Fairfax Financial Holdings Ltd T.FFH

RBC Raises Targets

[retiredcf]

Their upside scenario target is also raised to US$1375.00. GLTA

May 3, 2024

Outperform

TSX: FFH.U; USD 1,095.52; TSX: FFH

Price Target USD 1,275.00 ↑ 1,200.00

Fairfax Financial Holdings Limited

Stable Q1 results, rising net investment income providing a nice lift

Our view: Overall Q1 underwriting results tracked fairly similar to recent trends although the components of the combined ratio shifted around a bit. Reserve releases were similar to year-ago levels while low cat losses provided a lift (the expense ratio also ticked up). Premium growth returned to the double digits due to the Gulf acquisition although the company is seeing premium growth opportunities across many areas of the business. Share buybacks were large as the company took advantage of share price weakness to repurchase shares. Dividend and interest income continued to improve sequentially. We remain at Outperform.

Key points:

Estimates & price target: We are revising our 2024 net EPS estimate to $136.00 (from $140.00) to account for reported Q1 results and a slight uptick in our expense ratio assumptions. We are leaving our 2025 net EPS forecast of $152.00 unchanged. We are increasing our price target to $1,275 (from $1,200), which is now based on 1.2x our ending FY'24 book value per share estimate (previous multiple assumed was 1.1x). We think a slightly higher price/book multiple is warranted given strong earnings power and its attractive valuation relative to other P&C insurers.

Q1 results: Fairfax Financial reported 1Q/24 net earnings per share of $30.82, which compares with our $34.77 net estimate. On an operating basis, we calculate that the company earned $32.70 per share vs. our $31.00 forecast. The slight upside was mainly in dividend and interest income.

Noteable Takeaways: Fairfax’s Q1 P&C combined ratio amounted to 93.6% in the quarter, which was in line with our 93.4% forecast. Most of the company’s units produced combined ratios somewhere in the low to mid 90s. Overall reserve development was modest at 0.5 points while cat losses were light at $101.4 million (1.7 points). Net written premiums in the P&C units were up almost +12% to $6.25 billion in Q1. This was the first quarter in which Gulf Insurance was included in results, boosting overall premium growth. Ex Gulf Insurance, NWP was still up +5.3% in the quarter. Fairfax believes that rates generally remain attractive (outpacing loss trends) and believes that there continues to be growth opportunities across the platform. Interest and dividend income totaled $589.5 million in Q1 vs. $536.6 million in Q4/23 due in part to higher investment yield benefits. Fairfax spent $260 million on buybacks in Q1.

Positives: 1) Interest & dividend income on the rise; 2) large share buyback in the quarter; and 3) Global Insurers and Reinsurers unit combined ratio was the standout.

Negatives:

1) Modest book value per share growth; 2) tempered reserve releases; and 3) uptick in the expense ratio.

Key takeaways for the quarter

•  Underwriting results: Fairfax’s Q1 P&C combined ratio amounted to 93.6% in the quarter, which was in line with our 93.4% forecast. Most of the company’s units produced combined ratios somewhere in the low to mid 90s. Brit was the standout at 89.7% (likely benefitting from lower property losses) while Zenith National (workers’ comp) was an outlier at 99.1%. The Gulf Insurance unit generated a 103.4% combined ratio in Q1 but indicated that it was elevated in the quarter and should return to historical averages over time. Overall reserve development was modest at 0.5 points as we think that the company is being more conservative in releasing reserves similar to peers given the uncertain claims environment (social inflation, severity). Cat losses were light at $101.4 million (1.7 points) in the quarter, reflecting the lack of large global cat loss events (which is where the company has the biggest cat exposure). Although Fairfax’s Q1 ex-cat accident year combined ratio rose to 92.4% from 90.9%, most of that increase was driven by a 110 bps uptick in the expense ratio (mix, personnel expenses, technology costs, and the inclusion of Gulf into the mix).

•  Premium growth: Net written premiums in the P&C units were up almost +12% to $6.25 billion in Q1. This was the first quarter in which Gulf Insurance was included in results, boosting overall premium growth (Gulf Insurance generated NWP of $334 million in the quarter). Ex Gulf Insurance, NWP was still up +5.3% in the quarter. Premium growth varied by segment as we think the company is being a bit more selective in writing new business than a year ago given market conditions (albeit pricing is still up). Gulf Insurance is now being reported in the International and Reinsurers unit, which produced +68.4% premium growth in the quarter. North American Insurers NWP grew +7.5% (RBC estimate: +11.4%) to $1.67 billion with growth in Crum & Forster and Northbridge partly offset by a decline in Zenith National (workers' comp unit). Global Insurers and Reinsurers NWP rose +4.0% (RBC estimate: +5.0%), dragged down by a premium decline at Odyssey Group due in part to a large contract nonrenewal (Brit and Allied World both showed NPW growth). Fairfax thinks that rates generally remain attractive (outpacing loss trends) and believes that there continues to be growth opportunities across the platform.

•  Investments: Interest and dividend income totaled $589.5 million in Q1 vs. $536.6 million in Q4/23 due in part to higher investment yield benefits (the Q1 run rate was well above management’s recent target for dividend and income of $2 billion annually over each of the next four years). The company continues to rotate into bonds looking for better investment yields. At the end of Q1, a total of 70% of its fixed income portfolio was invested in government securities and 20% in corporate bonds which compares with 74% in government securities and 15% in corporate bonds at the end of Q2/23. Cash and short-term investments at the holding company increased to $2.5 billion vs. $1.8 billion at the YE’23, partly reflecting the debt offering. The duration of the fixed income portfolio was 2.8 years and the portfolio yield was 5.0%.

•  Other items of note: Fairfax stepped up the buyback pace in Q1 given the price weakness and spent $260 million on buybacks (for reference $363 million was spent on buybacks for all of 2023). We expect Fairfax to remain active in its buyback program over the course of 2024. The company completed a $1.0 billion 6.35% senior notes offering during the quarter while total debt ended Q1 at $10.35 billion vs. $9.72 billion at the end of FY’23. Book value share was up modesty (+0.6% sequentially) to end Q1 at $945.44, which was impacted by negative marks as well as the payment of a $15/share annual dividend. The company also executed a tender offer to increase its ownership stake in Gulf Insurance to 97.1% (from 90.0%) for $126.7 million.