The Property/Casualty Industry faced its fair share of trials and tribulations during 2011. The sector’s performance was hard hit, as its constituents suffered earnings declines due to Hurricane Irene and Tropical Storm Lee. In addition, catastrophe losses surged, with weather patterns exhibiting uncharacteristically volatile shifts. Most notably, devastating storm activity across a broad swath of the eastern and central portions of the United States, including earthquakes, hail, floods, mudslides, and tornadoes, all of which contributed to lower profits. What’s more, many companies, namely ACE Limited (ACE), Alleghany Corporation (Y), Erie Indemnity Company (ERIE), Hanover Insurance Group, Inc. (THG), and Markel Corporation (MKL), shifted investment philosophies following the financial crisis of the mid-2000’s. These insurers placed the bulk of their respective capital into fixed-income securities, due to their conservative bent. However, since interest rates continue to hover around historic lows, investment yields remain muted, reducing a large source of income for insurance companies.
That said, it appears the property/casualty industry is poised to regain some steam in 2012. Fundamentals throughout the broader market seem to have started turning positive. Excess underwriting capacity present in the marketplace has dwindled, thanks in large part to the aforementioned weather-related activities. Areas hardest-hit by recent catastrophes should see sharp price increases during the upcoming policy renewal season. Furthermore, rate increases coupled with improved policy retention rates, ought to spur solid gains in net premiums earned over the coming year. These factors, combined with elevated policy renewal rates, should help keep expenses in check and bolster the bottom line. In addition, investment yields ought to begin trending higher as well, since equity markets have perked up in recent quarters. Too, a large portion of the increased gains should stem from higher asset bases, reflecting growth in net premiums earned.
Although weather systems are difficult to predict, especially so far in advance, professional forecasters have called for a more-normalized level of natural catastrophes in 2012. This should enable the combined ratio for most insurers to fall below 100, which signals an underwriting profit. Meanwhile, stringent cost control and enhanced efficiency will likely remain at the forefront in this sector going forward.
Looking further out, a host of companies in the property and casualty sector offer decent total return potential, but investors should remain focused on those that have a solid balance sheet and good dividend payout. One key aspect for potential investors might be the reserve-to-anticipated loss ratio. A ratio of 2.5-to-1 represents a healthy financial cushion. Assuming the overall economy continues to display signs of growth and interest rates begin to slowly perk up, this economically sensitive sector ought to become much more attractive to investors.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.