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investorpoet2 (81.25)

Caps and Circles of Competence

Recs

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September 18, 2009 – Comments (5) | RELATED TICKERS: AIZ , BRK-A , MKL

Every once in a while, an investor comes across a stock that really excites them. I had such an experience today while browsing my "Stock of the Day" box.

The stock that inspired such a reaction is Assurant, Inc. (AIZ), a specialty insurer that is quite the value proposition today. Insurance companies are well within my circle of competence, having worked at one to start my career and worked with insurance investments, principally commercial mortgage loans, for almost all of my career.

Insurance companies are relatively easy to value. Traditionally they trade at some multiple of book value, depending on the perceived risks to their stability. Book value growth has two main drivers: 1) underwriting profits (as expressed by combined ratio) and 2) investment returns (coming from all that invested float).

Disciplined underwriting and strong investment skills are what has propelled book value and share price growth for companies like Berkshire Hathaway (BRK-A) and Markel (MKL). This brings us back to Assurant.

Assurant has produced very strong and stable underwriting profits and has a conservative, fixed-income portfolio of investments. Combined, these two growth engines have produced returns on equity of over 15%. In the past, the market has rewarded this growth with a multiple to book of about 1.75x. Today, shares closed just shy of $32 per share, while book value as of last quarter was $37 per share. If Assurant were priced at their historical 1.75x book, they would be valued at about $65 per share. A double from here.

Looking at these numbers, it's easy to see why an investor would get excited about prospects for this company. I have often ignored my "Stocks of the Day" as supplied by Caps, but today it served as a useful tool providing me a base for further research.

Disclosure: No position in Assurant. I do hold shares of Markel and Berkshire Hathaway.

5 Comments – Post Your Own

#1) On September 18, 2009 at 6:00 PM, TMFJake (96.71) wrote:

Great post.  This type of activity/analysis is what we hoped Stock of the Day would generate.  Have a great weekend!

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#2) On September 18, 2009 at 6:35 PM, streetflame (99.81) wrote:

Good post.  Any thoughts on Validus Re (VR)? I think it looks like one of the best values in insurance (along with Berkshire).

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#3) On September 18, 2009 at 9:40 PM, investorpoet2 (81.25) wrote:

streetflame,

I'm somewhat drawn to companies like Validus Re or Montpelier RE, but two things make me stay away: 1) What I know, 2) What I don't.

What I know is that they take all their risk on the underwriting side, so their limited in their investment returns. Everything depends on their underwriting.

What I don't know is how good their underwriting is, and I won't know until it's too late. Maybe I'm misunderstanding their book of business on my cursory glance, but I'd hate to have a catastrophe (a la Katrina) wipe out a big chunk of book value. Also, big purchases may cloud the underwriting picture in the future.

Just my $0.02.

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#4) On September 20, 2009 at 9:19 PM, UltraContrarian (99.79) wrote:

Good point.  However you can turn that around and say reinsurers are a good balance to a portfolio, since they don't take big investment risks, so they are less correlated than other stocks.

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#5) On September 26, 2009 at 9:30 AM, slbutton (99.80) wrote:

Well, over a sufficently long period of time, an insurer's combined ratio should give you a reasonably good picture of how profitable their underwriting is. It's no indicator of their vulnerability to extraordinary events, but the nature of investing in an insurer is playing the odds. 

 

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