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Accident and Health Insurers Outlook: High Medical Costs Hurt

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As the name suggests, the Accident and Health Insurance industry consists of participants providing workers’ compensation insurance largely to employers operating in hazardous industries (construction, trucking, logging and lumber, manufacturing and agriculture, among others) or providing group, individual or voluntary supplemental insurance products. Workers' compensation is a form of accident insurance paid by employers without affecting employees’ pay. Claims are generally met by insurance companies or state-run workers’ compensation fund.

With the economy strengthening, manufacturing and construction have gathered momentum. According to Bureau of Labor Statistics, both these industries have been increasing job opportunities at a rapid rate at an increasing rate. With more employment avenues within these industries, demand for workers’ compensation insurance should be higher.

Per a report in IBISWorld, industry revenues are estimated to increase through 2022 and given an optimistic employment outlook and rising interest rates, profitability is expected to improve.

However, the rise in medical costs remains a headwind for the workers’ compensation insurance. Mounting medical costs will call for higher premiums. Also with employment steadily increasing and wages improving, claims costs should be also on the rise.

Industry Lags in Terms of Shareholder Returns

Looking at shareholder returns over the past year, it appears that the broader economic recovery wasn’t enough for boosting investors’ confidence in the industry’s growth prospects. The improving rate environment has been favoring accident and health insurers since the Fed started tightening its monetary policy a couple of years back. However, the rate still remains low. Also, rising medical costs and compliance with regulatory requirements remains a challenge.

The Zacks Accident and Health Insurance Industry, a 5-stock group within the broader Zacks Finance Sector, has underperformed both the S&P 500 index and its own sector over the past year.

While the stocks in this industry have gained 5.2%, the Zacks S&P 500 Composite have rallied 15.8% and the Zacks Finance Sector have grown 6.3%.

One-Year Price Performance

Accident and Health Insurance Stocks Trading Cheap

Thanks to the underperformance of the industry over the past year, the valuation looks really cheap now. One might get a good perspective of the industry’s relative valuation by looking at its price-to-book ratio (P/BV), the most appropriate multiple for valuing accident and health insurers because of large variations in their earnings results from one quarter to the next.

This ratio essentially measures an accident and health insurer’s current market value relative to what it would be worth if it chooses to shut down.

The industry currently has a trailing 12-month P/BV ratio of 1.29, a little higher than the lowest level over the past year. When compared with the highest level of 1.60 and 1.42 at the median level over that period, there is apparently plenty of room for upside left.

The space also looks inexpensive when compared with the market at large as the trailing 12-month P/BV ratio for the S&P 500 is 3.98 and the median level stands at 3.77.

Price-to-Book Ratio (TTM)

As finance stocks typically have a lower P/BV ratio, comparing accident and health insurers with the S&P 500 index might not make sense to many investors. But a comparison of the group’s P/BV ratio with that of its broader sector ensures that the group is trading at a decent discount. The Zacks Finance Sector’s trailing 12-month P/BV ratio as well as the median level of 2.56 for the same period is way above the Zacks Accident and Health Insurance Industry’s respective ratios.

Price-to-Book Ratio (TTM)

Underperformance Likely to Persist on Bearish Earnings View

With economic recovery gaining momentum, demand for workers compensation witnesses a steady rise as employment scenario is improving. Loss prevention effort, safer workplace, proactive claims management should help maintaining underwriting profitability.

But what really matters to investors is whether this group has potential to perform better than the broader market in the quarters ahead. While the above ratio analysis shows that there is a solid value-oriented path ahead, one should not really consider the current price levels as good entry points unless there are convincing reasons to predict a rebound in the near term.

One reliable measure that can help investors understand the industry’s prospects for a solid price performance is the earnings outlook for its member companies. Empirical research shows that a company’s earnings outlook significantly influences its stock performance.

The Price & Consensus chart for the industry shows the market's evolving bottom-up earnings expectations for the industry as well as the industry's aggregate stock market performance. The red line in the chart represents the Zacks measure of consensus earnings expectations for 2019 while the light blue line represents the same for 2018.
Price and Consensus: Zacks Accident and Health Insurance Industry

This becomes even clearer by focusing on the aggregate bottom-up EPS revisions trend. The chart below shows the evolution of aggregate consensus expectations for 2018.

Please note that the $4.02 EPS estimate for the industry for 2018 is not the actual bottom-up dollar EPS estimate for every company within the Zacks Accident and Health Insurance industry but rather an illustrative aggregate number created by our proprietary analytics model. The key factor to keep in mind is not the industry’s earnings of $4.02 per share for 2018 but how this dollar number has evolved recently.   

Current Fiscal Year EPS Estimate Revisions

As you can see here, the $4.02 EPS estimate for 2018 is down since April end but up from $3.50 this time last year. In other words, although the sell-side analysts covering the companies in the Zacks Accident and Health Insurance industry have been steadily raising their estimates, they preferred to stay on the sidelines over the last three months.
Zacks Industry Rank Indicates Cloudy Prospects

The group’s Zacks Industry Rank is basically the average of the Zacks Rank of all-member stocks.

The Zacks Accident and Health Insurance industry currently carries a Zacks Industry Rank #190, placing it at the bottom 25% of more than 250 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

Bottom Line

A progressing economy should continue to favor the industry’s performance. Prudent underwriting, intensive claims management practices leveraging technology and a cost-effective medical treatment should provide support. Nonetheless, softening of the insurance market and escalating medical costs pose challenge to the industry.

Headquartered in Seattle, WA, Trupanion, Inc. (TRUP - Free Report) carries a Zacks Rank #4 (Sell). The Zacks Consensus Estimate for the current year is pegged at a loss of 12 cents, declining 71.4% year over year.

The stock has soared 56.4% year to date.

Price and Consensus: TRUP    

Nonetheless, with the tailwinds favoring the industry’s performance, investors can hold a few stocks in their portfolio.

Employers Holdings, Inc. (EIG - Free Report) : This Reno, NV-based accident and health insurer carries a Zacks Rank #3 (Hold). The Zacks Consensus Estimate for current-year EPS has been revised 1.9% upward over the past 60 days. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

The stock has shed 4.3% of its value year to date.

Price and Consensus: EIG

Unum Group (UNM - Free Report) : This Chattanooga, TN-based insurer carries a Zacks Rank of 3. The Zacks Consensus Estimate for the current year is estimated to grow 18.9% year over year.

The stock has lost 29.8% year to date.

Price and Consensus: UNM

Amerisafe, Inc. (AMSF - Free Report) : DeRidder, LA-based insurer carries is a Zacks #3 Ranked stock. The Zacks Consensus Estimate for the current year is estimated to grow 2.9% year over year.

The stock has inched up 1.7% year to date.

Price and Consensus: AMSF

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