by the way, the other day, there was an article about how BRK has bad disclosure. Buffett said that they disclose what he would want to know if the position were reversed. It’s true that there isn’t a whole lot of detail about BRK’s operations. But it’s also true that they have over 70 businesses and it isn’t practical to disclose details about every business.
The reason analysts say disclosure is poor at BRK is because analysts are paid to estimate earnings on a quarter to quarter basis. In order to do that, of course you need more detail. You would want guidance too, right? But then again, Buffett doesn’t want investors that care about quarterly earnings so he doesn’t feel the need to cater to them.
You can’t really blame the analysts; this is the way the industry works. Clients want accurate quarterly earnings forecasts. Analysts are evaluated partly on how accurate their estimates are. Analysts are also evaluated on how a bank’s clients feel about them (usually, clients want accurate quarterly earnings predictions!).
And Buffett wants no part of it. There’s nothing wrong with that. He provides enough information for long term investors to make a decision about owning BRK. I do suspect, though, that in the post-Buffett era, there would be more disclosure.
Anyway, I am making this post about the recent L conference call because of what’s happening in the oil market and James Tisch also said something interesting about the insurance market. L is heavily weighted in energy as one of their large positions is Diamond Offshore (DO).
But first, some L stuff. L bought back 4% of their shares, spending $620 million. They also bought 1.9 million shares of DO in the fourth quarter. They just thought it was cheap.
L had $5 billion of cash and investments as they want to maintain a strong and liquid balance sheet to take advantage of opportunities. Of this cash and investments, $250-300 million were in equities, $900 million in limited partnerships (12-13 hedge funds) and the rest in fixed income and money market funds.
Trouble is Opportunity
Tisch said on an earlier call that for DO, trouble is opportunity. He said now that, “The trouble is certainly here, and Diamond is prepared for the opportunity”. Due to the potential opportunity, DO won’t be paying a special dividend. He reminded us that nine years ago during the boom, DO was paying out big dividends (while others rushed to order big rigs). Since 2006, DO has paid $41/share in regular and special dividends returning more than $5.7 billion to shareholders. DO has the strongest balance sheet in the industry.
Tisch also said he doesn’t believe that $40-60/barrel is a steady-state price for crude. He feels $70-90 is more like it. (The crude forward curve does show crude oil over $70/barrel further out)
One interesting comment he made was that global crude oil production now is 95 million barrels per day (b/d) and demand increases by around 1 million b/d every year. But in order for production capacity to keep up with increasing demand, the industry has to find 6 million b/d of production, not just 1 million b/d for the new demand. That’s because if there is no exploration to replace depletion, after one year, production capacity will go from 95 million b/d to 90 million b/d. So the industry has to find 5 million b/d just to replace depletion, and then another 1 million b/d for incremental demand.
Tisch said it was the right decision to cut dividends last year at Boardwalk as they have $1.5 billion in organic projects to be built over the next three to four years that is expected to generate double-digit unlevered returns for years to come.
CNA is doing really well and they are really focused on getting their combined ratios down. They really want to become a top quartile underwriter.
He also made an interesting comment on commercial P&C pricing. He said he feels good about pricing in the commercial P&C space due to the “extraordinary capital discipline” that has been in place for the last five to ten years. The industry generates a lot of excess capital, but that capital has been returned to investors via share repurchases and dividends. In the old days, the cycles were deeper because companies retained their capital. Now, he doesn’t see the capacity pressure that drove down prices in past cycles.
This has led to price increases of 2-4%, which covers 1.5% or so inflation.
Asked about investment opportunities, he said the only obvious area is energy. He feels L has enough energy exposure via DO and Boardwalk. Nothing else really stands out. He says this is due to the long end of the yield curve being squeezed by the Fed’s $4 trillion balance sheet; rates are at unnaturally low levels that push up asset prices. As for seeking investments in E&P, he said “been there, done that”. L’s exposure in energy will come from DO and that’s enough. (Boardwalk too to some extent, but that’s not really sensitive to commodity prices).
On Markel’s (MKL) conference call, Tom Gaynor mentioned that the crude oil price going down by half in such a short period of time proves that “nobody knows anything about anything”. That was very interesting. He started the MKL call talking about all the things that people were worried about at the beginning of 2014 (low interest rates, overvalued stock market, too much competition in insurance, geo-political risk), and yet they grew BPS 14%.
And this reminds me, again, of what is really important; Not so much the predicting of events, but having a structure that can deal with the various potential outcomes.
