Hedge Funds Struggle to Replicate Warren Buffett’s Reinsurance Success
It’s not that easy to be like Berkshire Hathaway.
(Bloomberg Businessweek) -- Berkshire Hathaway Inc.’s Warren Buffett issued a warning about eight years ago: Reinsurance isn’t easy. Still, hedge fund managers—including David Einhorn of Greenlight Capital and Daniel Loeb of Third Point—have borrowed a bit from Buffett’s playbook and gone into reinsurance, which provides coverage for other insurers.
Buffett had an advantage. He owned insurance companies within his conglomerate and could invest their “float”—the premiums they take in but don’t have to pay out in claims right away. The hedge funds’ approach is different. Their managers have set up separate, publicly traded reinsurance companies that invest in the hedge funds. Investors can use the reinsurance stocks as a way to get a taste of the investments of the hedge funds, which then get more money to use and earn fees on.
The trick is to do well in writing insurance policies and investing the portfolio. Einhorn’s Greenlight Capital Re Ltd. and Loeb’s Third Point Reinsurance Ltd. have had trouble with both at times. The companies’ shares are trading below their initial public offerings. “Investors have really soured on this model because it doesn’t seem to work,” says Meyer Shields, an analyst at Keefe, Bruyette & Woods Inc. “It’s not like it couldn’t work. It just hasn’t.”
Greenlight Re is at a crossroads: Facing criticism from an insurance ratings agency about its underwriting, it announced in May it was reviewing its business. Einhorn said in August that the company had to search for the “best strategic direction,” but liquidation wasn’t his first option. Third Point Re hasn’t posted an annual underwriting profit since at least its 2013 IPO.
The insurance business got crowded. In 2013 the “floodgates” of capital opened and altered the market, says Shields. As new players joined in, it got harder to charge high premiums. Natural disasters in 2017 forced insurers to pay out a record $138 billion, according to Munich Re.
Investment markets haven’t always been kind, either. Greenlight Re’s portfolio declined 30.3% last year, and Third Point Re’s investments managed by the hedge fund fell 10.8%. This year, Greenlight Re’s investments are up 7.8% through the end of August, and Third Point Re’s hedge fund holdings recorded an estimated net return of 11.4%. As Greenlight Re seeks a new path, it says it will stash a majority of its investments in cash and short-term Treasuries. Third Point Re ended up shifting some bets into fixed-income assets. Greenlight Re and the Greenlight hedge fund declined to comment.
Loeb isn’t giving up. He says he’d like to see Third Point Re, which has a market capitalization of about $918 million, become a $5 billion to $10 billion company in the next 5 to 10 years. “I’m fully prepared to put more capital into this business to make strategic acquisitions,” he says. The original plan was to seek relative stability while getting upside from Loeb’s investment bets. Now the company is working to shift its underwriting strategy to higher-margin types of policies.
Hedge fund reinsurers aren’t alone in being scarred by the business. In 2011, Buffett admitted Berkshire didn’t really succeed until the arrival of Ajit Jain, now vice chairman for insurance operations. How long did it take Berkshire to find its footing? Fifteen years, Buffett said.
To contact the editor responsible for this story: Pat Regnier at pregnier3@bloomberg.net
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