Prem Watsa: The "New Warren Buffett"

Prem Watsa: The "New Warren Buffett"

Prem Watsa and Fairfax Financial Holdings are not very well-known outside of Canada. Here's why this business is relevant to all conservative investors and is worth watching.

Yesterday saw the announcement that Fairfax Financial Holdings (FRFHF) is to acquire Zenith National Insurance Corp. (ZNT) for about $1.3 billion in cash.
 
The deal is interesting because Fairfax, a Canadian insurance company, is run by Prem Watsa, who has been dubbed “the next Warren Buffett”. Buffett built Berkshire Hathaway (BRK.A) into one of the world’s largest corporations by buying up insurance assets and investing the float those assets generated into various companies such as Coca-Cola, (KO) American Express (AXP) and The Washington Post Company (WPO). In addition Berkshire owns about 80 businesses in such diverse industries as carpeting, bricks, candy and vacuum cleaners.
 
Prem Watsa was born in India in 1950 and is the founder, chairman and chief executive of Fairfax Financial Holdings. His track record of investment success has resulted in him picking up the monicker of being the “Canadian version” of the Oracle of Omaha. Watsa is not very widely known outside of Canada but is well regarded and followed among value investing circles. He has an incredibly prescient ability to analyze the financial markets. Some of his most famous calls include selling half his stocks before the 1987 crash and buying S&P puts before the index fell off a cliff in 2000. He also bet against the Japanese Nikkei but his biggest success came just recently when he bought credit default swaps on the premise that banks and financial institutions would struggle if a credit and liquidity crisis arose.
 
Since 2005, Fairfax revenue has stayed at roughly $5 billion. Net earnings, however, have grown at 100% compounded annually, from $53 million in 2005 to $856 million in 2008. The market price of Fairfax shares listed on the NYSE has doubled in value over this period. According to filings, Watsa has returned a compounded 23% annualized return in book value between 1993 and 2008. There are very few who can match a record like that. Over the last ten years, Fairfax’s wholly owned investment management company Hamblin Watsa Investment Counsel has produced a common stock investment return of 19.1% compounded annually, against a (1.4%) decline for the S&P index over the same period.
 
While Watsa did indeed make a lot of money in 2008 after buying credit default swap protection, value investors may be a little confused as to how he actually qualifies as a value investor as opposed to a hedge fund manager. Watsa has made his fortune largely through the buying of insurance companies and the resultant investment proceeds of the funds those businesses generate, which is almost an exact replica of the Buffett model. He is also an advocate of the Graham-Dodd school of thought, which is basically the foundation of value investing. In a report he summed up his approach simply saying, “We are buying with the idea that the stocks we buy could go down in the short-term and that is not going to affect us. You have to be able to buy with cash and not go on margin or borrow money to buy stocks”. He’s also a strict adherent to the “Mr. Market” theory espoused by Graham and quotes such a theory in his Letters to Shareholders.
 

Fairfax’s latest quarterly filing shows a lot of overlap with Buffett in terms of common stock holdings. The company has positions in Berkshire Hathaway (BRK.A), Burlington Northern Santa Fe (which will now be converted into Berkshire shares and cash), General Electric (GE), Kraft (KFT), Wal-Mart (WMT) and Wells Fargo (WFC). Some other positions of interest are Dell (DELL) - which is the second biggest position at close to $500 million, Overstock.com (OSTK), Pfizer (PFE) and Merck (MRK). The company also recently bought a position in International Coal Group (ICO).

 

Watsa is a long-term conservative investor who makes investments based on value relative to price. His record so far has been outstanding and it is not unreasonable to think he can at least produce returns in excess of the risk free rate. This cause for optimism can be summed up by Watsa himself, who said in his 2009 Letter to Shareholders, “For the first time in more than a decade, we are very excited about the long term prospects of our common stock investments and believe that these investments have been purchased at prices well below their intrinsic values. This, of course, does not mean stock prices cannot go lower! Mark-to-market gains or losses on these investments will make our book value more volatile, but in the next five years, these investments should be a major reason for our success”. Watch this space!

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