In hot economies and cold, most everyone needs insurance. But not everyone needs insurance stocks. Share prices rise and fall on not only on demand for policies, but on the returns insurers can earn investing their assets — the money they’ve collected in premiums, but not yet paid out.
So, with the economy warming and yields on bonds and other holdings likely to inch up, are insurance stocks a good bet for 2016?
Read a few forecasts by insurance stock analysts and you find some optimism, but not much raging enthusiasm. It looks like 2016 will be a year for careful picking and choosing among insurance stocks, with plenty of uncertainty even for those in the “buy” column.
Ed Grebeck, CEO of Tempus Advisors, an investment advisory firm in Stamford, Connecticut, is wary of most insurers, saying that rising interest rates could dampen value of fixed-income assets in firms’ investment portfolios.
“Property and casualty insurers will be most affected,” he says, “since 80 percent-plus of their asset portfolios must be medium duration, investment-grade, fixed-income investments.” Life insurers will be similarly affected, he says.
In a report, the consulting firm PricewaterhouseCoopers says the global insurance industry’s outlook is improving.
“The mature economies of Europe and North America are moving toward recovery, while the emerging markets of Asia and Latin America continue to grow,” the firm says. “A pickup in global premiums is forecast, but insurers should not expect a return to the old ways. Insurers are operating in a world where the goal of long-term growth seems to be getting further away. Instead, insurers face a range of obstacles, including persistently low investment yields, tightening regulation and overcapacity in many markets.”
Low interest rates and sluggish economic growth may create “significant downside risks” for life insurance firms, though premium revenue will grow, Swiss Re, the reinsurance company, notes in another forecast. But it expects healthy premium growth in nonlife insurance lines, especially in emerging markets.
With that as a backdrop, some firms are especially intriguing, though opinions on each are mixed.
Buy: ACE Limited (ticker: ACE). The story here is the ACE’s $28 billion merger with Chubb Corp. (CB), expected to be completed early this year. “ACE and Chubb both turned in strong third-quarter results, supporting our opinion that the combined franchises will turn out to be one of the moatiest names in the industry,” writes Brett Horn, senior equity analyst for Morningstar, the market data and research firm. As in a fortress, a business moat offers protection from competitors.
“The combined company will sport attractive positions across commercial lines, with ACE’s entrenched position among large, global clients complemented by Chubb’s solid position among middle-market clients and in specialty lines, such as executive liability,” Horn says.
S&P Capital IQ, the market analysis firm, rates ACE a buy, based on its recent performance and “cost synergies and opportunities for growth” from the merger.
Buy: Principal Financial Group (PFG). The firm has been expanding into retirement services and asset management, impressing analysts who like to see fee-based products added to traditional insurance lines. Ned Davis Research, while noting that Principal’s per-share growth merits neither a buy nor sell recommendation, observes that “PFG appears undervalued based on its price/cash flow.”
S&P Capital IQ rates the stock a buy, citing operating revenue growth that is expected to top 20 percent for 2015. “We remain optimistic about PFG’s growing international business and believe recent acquisitions in several developing countries should contribute meaningfully to long-term growth as these markets mature,” S&P says.
Buy: Prudential Financial (PRU). Prudential took a big hit during the financial crisis, largely due to products linked to stocks. “During the past six years, though, Prudential has worked through most of these issues and is back on the growth path, which is nothing short of remarkable, in our view,” Morningstar equity analyst Vincent Lui says in a report.
Prudential is a strong player in life insurance, and has been moving into fee-based lines, such as pension services. “We continue to like what we see in the revamped Prudential, which has significantly cut back on its risk-taking behavior and is back at driving returns the old fashioned way — through underwriting high-quality and profitable policies,” Lui says.
Argus Research gives Prudential a buy rating, citing “Prudential’s exposure to faster-growing international life insurance markets” and clean balance sheet.
Avoid: American International Group (AIG). Conditions at AIG, which required a government bailout in the financial crisis, are so volatile the stock could be put on either the best or worst list, depending on your time horizon and affection for risk.
“The problems AIG faced during the financial crisis are now in its rearview mirror, and the company is moving forward as a more focused player that is prioritizing shareholder returns over growth,” says Morningstar’s Horn in a December analysis. “However,” he adds, “the core that has emerged is posting weak results, and will likely continue to destroy some shareholder value in the near term.”
Critics note that the “new” AIG is unproven, has undergone some turmoil in the executive suite and hasn’t demonstrated it has enough reserves for claims.
Argus Research, rating AIG a buy, notes that “activist investors are beginning to clamor for even more aggressive initiatives.” While that could spur improvement, it could disrupt as well.
Avoid: Hartford Financial Services Group (HIG). One of the worst-hit insurers during the financial crisis, Hartford has been revamping the business and dealing with executive change. “We are lowering our rating … to hold from buy as earnings growth has slowed,” write Argus analysts Stephen Biggar and Jacob Kilstein. “We also expect the company to generate a lower [return on equity] than peers over the next few years.”
S&P Capital IQ notes that “rates of top-line growth at the core property-casualty unit … are below peer averages.” Steps to improve performance may not have yet gone far enough, S&P says. Nevertheless, some, like Charles Schwab, which rates HIG a buy, think the worst news is in the past.
Avoid: Progressive Corp. (PGR). Progressive falls into the “yes, but what have you done for me today?” category. Having performed well in 2015, Progressive may find its own act hard to follow. Credit Suisse analyst Ryan Tunis says in a research report that Progressive should underperform peers in the near future.
As a major property and casualty insurer, Horn says, Progressive is essentially selling commodities, making it hard to gain an edge. Although the company has been innovative, competitors have quickly caught up, he adds. “Progressive has reached a point of maturity, which is, to some extent, forcing the company to choose between profitability and growth going forward.”
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