Morningstar DBRS Confirms Credit Ratings on Fairfax Financial Holdings Limited at A (low) and its Insurance Affiliates at A (high) with Stable Trends

DBRS Limited (Morningstar DBRS) confirmed the Issuer Rating of Fairfax Financial Holdings Limited (Fairfax or the Company) at A (low) and the Financial Strength Ratings of Fairfax's insurance affiliates Northbridge General Insurance Corporation (Northbridge) and Federated Insurance Company of Canada at A (high). The trends on all credit ratings are Stable.

KEY CREDIT RATING CONSIDERATIONS
The credit rating confirmations and Stable trends reflect the Company's consistent growth and strong underwriting profitability. Higher interest rates have increased risk-adjusted investment income substantially, contributing significantly to the Company's overall profitability. Fairfax has a resilient, diversified, and growing franchise, including an expanding market position as a major international Property and Casualty (P&C) insurance and reinsurance group. The Company maintains ample liquid assets at both its holding and operating companies as well as its access to committed lines of credit. Its subsidiaries maintain appropriate regulatory capital ratios with buffers above the required solvency levels, allowing Fairfax to manage adverse events. The credit ratings and Stable trends also consider potential earnings volatility that could be caused by exposure to natural catastrophe losses and the impact of financial market fluctuations on unrealized investment gains and losses. Moreover, Fairfax is a large provider of cyber insurance cover in the U.S., ranked number three by the National Association of Insurance Commissioners in 2023, which presents some concentration risk.

CREDIT RATING DRIVERS
The credit ratings would be upgraded if the Company demonstrated sustained reductions in its risk profile and income volatility while maintaining strong underwriting results and adequate capitalization.

Conversely, the credit ratings would be downgraded if there were a sustained material deterioration in the Company's underwriting and overall profitability and capitalization ratios.

CREDIT RATING RATIONALE
Franchise Strength Building Block Assessment: Strong/Good
Over time, Fairfax has developed an extensive and diversified portfolio of global insurance and reinsurance subsidiaries that the Company continues to expand through organic growth and prudent strategic acquisitions. Fairfax has nearly doubled its reported gross premiums written over the past five years to $28.9 billion in 2023. Management of the Company's insurance and reinsurance operating subsidiaries is decentralized, with each organization having its own autonomous management team. The breakdown of premiums written by line of business has remained consistent over the past five years, with casualty insurance accounting for more than half of the net insurance service revenue in 2023 under IFRS 17. Written premiums are dominated by the commercial insurance business with concentrations in some markets, such as workers' compensation and cyber insurance in the U.S. and trucking insurance in Canada. Fairfax ranks among the top five providers of commercial P&C insurance in Canada based on 2023 direct premiums written. Fairfax's second-largest U.S.-based subsidiary, Odyssey Group, ranks among the top 25 largest global P&C reinsurers. The Company's UK subsidiary, Brit, is one of the top five Lloyd's of London syndicates. Other subsidiaries place respectably in other segments, but they do not dominate any one sector.

Earnings Ability Building Block (BB) Assessment: Strong/Good
Fairfax's earnings ability reflects its strong underwriting and pricing discipline across its business segments and geographies, combined with solid income generation capabilities from investments. The Company's model of growing through acquisitions has resulted in substantial earnings diversity, which is positive for the credit ratings. Fairfax has a significant portfolio of fixed income assets from which it generates material interest income. Interest and dividend income from Fairfax's invested assets portfolio almost doubled in 2023 to $1.9 billion from $962 million in 2022 because of rising interest rates. The Company's interest and dividend income is now running at an average of $2 billion annually and Fairfax expects this level to be maintained for the next four years. Fairfax is on track for a strong year in 2024 with a consolidated net income of $2.9 billion as of the nine months ended September 30, 2024 (9M 2024), driven by strong underwriting results and positive investment income. The ongoing favourable insurance pricing environment, coupled with higher reinsurance prices that benefit the Company's significant reinsurance businesses, is expected to contribute positively to Fairfax's earnings in the short to medium term. Fairfax's credit ratings also take into consideration the Company's volatility in profitability over the years, mostly because of mark-to-market variations in its investment portfolio.

