2017 cats hit Berkshire Hathaway profits but Buffett contends it is well placed for mega-cat

Catastrophe losses stemming mainly from the three the hurricanes and wildfires that hit the US last year cost Berkshire Hathaway some $3 billion and led to heavy underwriting losses in its re/insurance units. But Warren Buffett, the company’s chairman, was quick to stress that such years are rare and prior to 2017 the company had recorded 14 consecutive years of underwriting profits.

The company’s insurance businesses generated after-tax losses from underwriting of $2.2 billion in 2017 compared to after-tax gains of $1.4 billion in 2016 and $1.2 billion in 2015. This was one of the few negatives for the company, which otherwise posted record profits, which increased by 87 percent to $44.94 billion. However, its operating profit fell 18 percent to $14.46 billion, hurt by losses from insurance underwriting.

In his annual letter to shareholders, Buffett was keen to press that such losses are to be expected when writing volatile property-cat business and that the business is better placed to cope than many other reinsurers. He estimates that Berkshire’s losses from the three hurricanes to be $3 billion (or about $2 billion after tax) and, if the industry’s estimate of $100 billion in total insured losses is close to accurate, its share of the industry loss was about 3%.

“I believe that percentage is also what we may reasonably expect to be our share of losses in future American mega-cats. It’s worth noting that the $2 billion net cost from the three hurricanes reduced Berkshire’s GAAP net worth by less than 1 percent. Elsewhere in the reinsurance industry there were many companies that suffered losses in net worth ranging from 7 percent to more than 15 percent,” Buffett said.

“The damage to them could have been far worse: Had Hurricane Irma followed a path through Florida only a bit to the east, insured losses might well have been an additional $100 billion. We believe that the annual probability of a US mega-catastrophe causing $400 billion or more of insured losses is about 2 percent. No one, of course, knows the correct probability. We do know, however, that the risk increases over time because of growth in both the number and value of structures located in catastrophe-vulnerable areas.”

But he said that no other company comes close to Berkshire in being financially prepared for a $400 billion mega-cat. “Our share of such a loss might be $12 billion or so, an amount far below the annual earnings we expect from our non-insurance activities. Concurrently, much – indeed, perhaps most – of the p/c world would be out of business. Our unparalleled financial strength explains why other p/c insurers come to Berkshire – and only Berkshire – when they, themselves, need to purchase huge reinsurance coverages for large payments they may have to make in the far future.”

And he again stressed that the underwriting operations have generally been consistently profitable. Prior to 2017, Berkshire had recorded 14 consecutive years of underwriting profits, he noted, which totalled $28.3 billion pre-tax.

“I have regularly told you that I expect Berkshire to attain an underwriting profit in a majority of years, but also to experience losses from time to time. My warning became fact in 2017, as we lost $3.2 billion pre-tax from underwriting,” Buffett said.

“The only point I will add here is that you have some extraordinary managers working for you at our various p/c operations. This is a business in which there are no trade secrets, patents, or locational advantages. What counts are brains and capital. The managers of our various insurance companies supply the brains and Berkshire provides the capital.”

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