The year 2013 started off much better than expected for the U.S.
insurance industry, with most of the primary insurers beating first
quarter earnings estimates and reporting relatively low combined
ratios. Moreover, the sector continued to witness rising premium
rates which started a year back after a long period of softness.
The sector seems to be reaching a favorable pricing cycle and its
near-term outlook for pricing power remains upbeat in the wake of
rising demand from economically recovering American households. But
a dearth of positive catalysts is delaying the recovery process of
the insurers. Among the fundamental challenges, weak underwriting
gains and low investment yields stand out.
Climate change further adds to the concerns. The ravages of
Superstorm Sandy resulted in billions of insured losses last year.
Notably, insured property losses due to Sandy were much higher than
the average over the last decade.
Though insurers are preparing themselves better to withstand
significant losses, an increasing probability of natural
catastrophes due to growing global warming will continue to raise
concerns. This is without mentioning the tornado devastation in
Moore, Oklahoma this week, which, although nowhere near as
concentrated as the East Coast, will nonetheless result in further
losses for insurers.
The events outside the country such as continued debt crisis in the
Eurozone will further limit the industry's growth prospects.
However, the overall health of the industry has improved somewhat
in the recent past riding on an economic recovery, after enduring
pricing pressures and reduced insured exposure since the latest
Rising premium rates should ultimately translate into margin
expansion and mitigate the negative impact of the ongoing low
interest rate environment on insurers' investment income. Further,
increasing awareness on the risk of catastrophe, strong
underwriting discipline and favorable reserve development in the
recent quarters should place the industry at least one step ahead.
That said, though the market condition doesn't remain soft anymore,
reasonable hardening is not expected at least until the end of
2013. Moreover, a stressed balance sheet, lack of real employment
growth and legislative challenges are threatening insurers' ability
to rebound to the historical growth rate.
Also, limited organic growth opportunities and strict regulatory
capital requirements will push the industry more toward
consolidation. Insurers are seeking structural economies of scale
through mergers and acquisitions to enhance market share. While
this will help insurers stay afloat, inter-segment competition will
alleviate. So, increasing profitability after complying with the
regulatory requirements and coping with the challenges of climate
change could prove difficult.
Zacks Industry Rank
Within the Zacks Industry classification, insurers are broadly
grouped in the Finance sector (one of 16 Zacks sectors) and are
further sub-divided into five industries at the expanded level:
Insurance-Accident & Health, Insurance-Brokers, Insurance-Life,
Insurance-Multiline and Insurance-Property & Casualty. The
level of sensitivity and exposure to different stages of the
economic cycle vary for each industry.
We rank all the 260 plus industries in the 16 Zacks sectors based
on the earnings outlook and fundamental strength of the constituent
companies in each industry. To learn more visit: About Zacks
As a guideline, the outlook for industries with Zacks Industry Rank
of #88 and lower is 'Positive,' between #89 and #176 is 'Neutral'
and #177 and higher is 'Negative.'
The Zacks Industry Rank for Insurance-Property & Casualty is
#6, Insurance-Multiline is #13, Insurance-Accident & Health is
#50, Insurance-Brokers is #60 and Insurance-Life is #71. Looking at
the Zacks Industry Rank of the five insurance industries, one could
certainly say that the near-term outlook for the group is
A reduction in underwriting expenses and a modest increase in
premiums have been helping life insurers increase net income in the
last few quarters. But downward pressure on investment yields due
to a low interest rates, higher hedging costs, lower income from
the variable annuity business and more burdensome capital
requirements will continue to mar profitability going forward.
Also, low rates are spoiling life insurers' efforts to grow fixed
annuities and universal life insurance sales.
As the Federal Reserve plans to hold interest rates at low levels
through mid-2015, life insurers will have to seek alternative asset
classes to optimize return from investments. However, the addition
of any risky asset class in their investment portfolios with hopes
of better yield may lead to further losses.
As the industry's statutory capital level fell sharply during the
recession, life insurers will need to optimize their capital levels
to address the ensuing challenges. In the short term, traditional
sources of capital are expected to fulfill most of what life
insurers need in order to stay in good shape. However,
non-traditional sources of capital will take years to strengthen
The underlying trends amid a recovering economy indicate stability
in the sector over the medium term with respect to credit profile
and financial prospects. However, higher-than-average asset losses,
primarily resulting from their real estate exposure, will remain a
Further, the sluggish pace of economic recovery is making it
difficult for life insurers to expand their customer base. In fact,
insurers are struggling to even retain their existing clientele.
Narrowed disposable income owing to high unemployment and huge
credit card debt has made it difficult for Americans to invest in
retirement products such as life insurance. Americans, primarily
the youth, have significantly reduced expenditures on life
insurance products, and are instead choosing alternative
investments that promise better returns.
Though the carriers are transforming their products and businesses
to make them attractive and profitable for customers, significant
improvement in demand is not expected in the near term.
In December, Fitch Ratings has affirmed the credit outlook for the
U.S. life insurance industry at stable for 2013. This action was
primarily based on the expectation of insurers' improved liquidity
and balance sheet strength.
However, the rating agency expects statutory capital growth to be
moderate in 2013 given subdued earnings growth due to the low
interest rate environment. Also, the agency does not expect a
significant improvement in portfolio credit quality due to the
expected weakness in investment income.
Currently, the life insurers with favorable Zacks Ranks worth
Protective Life Corporation
StanCorp Financial Group Inc.
