P&C Stocks Reaching Equilibrium

P&C insurance stocks have reached an equilibrium after rising past sub-book value multiples, which have existed since 2009 for many companies, according to “Property-Casualty Valuations: Have Valuations Reached a New Equilibrium?” a study from Conning, an investment management company for the global insurance industry.

“Underwriting fundamentals have improved, supporting higher valuations, however the build-up of capital and depressed interest rates act as dampers on further improvement,” said Steve Webersen, director of research at Conning. “Current P&C industry valuations seem more rational than the sub-book value levels that existed over much of the prior four years. However, our analysis suggests that a return to the higher historical valuation levels is unlikely in the near term.”

Among the reasons valuations currently are capped, Conning said, is that the P&C industry is over-capitalized, which is the result of regulatory uncertainty and pressure from ratings agencies. Conning said it was unconvinced the P&C industry could support a return to long-term valuations of 1.3× to 1.4× book value.

“Currently, the pendulum has swung to the ‘more capital is better’ side at the expense of returns, and ultimately, valuations,” Webersen said. “Until this situation is resolved, the excess capital position will likely act as a ceiling on valuations.”

Some companies are valued well above the industry averages, Conning said in the report, and others well below. As a group, the P&C universe of publicly-traded companies currently trades at only a modest premium-to-book value, Conning said in the report. In the 1990s, insurance companies routinely traded at twice their book values.

Several factors fundamentally affect profitability in the industry, which affects how investors value the industry, Conning said, including:

- reduced leverage, which results from increased capital against premiums and invested assets.

- shorter-lived recovery cycles, based on shorter periods of prosperity and reduced opportunity to recover from competitive erosion or adverse events.

- low interest rates, as less ability to leverage assets and reduced investment income decreases profitability.

The best measure of value creation, Conning said, is growth in book value, or surplus plus dividends paid, and because that analysis is applicable to stock companies, which can pay shareholder dividends, a majority of the Conning analysis is centered on publicly traded insurers, which comprise 70 percent of the industry. However, the value-creation metric also can be applied to mutual companies, and the report includes an analysis of stock vs. mutual insurers.

The study offers a review of long-term returns and valuations in the P&C industry, valuation analysis by subsector and rankings based on value creation.