Buffett said during the financial crisis that it doesn’t matter what happens in the industry, it’s the low cost provider that is going to come out stronger on the other side. He said this is true with banks (cost of deposits), commodity producers and everything else. A bad environment will impact all the players, but it’s the low cost providers that will take all the business as the higher cost providers fail. Back then he was talking about Wells Fargo and the banking industry.
This is why Buffett goes for the best in class businesses so he doesn’t have to weave in and out of the businesses according to what’s happening; he’ll let the management of the business manage accordingly.
In L’s case, they can’t predict crude oil prices over the near term, but they believe that crude is worth at least $70/barrel on a sustainable basis, and in that environment rigs would have work to do. They have been in the drilling business for 25 years so understand it’s a cyclical business (with some long, deep cycles). L plans to have DO grow over the next few years as opportunities arise. Tisch points out that DO has the strongest balance sheet in the industry (so is ready to take advantage of opportunities).
By the Way About Predictions
Oh yeah, and all of this talk about predictions reminds me of what I always talk about here about the futility of predictions. Whenever I talk about this sort of thing, about not worrying about Greece, Ukraine, U.S. government default and whatnot, I often get pushback; how can you not worry about it? Isn’t that reckless?
A lot of people said that mistakes were made because people ignored the risks before the financial crisis etc.
Well, I don’t think ignoring these ‘distractions’ is reckless at all. In fact, most of the things that people were worried about over the past few years turned out to be nothing.
What is reckless, though, is to invest in a business that might go under if, for example, Greece is kicked out of the Euro. It would be utterly reckless to invest in a business that would go bankrupt if peace is not achieved in Ukraine within the year or something like that.
It is not reckless to invest in a great business that will be fine over the next few years regardless of what happens to Greece or Ukraine. In fact, I think it would be reckless to sell a great business just because the price of it might go down if Greece exits the Euro just to try to get back in later at a lower price. That would be reckless.
Some say, how can you ignore emerging market exposure of this or that business? Well, you don’t really ignore it; you assume that the business will do well over time through cycles. Nobody can predict with any accuracy what is going to happen anyway. This is going to be my motto from now, what Tom Gaynor said; “Nobody knows anything about anything”.
So you don’t ignore it in the sense that you deny it’s ever going to happen. It’s more like you ignore it acknowledging that yes, these scary things probably will happen but nobody knows exactly how things will unfold, so you just stick to businesses that won’t get killed when it does happen.
Not too long ago, people were worried about the dollar. The Fed was going to print the dollar into oblivion. Do anything to get out of U.S. dollar assets. Buy gold. Buy hard assets. Buy emerging market stocks. That was the popular view. Look what’s happening now. Also, a few years ago, no matter which annual report you read, they all talked about emerging markets, growth markets, BRICs etc. It seemed like every company report you read devoted a large section to how much they are investing in “growth” markets since the U.S. economy was not going to provide much growth. People have been calling for higher rates, for inflation and all sorts of other things for years.
This is not to say these things won’t happen. It’s just that nobody can know when and what is going to happen. So you just have to invest without leaning on any one scenario too much. I know portfolios are often “tilted” this way and that, but I bet more often than not, they tilt the wrong way.
So yes, ignore the noise, but it’s not at all reckless to invest in solid businesses that will do well over time and through the cycle. That’s the key.
The difference between someone like Buffett, and most others who worry about all the headline stuff is simply time horizon. Buffett is looking out five, ten, twenty years. So what people are predicting over the next few months or year or two is not relevant at all.
Anyway, L hasn’t been doing too well recently. A lot of that, of course, has to do with the wild swings in the drilling industry. I agree that this is a deeply cyclical industry and who knows when it will turn. But if you believe that crude oil will play an important role in the global economy for years to come, then the current decline in DO is not a permanent impairment but only a temporary one.
I do think that L is overly conservative, but that’s the way they are (and perhaps that’s why they have survived for so many decades!). Sometimes I wish they would do something; Buffett with $240 billion in equity has found things to do in the past few years, you would think L with $20 billion in equity (1/10 the size) would be able to find more things to do. Well, at least they are buying back their stock, and yes, they have invested a lot in their subsidiaries.
I wonder if some people who came up in the 1980’s and 1990’s are anchored to valuation levels of the past. This is not to say that people should pay bubble prices, of course. Frankly, I don’t see a lot of bubble prices in individual stocks (other than some hot restaurant stocks, social media/tech stocks etc.).
The genius of Buffett is that although he grew up paying 2x P/E for non-distressed, “nothing wrong with them” stocks in the 1950’s, he can still go out and make the largest acquisition paying 20x P/E (and making value investors around the world roll their eyes at how bad the deal is) without blinking. Well, we don’t actually know if he blinked.
Anyway, I look forward to the annual report(s).