A recent report by Insurance Information Institute stated that the 2018 Atlantic hurricane season is expected to be milder than the earlier forecast. This is a relief for insurers since they faced above-average catastrophe activity in 2017 and incurred billions in losses from claim costs.
Improved climatic conditions, increasing interest rates and a so-far resilient U.S. economy in the face of the trade spat with China, bode well for the industry. Therefore investing in stocks from this space is a wise option.
Milder-Than-Expected Hurricane Season
Colorado State University (CSU) released its updated outlook for the 2018 Atlantic hurricane season earlier in the month. The report predicts a below-normal season with a total of 11 named storms (including Alberto which formed in May), four hurricanes and one major hurricane (maximum sustained winds of 111 miles per hour or greater; Category 3-5 on the Saffir-Simpson Wind Scale). This forecast marks a considerable reduction from their June outlook of 14 named storms, six hurricanes and two major hurricanes.
Per the Aon Benfield report, preliminary weather-related losses for insurers in the United States for June 2018 were $2.6 billion.
A Painful 2017
These predictions come as a great relief to insurance players after having faced with unprecedented catastrophe losses in 2017. Per Aon, in 2017, the record-breaking weather-related events across the globe included Hurricanes Harvey, Irma and Maria in the United States and Caribbean, plus Typhoon Hato in China and Cyclone Debbie in Australia. For historical context, the report said, 2017’s natural catastrophe losses were 93% higher than the 2000-2016 average. Willis Re report said that the insured loss estimates from major natural catastrophes in 2017 of about $143 billion, is the highest since the annual market loss of $120 billion observed in 2011. And U.S. insurers bore most of the burnt in 2017.
One of the players, XL Group, reported a combined ratio of 108.3% for 2017, indicating underwriting loss (an underwriting ratio of more than 100% indicates loss for an insurer.) Another company, The Allstate, incurred $3 billion in catastrophe losses, making 2017 the fourth-highest catastrophe loss incurred year. Conglomerate Berkshire Hathaway’s insurance operations suffered nearly $2.8 billion of cat losses, which led to a 17.8% decline in the company’s earnings for 2017. Its insurance and reinsurance entities posted an after-tax underwriting loss of $2.2 billion.
Surplus Capital a Boon
Low cat loss will lead to lower loss claims, which will in turn save insurers’ reserves and lead to capital surplus. The industry is already boasting surplus capital. According to ISO, a Verisk business, and the Property Casualty Insurers Association of America (PCI), private U.S. property/casualty insurers saw investment gains push the industry’s surplus to a new all-time-high value of $752.5 billion in 2017, up 7.4% year over year.
A benign cat loss environment coupled with record capital surplus positions the players in the industry for long-term growth. We therefore expect players to use part of its surplus funds to extend mergers and acquisitions, form of new business units, and invest further in technology, which should drive business growth and efficiency gains. Part of the funds should be returned to shareholders in the form of share buyback and dividend payouts. We therefore expect to hear more stories of dividend hikes and increased share repurchases from this space.
Rising Rates Another Positive
The increase in Fed funds rates is another positive for the insurance industry, which had been suffering from low returns on its investments portfolio due to near zero interest rates for a prolonged period. With last month’s rate hike, the Fed funds rate stands at 2% now. There are expectation of two more rate hikes for the rest of 2018. For 2019, the interest rate is estimated to be 3.1%, up from 2.9% projected at its May FOMC meeting, while the same is expected to reach 3.4% at 2020 end. These trends bode well for insurers’ investment income. The industry’s investment income increased 5.2% in 2017 and the uptrend should continue.
In a year’s time the industry has grown 8.9%, compared with the rise of 14.8% in the S&P500 index.
Stocks to Pick
Given the favorable trends, it is wise to invest stocks in this space. We have thus chosen stocks with a favorable Zacks Rank # 1 (Strong Buy) or 2 (Buy). Each of these stocks has witnessed upward revisions in 2018 Zacks Consensus Estimate and carry a Value Style Score of A or B. Our research shows that stocks with a Value Style Score of A or B when combined with a Zacks Rank #1 or 2 offer the best opportunities in the value investing space.You can see the complete list of today’s Zacks #1 Rank stocks here.
Progressive Corp. (PGR - Free Report) carries a Zacks Rank #1 and the stock has seen the Zacks Consensus Estimate for current-year earnings being revised 3.7% upward over the last 30 days. It carries a Value Style Score of B.
Arch Capital Group Ltd. (ACGL - Free Report) carries a Zacks Rank of 2. The stock has seen the Zacks Consensus Estimate for current-year earnings being revised 0.4% upward over the last seven days. The stock has gained 33% compared with the industry’s growth of 8.8% in a year. It carries a Value Style Score of B.
Conifer Holdings, Inc. (CNFR - Free Report) with a Zacks Rank of 2 has seen the Zacks Consensus Estimate for current-year earnings being revised 26.3% upward over the last 60 days. It carries a Value Style Score of A.
National General Holdings Corp. (NGHC - Free Report) with a Zacks Rank of 2 has seen the Zacks Consensus Estimate for current-year earnings being revised 0.9% upward over the last seven days. It carries a Value Style Score of A.
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