Insurance agents reach for the antacids whenever theeconomy
Their clients start to look for ways to trim costs, and reduced
insurance coverage (and the smaller premiums they are charged)
eats into the insurers' bottom lines. Any hopes of actually
raising insurance premiums go out the window, as a clientwill
quickly jump ship to a rival in search of a better deal.
Yet as the economy strengthens, the whole dynamic changes. Once a
clear economic upturn is underway, competition becomes less
cutthroat, clients grow less sensitive to the cost of insurance,
and insurers can finally push through long-delayed premium
With the U.S. economy on the mend --economists expect U.S.GDP to
rise at nearly a 3% pace in the second half of thisyear -- the
stage is set for insurers to move back into the sweetspot of
their pricing cycle.
Right about now, you would expect investors to be rushing to
insurancestocks . But another boulder lies in the way before this
sector will be truly loved by investors. That boulder is interest
Insurers hold millions of dollars' worth of clients'funds , and
they typically make handsome profits by parking thatmoney inbonds
and other interest-bearing vehicles. Of course, interest rates
are near generational lows these days, so insurers are generating
puny profits from their heftycash balances.
In effect, investors have concluded that insurance stocks
lacktimeliness -- and will be alot more appealing when interest
rates start rising, perhaps in a year or two. (I recently noted
that the Federal Reserve might not hike rates until 2016, which
affects short-term interest rates, but economic growth is
expected to push up rates of longer-termbond yields sooner than
How untimely and unloved are these insurance stocks? Most of them
trade below tangiblebook value , some of them to a great extent.
Here are 10 stocks that trade for less 90% of tangible book
The Cheapest Stocks on theMarket ?
Anytime you see stocks trading below book value, you should
automatically think about share buybacks. Reabsorbing
companystock with cash can actually magnify the disparity between
book value per share and stock price. The good news: Many
insurers are following that playbook.
New York-based Assurant (
as an example. The share count stood at 137 million back in 2005
and had fallen to 119 million by 2009, thanks to steady buybacks.
And then, Assurant stepped on the gas, shrinking the share count
a further 29% since then to just 85 millionshares .
You won't yet see the effects on per-share profits. Assurant is
likely to earn around $5.50 a share this year, which is roughly
what it earned in 2006 and 2007. That's the clear result of low
interest rates and their effect oninvestment returns for
Assurant's nearly $15 billion in parked cash. Yet when interest
rates move back to levels seen in the past decade, per-share
profits will surge toward the $10 mark, far higher than was seen
in the last cycle.
Of course these stocks won't stay below book value forever. For
instance, Assurant traded at around 65% of tangible book value a
year ago, and that figure is already up to 86%. As that figure
moves toward 100%, then it will make sense to pivot from share
buybacks todividend growth. Let's look at those same 10 companies
and see what kind of dividend yields theyoffer .
Frankly, these yields are underwhelming, which is another
reason this industry remains out of favor with investors. Yet the
current setup should appeal to investors looking for stocks
capable of robust dividend growth. Let's recap the lifecycle to
see why that is.
Interest rates fall sharply, decreasing interestincome .
Shares fall well below book value, triggering more aggressive
stock buyback programs.
Shares (eventually) moveback up to book value, making buyback
programs less fruitful.
Interest rates start to rebound, boosting interest income.
Rising income, coupled with an emphasis shift from buybacks to
rising payout ratios, may trigger share spikes in dividend
Risks to Consider:
This scenario won't fully play out until rates have begun to
Action to Take -->
This is a great time to research insurance stocks. First, see how
they are valued in relation to tangible book value. Then see if
they are seizing on the disconnect by aggressively buying back
stock and shrinking the share count. Then see what profits may
look like when interest rates rebound, and how that relates to a
smaller share count. Chances are you'll be looking at a company
capable of posting recordEPS -- and the surging dividends will be
icing on the cake.
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