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Still Neutral on XL Group

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We are retaining our Neutral recommendation on XL Group plc (XL - Free Report) , following the second quarter earnings. Operating earnings outpaced the Zacks Consensus Estimate but was lower year over year. Though it experienced solid underwriting results, yet lower investment yields and income from operating affiliates dwarfed the positive impact.

Counting on the positives, XL Group remains focused on those lines of business within its insurance and reinsurance operations that provide the best return on capital over the pricing cycle. Higher premiums written at Insurance were primarily driven by new business initiatives in the North American Property & Casualty lines, higher retention levels, and improved pricing. Also, the second quarter marked the sixth consecutive quarter of accident year loss ratio. With a strong international exposure and a diversified suit of product offering, we believe the company is well positioned to write higher premiums fueling top-line growth, going forward.

XL Group continues to enhance shareholders’ value through dividend payments as well as share repurchases. In the second quarter, the company spent $125 million in share buyback and has $525 million under its authorization. With a dividend payout of 11 cents per share, it currently offers a yield of 1.85%.

The company also scores strongly with the rating agencies. Rating affirmations or upgrades from credit rating agencies play an important role in retaining investor confidence in the stock as well as maintaining creditworthiness in the market.

On the flip side, its exposure to catastrophic events always remains a concern. Though the entire industry benefited from lower cat loss in the second quarter, occurrence of any catastrophic events will adversely impact the results.

Net investment income continues to follow a downward trend. It experienced lower investment rates and cash outflows from the investment portfolio effecting net investment income. Management expects net investment income to remain constrained due to the persistent low interest rate environment. Of the total property & casualty assets of the company, assets worth $3.4 billion with an average gross book yield of 2.8% are scheduled to mature and paid down over the upcoming 12 months. Further, operating expense continues to escalate primarily attributable to the build-out of previously announced initiatives.

The quantitative Zacks #2 Rank (short term Buy rating) for the company indicates slight upward pressure on the stock over the near term. ACE Limited , which closely competes with XL Group currently holds a Zacks #3 Rank (short term Hold rating), indicating no clear directional pressure on the stock over the near term.

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