Why Fairfax Financial Holdings Ltd. Keeps Falling

There we have it: Fairfax Financial Holdings Ltd. (TSX:FFH) is in correction territory; the stock is down 25% from its peak. I think it’s safe to say that the stock was quite overvalued thanks to fearful investors piling into it as a hedge against a market crash triggered by the election. Let’s not forget that many pundits and gurus were saying that the market would likely correct by 10-15% if Donald Trump won the election, and some folks were even saying that there would be a full-blown crash.

Obviously, that never happened, and stocks are soaring weeks after Donald Trump won the election. Who would have thought that? Definitely not bearish investor Prem Watsa, who’s also known as the Warren Buffett of Canada.

There’s no secret that Prem Watsa is a doomsday investor; Fairfax is fully hedged against a market collapse, and this is music to most investors’ ears. There’s only one problem with this: what if the market rallies? Prem Watsa decreased his long exposure to $1.11 billion from $1.53 billion in the last quarter. That’s almost a third in just a single quarter!

One of these days, Prem Watsa and Fairfax will have it right, and the company will do very well when the markets collapse, but until that day, don’t expect any huge gains overnight. Speculators of the election got burned, and it’s a reminder to investors that you should block out the noise from the media and concentrate on what matters most: finding wonderful businesses with durable competitive advantages that are priced to at huge discounts to intrinsic value.

Fairfax saw a rough quarter a few months ago. The stock saw a $0.42 net loss per share after payment of preferred dividends, which is significantly lower than the $18.16 reported one year prior.

What went wrong? Fairfax’s investments went south this quarter, and the hedges against a market collapse are certainly not going to help the company for the last quarter of this year.

Prem Watsa is betting big on deflation with his hedges, and, if he’s wrong then Fairfax could go down further. Fairfax has a fantastic management team, and you can bet that Fairfax will come back from this downturn eventually.

Is the sell-off a buying opportunity?

I believe Fairfax was quite overpriced before, and now shares are fairly valued. I do not see a huge buying opportunity right now, but if shares continue to decline, we may see Fairfax become an attractive pick for long-term investors who want a hedge against market turmoil.

The stock trades at 1.1 price-to-book, with a one price-to-sales ratio, both of which are in line with their historical average valuations. The stock is not a steal by any means, but if you’re a contrarian, you may want to hold off until the stock hits $500 to get a larger margin of safety.

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Fool contributor Joey Frenette has no position in any stocks mentioned. Fairfax Financial is a recommendation of Stock Advisor Canada.

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