We have long admired and followed the performance of Warren Buffett as the manager and capital allocator of Berkshire Hathaway. His track record speaks for itself, both in absolute and relative terms; and, of course, he (and his partner, Charlie Munger) are justly celebrated. However, we become concerned when prudent admiration gives way to behaviour akin to a cult; not because we do not believe that Messrs. Buffett and Munger deserve the praise heaped upon them, but because it demeans the quality of their thought and ability as risk managers, not just investors.
We read with relish Mr. Buffett’s recently-published annual Shareholder Letter- a special 50th Anniversary edition, so to speak- but were even more interested to come across and read his letter to the partners in the Buffett Partnership Limited (BPL); published in early 1966 and reviewing BPL’s performance during 1965, the year in which he acquired control of textile company Berkshire Hathaway (ironically, one of his poorer investments). And the rest, as they say, is history!
Reading the letter is a trip down Memory Lane, to a world in which there was a “$35 billion investment company industry” and active fund management was underperforming the Dow. Some things have changed; some have not!
So, why would we consider a 50-year-old letter, written by an investor focused primarily on equity and private capital investment, relevant to our world of E-CAT and (re)insurance (leaving aside the fact that Mr. Buffett wrote the book on using insurance reserve “float” as a source on longer-term capital)? Partly because it contains the usual examples of Mr. Buffet’s clarity of purpose and thought; and partly because, as is now expected and widely anticipated, it contains the aphoristic style of “Buffetisms”- “in the lyrical words of Casey Stengel, “Show me a good loser, and I’ll show you a loser.””
Amongst a number of topics, the letter focuses on measurement; the sometime siren call of “[over-]diversification”; the need for quality of thought rather than quantity; and ensuring that one looks at outcomes and opportunities on a risk-adjusted basis, such that a particular opportunity offers significant potential upside, with a very low risk of a downside- a classic positive skew of risk- often sought, but not so easily found; and very much in line with Awbury’s approach.
We would not have the temerity to “out-Buffett” Mr. Buffett (and while an experienced team, we are not yet eligible to draw Social Security!). However, we do firmly believe that much of what underlies his success can and should act as a guide to building and maintaining a successful business. We focus carefully on a number of areas, or themes, where we believe we can demonstrate that the risk-adjusted returns are both highly attractive and scalable; we do not presume to venture beyond our areas of competence and understanding; and we are very careful to ensure that we can devote sufficient attention and resources to actions that have a measurable and significant positive outcome. We are well aware that one of the mantras in the (re)insurance industry is now “diversification” in terms of product lines and sources of premium. This is rational if one is trying to offset revenue concerns, excessive competition or declines in a particular area of one’s business, such as NatCAT, and the additional lines are non-correlated and significant (as the opportunities that Awbury provides demonstrably offer). Equally importantly, (re)insurance industry CEOs and CFOs need to focus (as does Mr. Buffett) on the most effective allocation of capital to generate both significant underwriting revenues, but also low-cost, high-return, high-quality net underwriting income. That is what builds long-term value.
And to use another, apposite salutation from a certain Vulcan: “Live long and prosper”!
– The Awbury Team