Markel Corporation (MKL)

[Enterprising Investor]

Money manager likes Berkshire Hathaway wannabe (5/30/15)

By Kathleen Gallagher of the Journal Sentinel

As results go, Berkshire Hathaway Inc. has some of the best.

The Omaha, Neb., property and casualty insurer, led by legendary investor Warren Buffett, has produced an average annual return of 21.6% over the last 49 years — more than double the 9.9% return of the Standard & Poor's 500 index, according to the company's 2014 annual report.

That sort of performance, and Berkshire's business model — solid underwriting that generates profits and smart investment of premiums that won't need to be paid out in claims anytime soon — appeals to Milwaukee money manager Luke E. Sims.

"Buffett has it right in terms of how to not only be disciplined on the underwriting side, but on the investing side," said Sims, chairman of Sims Capital Management LLC.

But the bigger Berkshire gets, the more Sims says he worries about its ability to produce high-percentage growth.

Despite spending more than $18 billion on acquisitions in 2013, and another $8 billion on acquisitions last year, Berkshire had $63 billion in cash at the end of 2014, said Greggory Warren, a senior equity analyst at Morningstar Inc., in a recent analysis. That was nearly 35% more than Berkshire had on its books at the end of 2012, Warren said.

So Sims has turned to the best Berkshire imitator.

Markel Corp. (MKL, $772.76), Glen Allen, Va., is a specialty insurer that covers niches, including day care centers, horse stables and day camps.

"They're smaller than Berkshire and, therefore, likely to be able to grow faster," Sims said.

Markel has made an underwriting profit every year since 2005, Sims said. Since going public in 1986, the company has grown its book value by an average of 20% a year, he added.

"They're not likely to do that in the future. As you get bigger, it's harder to grow as profitably and consistently," Sims said. "But even if their growth is in the midteens area, they still have a huge compounding machine going on."

At the end of 2014, Markel had $8.5 billion of reserves to invest, Sims said.

Markel invests a good portion of that in bonds. Thomas Gayner, the company's co-president and chief investment officer, who has a strong track record of stock picking, puts a portion in stocks, Sims said. Recently, the company also has been following Berkshire's practice of buying entire companies, he added.

Over time, because of their large portfolios, insurers like Berkshire and Markel are likely to earn more money as interest rates begin to make their much-anticipated move higher, Sims said. The Federal Reserve is expected to begin raising interest rates this year.

Investors are better off owning Markel shares in an account whose distributions never get taxed — like a Roth IRA, in which investors make after-tax contributions — or in an individual account that is taxed at the lower long-term capital gains rate.

The biggest risks are the possibility that Markel could run into underwriting problems; that low interest rates would continue, limiting potential investment returns; or that an economic downturn could hurt stock performance, Sims said. Also, Markel could make mistakes in its efforts to buy entire companies. None of these concerns is unmanageable, he said.

Markel shares trade in a 52-week range of $623.90 to $797.56. Investors who buy and hold them for five or more years should have "materially better" returns than those of the S&P 500, Sims said.

ABOUT THIS

The Journal Sentinel focuses on one Wisconsin money manager or analyst in this weekly feature, looking at a trend that helps investment pros make their decisions.

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