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Structural Advantages Of Greenlight Re And Third Point Re

Structural Advantages Of Greenlight Re And Third Point Re by balajithinks, Beowulf Capital

We had written about the structural advantages of re-insurers before here. We ran through some numbers and here is what we found.

Both Greenlight Re and Third Point Re are structured similarly with Greenlight Capital and Third Point LLC running the investment books. Both follow 2% management fee and 20% incentive agreements with high watermark. Currently unearned premium is around 50% of equity (actually close to 40% of equity) for both the insurers. We have assumed cost of float as 2% for both the insurers. We tried to model the returns to the shareholders under various circumstances of underlying returns from the Hedge Funds. The shareholder equity varying as a function of float net of the cost of float.

Underlying Equity $100.00
Float Leverage $ 50.00
Total Assets $150.00102%
Underlying Rates of Return$150 InvestedAfter 2% Management FeeAfter 20% PerformanceNet Underlying Returns to InvestorCost of FloatNet Underlying Returns of Shareholder Equity
-30%$105.00$102.90$102.90-31.4%1.0%-48.1%
-20%$120.00$117.60$117.60-21.6%1.0%-33.4%
-10%$135.00$132.30$132.30-11.8%1.0%-18.7%
0%$150.00$147.00$147.00-2.0%1.0%-4.0%
5%$157.50$154.35$153.482.3%1.0%2.5%
10%$165.00$161.70$159.366.2%1.0%8.4%
20%$180.00$176.40$171.1214.1%1.0%20.1%
30%$195.00$191.10$182.8821.9%1.0%31.9%

Over a period of time, if one assumes that the insurers grow their float to get a structure where they have $100 of float for $100 of equity (which is still conservative as reinsurers typically write 5X of capital) However, given the general risky nature of where the float is invested, 1X is a more proper allocation for this strategy.

Underlying Equity$100.00
Float Leverage$100.00
Total Assets$200.00102%
Underlying Rates of Return$200 InvestedAfter 2% Management FeeAfter 20% PerformanceNet Underlying Returns to InvestorCost of FloatNet Underlying Returns of Shareholder Equity
-30%$140.00$137.20$137.20-31.4%2.0%-64.8%
-20%$160.00$156.80$156.80-21.6%2.0%-45.2%
-10%$180.00$176.40$176.40-11.8%2.0%-25.6%
0%$200.00$196.00$196.00-2.0%2.0%-6.0%
5%$210.00$205.80$204.642.3%2.0%2.6%
10%$220.00$215.60$212.486.2%2.0%10.5%
20%$240.00$235.20$228.1614.1%2.0%26.2%
30%$260.00$254.80$243.8421.9%2.0%41.8%

One thing is very evident here, if the re-insurers are not prudent and conservative, it will wipe out equity fast as float functions exactly how leverage does. Companies like Berkshire own whole companies where earnings are less volatile compared to stock market instruments and they also own a lot of fixed income instruments. Third point returned -32.6% in 2008...


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