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Here are my notes from the White Mountains Insurance (WTM) Analyst Day held on May 20, 2009. These are for the introductory section, the financial highlights and a review of bad news in 2008. When I went back to the events section of the White Mountains Insurance web page, the webcast link was missing, so I don't know if I'll be able to review the rest of the meeting. I have e-mailed the company asking for the link but haven't heard back. If anyone has the link to the webcast, please send it to me.
2008 – Bad News
WTM had $1 billion in excess undeployed capital last year because of a lack of investment opportunities – so the company bought back stock and did a Berkshire (BRK.A) transaction. Barrette admitted that with hindsight this was obviously not a good idea. He doesn’t think it will destroy value but will not do what he thought it would do.
Equity Portfolio – Bad News
Equities as a percent of adjusted shareholder value has gone from 55% in December 2007 to 70% pro forma for the Berkshire transaction in June 2008, to just under 38% in the first quarter of 2009. He said that with hindsight the company should have sold down its equity portfolio, but instead paid Berkshire out of proceeds from its fixed income portfolio.
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By December 2008, WTM altered its equity strategy to a goal of capital preservation. After the first two weeks of October 2008, WTM found its capital falling to levels that came close to minimum capital levels necessary to keep credit ratings where they needed to be. They moved out of common stocks and de-risked their fixed income portfolio.
Barrette said the company likes what they own and would probably own some different things if they had more capital or flexibility. WTM owns things not because they have to but because they want to.
WTM Life Re – Bad News
This was a business that WTM got into where it didn’t fully understand what they were getting into. Alan Waters is in charge of fixing the business.
WTM has reinsured two blocks of Japanese variable annuity policies with the same counter party that guarantees the return of an initial deposit at death or maturity. These are ten year policies with an average remaining life of 7 years. The outstanding guarantee is $2.5 billion for WTM, which is the difference between the account value and the guaranty value. Seventy percent is invested in fixed income index funds, and 30% in equity index finds.
They lost $188 million in this business in 2008, $181 million in the last quarter of 2008. This loss comprised $93 million from assumption and model changes, which was the change in WTM assumptions on policyholders' surrenders.
When a policyholder surrenders a policy the insurer does not pay the full guarantee value of the policy but only the account value so when account or asset values are low, high surrenders are good. Unfortunately for WTM, actual surrenders were well below what the company had estimated when they wrote the policy so they had to change the surrender assumption in the last quarter of 2008. WTM changed the surrender assumption from 6.2% to 2.2% of all policies.
WTM lost $32 million in the first quarter of 2009, but business is now marginally profitable now that the markets have calmed down.
WTM has reduced risk through increased hedging and improved methods of hedging. WTM uses swaps instead of bond futures. Increased volatility coverage from 60% to 70%., and added local trading coverage in Europe and Asia.
WTM is still sensitive to surrender rates and if the rate decreased to 1.1% then it would cost the company $44 million.
Barrette says WTM ventured into a business it did not fully understand, and now he understands that they didn’t fully understand it, and he apologizes for it.
Barrette said it is a big loss but believes that they have it under control, however there is still possible downside. The lesson is when something looks easy then look again. WTM usually laughs at those who get into its business, who think it is easy, and now they are on the other side of that.