Risk Profile Building Block Assessment: Good
Fairfax's risk profile is supported by the Company's strong underwriting and risk-limit controls, effective claims management, and reinsurance coverage for aggregate claim events or large losses. Moreover, Fairfax has strong internal controls and has been able to operate successfully in multiple jurisdictions. Fairfax's investment portfolio has good credit quality. The Company continues to hold a significant amount of AAA-rated bonds, which account for about half of its total fixed income assets as at 9M 2024; however, Morningstar DBRS notes that there has been an increase in the proportion of bonds rated BBB and below as well. This was partly driven by the acquisition of an approximate 95% interest in specific real estate construction loans from California-based Pacific Western Bank. While this asset class has been under pressure, Morningstar DBRS notes that the loans are secured by real estate assets located in the U.S. with a conservative average loan-to-value ratio of approximately 51% and are supported by completion guarantees issued by the project equity sponsors. Morningstar DBRS notes that Fairfax is a large provider of cyber insurance cover in the U.S., which Morningstar DBRS took into consideration in its assessment of product risk.

Liquidity Building Block Assessment: Strong/Good
Fairfax's credit ratings benefit from a sizable holding of liquid assets at the parent holding-company level with approximately $2 billion in total for cash and liquid investments as at 9M 2024. The Company is exposed to natural catastrophe losses that could affect claims predictability, frequency, and severity; however, Morningstar DBRS considers Fairfax's cash and investments holdings appropriate because they provide an important liquidity cushion for any potential uptick in insurance claims from the Company's subsidiaries or potential catastrophe losses. The Company has a policy of maintaining a minimum balance of $1.0 billion in cash and marketable securities at the holding company level. Additionally, Fairfax maintains a committed credit facility of $2.0 billion to support liquidity needs. The credit facility was undrawn as at September 30, 2024.

Capitalization Building Block Assessment: Strong/Good
Fairfax's insurance and reinsurance operating subsidiaries are appropriately capitalized, with each major subsidiary having available capital exceeding the required regulatory targets. The Company's fixed-charge coverage ratios have been volatile at times because of the impact of the accounting treatment of unrealized capital gains and losses within the investment portfolio. However, the volatility is expected to be mitigated in the near term because of the Company's significant and stable increase in net earnings. The holding company is also in a strong liquidity position, which provides further comfort that fixed charges can be paid under stressed market conditions. The Company's financial leverage ratio (calculated by Morningstar DBRS on a consolidated basis as debt plus preferred shares to capital) at 9M 2024 was 30.5%, which is considered manageable.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS
ESG Considerations had a relevant effect on the credit analysis.

Environmental (E) Factors

The following Environmental factor had a relevant effect on the credit analysis:

Environmental concerns regarding Climate and Weather Risks are relevant to Fairfax's credit rating as a P&C insurer but did not affect the assigned credit rating or trend. As part of its P&C product offering, the Company is exposed to weather-related losses from natural catastrophic events such as wind, wildfire, hail, flooding, and other extreme weather events. These events can lead to earnings volatility and increased reinsurance cost; however, the Company manages these risks through measures like product and geographic diversification appropriate risk selection, reinsurance, pricing, and enhanced loss modelling. Morningstar DBRS considered this ESG factor as part of product risk and claims predictability when assessing the Company's risk profile and liquidity, respectively.

There were no Social/Governance factors that had a significant or relevant effect on the credit analysis.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings (August 13, 2024) at https://dbrs.morningstar.com/research/437781.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodology is the Global Methodology for Rating Insurance Companies and Insurance Organizations (September 10, 2024), https://dbrs.morningstar.com/research/439195). In addition Morningstar DBRS uses the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings (August 13, 2024), https://dbrs.morningstar.com/research/437781) in its consideration of ESG factors.

The following methodology has also been applied:

Morningstar DBRS Global Corporate Criteria (April 15, 2024), https://dbrs.morningstar.com/research/431186.

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found on the issuer page at dbrs.morningstar.com.

The credit rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

Morningstar DBRS had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

These credit ratings are endorsed by DBRS Ratings Limited for use in the United Kingdom, and by DBRS Ratings GmbH for use in the European Union, respectively. The following additional regulatory disclosures apply to endorsed credit ratings:

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. Morningstar DBRS's trends and credit ratings are monitored.

For further information on Morningstar DBRS historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://registers.esma.europa.eu/cerep-publication. For further information on Morningstar DBRS historical default rates published by the Financial Conduct Authority (FCA) in a central repository, see https://data.fca.org.uk/#/ceres/craStats.

Lead Analyst: Victor Adesanya, Vice President.
Rating Committee Chair: Marcos Alvarez, Managing Director.
Initial Rating Date: November 8, 1993

For more information on this credit or on this industry, visit dbrs.morningstar.com.

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