Berkshire Hathaway 2009 Annual Meeting Audience Question # 41

There’s nothing wrong with Swiss Re’s underwriting

Warren Buffett:


Carol Loomis:

This is a question about Berkshire’s investment in Swiss Re. “Given that you have no control over Swiss Re’s underwriting, how can you be comfortable with 2.6 billion invested in a relatively junior security in addition to the relatively sizeable common stock position you already have?

“Did the Gen Re acquisition’s problems over the first several years you owned it not make you wary of the potential landmines in reinsurance?”

“And isn’t Swiss Re even more likely to continue to make mistakes, given that you have no management control?”

“Or has your insight into its underwriting culture, since you entered into the quota share agreement, increased your comfort level with the risks it is taking?”

“You have said, in the past, that Berkshire’s float is worth as much or more than equity. Would you say the same about Swiss Re’s float?”

Warren Buffett:

About Swiss Re’s what, now?

Carol Loomis:

Swiss Re’s float.

Warren Buffett:

Oh. The… we have several arrangements with Swiss Re. One was engaged in a little over a year ago, where we take 20 percent of their property-casualty business, which is reinsurance business, primarily, over a five-year period.

Then we made a… and that started about a year ago. And then, a month or two ago… and at that time, we bought about 3 percent of Swiss Re’s common.

Then, about a month ago, we invested 3 million… 3 billion… Swiss francs in a security which pays us 12 percent a year and which they can call, after two years, at 120 percent of its principal amount. And then if they haven’t called it by the third year, it becomes convertible to 25 Swiss francs a share.

The odds are probably pretty good that it will get called. And if it gets called, we’ll be unhappy, because they only reason they’ll call is if it’s advantageous for them to call it and disadvantageous to us.

But if it does get called, we will get 120 percent of par plus 12 percent a year for it.

We are senior, actually, to the Swiss re-equity of roughly 20 billion Swiss francs. So I would not regard it as a junior security.

Swiss Re’s problems of the last year or so have not come about, in any way, through their insurance underwriting.

Their insurance underwriting has been fine over the years. And we feel fine about having a 20 percent quota share in that. And we feel fine about our investment. So, I would regard…

They develop a large amount… as many reinsurance companies do… they develop a large amount of float per dollar of premium volume.

So we would expect that this 20 percent quota share that we’ve had for a year will develop a very significant amount of float relative to the 3 billion or so of premiums that it represents.

And I think it will turn out to be attractive float. It will be attractive for us. And it’ll even be a little more attractive for Swiss Re.

Because in effect, they get… the commission we pay them gives them a little overwrite on that.

I think, like I say, that the most likely thing is that our $3 billion position gets called.

We also have that $2 billion or 2 billion Swiss franc. If I’ve said, “dollar,” I meant Swiss franc. $2 billion… 2 billion Swiss franc… adverse loss cover.

And what that says, essentially, is that, if their reserves… we’ll say, in the property-casualty business, at the end of 2008… were roughly 60 billion francs… that once they’ve paid out… these are not precise figures… but once they’ve paid out 58 billion, 2 billion less than their carried reserves, that we pay the next 5 billion.

And like I say, it’s very unlikely we would be paying out money before 15 years on that. And if their reserves are accurate, we will pay out only the 2 billion.

So that was a transaction, again, that was made at a time when Swiss Re was under considerable pressure. They were under threat of downgrade, in terms of ratings.

And, I met with the CEO… the then-CEO… of Swiss Re on a Sunday in Washington, D.C., along with his investment adviser. And we arranged a transaction, which their shareholders and their directors later approved. And I think we met their needs. And I think we’ve got an attractive transaction.

There’s nothing wrong… you know, we may prefer Gen Re… but there’s nothing wrong with Swiss Re’s underwriting. It did not cause any of the problems that they have now.

That arose from something akin to the problems of AIG, although not remotely on the scale of AIG, but both in somewhat in financial products and somewhat on the asset side. It did not arise from underwriting.


Charlie Munger:

Yes, and that’s a terrible problem. We wish we had more of it.

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