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April 15, 2005

Fake Insurance Contracts.

All the attention in the insurance world has been on AIG in New York, the Spitzer allegations and how and why was Warren Buffet involved. (Before that it was Marshall MacLennan of course, before that Lloyds...there does seem to be something about the industry). A little snippet out of Australia shows that Berkshire Hathaway, Buffet’s holding company and the owner of General Re, might have form in such things:

A Royal Commission found General Re Australia had loaned FAI money in a transaction that was portrayed as a reinsurance contract. The deal improved the appearance of FAI's accounts.

In 1998 another of Mr Buffett's reinsurance businesses, National Indemnity, sold an unusual insurance contract to Mr Adler's insurance company, FAI.

Under the deal FAI paid General Re $55m to protect itself against the risk of two large earthquakes hitting Australia within five years. At the end of the contract, FAI was to get all but $2m of the money back.

Australia has not suffered a devastating earthquake since the British settlement in 1788.

Now I tend to think that this does not involve Buffett directly, he is known as a hands-off manager. If you want a short-hand guide to his success, it was that he noted that insurance companies (especially re-insurance companies) have a huge float. Premiums are paid in many years before claims are paid out. If you can be a good investment manager (which he is, of course) then using your capital to buy an insurance company, and applying those skills to the float rather than just to the original capital, gives you great leverage. That’s pretty much what he’s done, while leaving the actual operations of the insurance side to the executives of the companies involved.

April 15, 2005 in Insurance | Permalink


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