) with a Zacks Rank #1 (Strong Buy), and
China Life Insurance Co.
) with a Zacks Rank #2 (Buy).
As U.S. health insurers are preparing themselves to comply with the
mandates of the health care reform, their financials are expected
to remain strong. Broad-based moderation in utilization has been
primarily boosting the bottom line of health insurers. Also,
increased access to capital and better retention opportunities are
helping them grow consistently despite tardy economic growth.
Moreover, the carriers have been witnessing better credit quality
in the recent quarters, reflecting a moderate industry risk.
In 2010, the historic health care reform legislation - The Patient
Protection and Affordable Care Act (PPACA) - was passed by the
Congress with the intension of making health care facilities more
affordable, preventing private health insurers from continuing with
the pre-existing condition clause and at the same time reducing the
number of uninsured by bringing in 32 million more people under
coverage by 2019.
The legislation had many detractors who contested several of its
stated benefits and considered it another entitlement program that
the country can ill afford. Finally, in Jun 2012, the U.S. Supreme
Court ruled in favor of the reform, rejuvenating the industry by
removing major uncertainties. Further, Obama's re-election in Nov
2012 essentially ensured a future to the law.
While the legislative overhaul brings more regulatory scrutiny for
private insurers such as
UnitedHealth Group, Inc.
), the net negative effect is expected to be far softer than was
Although the full implementation of PPACA will be in 2014, the
industry is expected to see gradual changes through the reminder of
2013. While bringing more people under coverage will add prospects
for growth, the requirement to reduce health care costs will lead
to margin compression.
Also, while the reform will provide more cross-selling
opportunities for health insurers, their overall profitability will
be limited over the long run as the negative impact of Medicare
Advantage payment cuts, industry taxes and restrictions on
underwriting practices will more than offset the benefits of
bringing more people under the umbrella.
Consequently, substantial growth in industry revenue is not
expected until 2015 as insurers will be forced to adjust the
benefits to comply with the health care legislation. Among others,
providing coverage to everyone regardless of an expensive
pre-existing condition would put their top lines at stake.
(Want to know more about the future prospects of health insurers?
Health Insurance Stock Outlook
Property & Casualty Insurers
Market hardening has been the key to improvement for
property-casualty insurers in the recent quarters. After struggling
with falling prices for years, insurers seem to finally reach a
period of better premium rates. However, property-casualty insurers
are still feeling the pressure on their investment portfolios due
to the prevailing low interest rate environment. This has been
continuously reducing the capital adequacy of most carriers.
Along with continually improving pricing power, better preparation
to withstand catastrophe-related losses should help insurers
perform better in the upcoming quarters despite the pressure on
As property-casualty insurers hold about two-thirds of the invested
assets in the form of bonds, their capacity is highly sensitive to
changes in credit market conditions. And with credit markets
remaining weak plus bond prices hovering at low levels due to
persisting concerns over defaults, insurers may incur significant
realized and unrealized capital losses on their portfolios in the
upcoming quarters. Moreover, catastrophe losses continue to keep
the balance sheets of a number of carriers under pressure.
However, the ongoing recovery in the credit and equity markets is
leading to a reduction in unrealized investment losses. Also, once
the economic recovery gains momentum, insurance volume will grow
rapidly. With growing employment in the private sector and recovery
in the housing markets, a number of carriers have already started
seeing growth in insurance sales.
The recent quarters have been increasingly witnessing a rebound in
claims-paying capacity (as measured by policyholders' surpluses),
which reflects the industry's resilience over the prior years.
Conservative investment strategies and capital restructuring
efforts will continue to help property-casualty insurers improve
their financial footing in the upcoming quarters.
XL Group plc
Hilltop Holdings Inc.
AXIS Capital Holdings Limited
) with a Zacks Rank #1 are worth a look in the property-casualty
The industry has been undertaking several structural changes that
will make underwriting and pricing schemes even more attractive to
consumers. Also, improving financial fundamentals on the back of
favorable macroeconomic trends make the stocks of a number of
industry participants appear attractive.
We remain positive on
American Safety Insurance Holdings Ltd.
White Mountains Insurance Group, Ltd.
Assured Guaranty Ltd.
Eastern Insurance Holdings, Inc.
) with a Zacks Rank #1.
Other insurers that we like with a Zacks Rank #2 (Buy) include
The Chubb Corporation
Cincinnati Financial Corp.
Everest Re Group Ltd.
American International Group, Inc.
The Hartford Financial Services Group, Inc.
Prudential Financial, Inc.
We expect continued pressure on investment yield and lower income
from the variable annuity business to restrict the earnings growth
rate of life insurers. Also, reduced financial flexibility and weak
underwriting will hurt the earnings of many property-casualty
insurers. Moreover, the overall industry is vulnerable to the
ever-increasing threat of natural disasters.
Among the Zacks covered U.S. insurers, we prefer to stay away from
the Zacks Rank #4 (Sell) stocks:
ING Groep NV
Meadowbrook Insurance Group Inc.
Stewart Information Services Corporation
). Currently, there are no stocks with a Zacks Rank #5 (Strong
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ING GROEP-ADR (ING): Free Stock Analysis Report
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CHINA LIFE INS (LFC): Free Stock Analysis
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MEADOWBROOK INS (MIG): Free Stock Analysis
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PRUDENTIAL FINL (PRU): Free Stock Analysis
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STANCORP FNL CP (SFG): Free Stock Analysis
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UNITEDHEALTH GP (UNH): Free Stock Analysis
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