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So far in June, the market-weighted performance of our selection of P&C stocks – the Inside P&C Select – is -9.8%, barely beating out the S&P 500 at -10%. Every insurance sub-sector saw stock price declines this month, with Floridians losing the least, followed by specialty insurers and reinsurers, while InsurTechs fell the most.
2008. We vividly remember the brutal stock market meltdown of 2008. It still feels like yesterday when the contagion spread amongst different sectors, including insurance stocks, initially thought of as safe-haven plays.
We still have screenshots of our FactSet screens all in red while the market kept finding a new bottom. As equity analysts at that time, it became a fight every day. But, yes, eventually, the bleeding did stop, and we emerged from the mortgage crisis.
Unfortunately, many retail and institutional investors did not emerge from it unscathed. It wouldn’t be an overstatement to say that those who lived through the mortgage crisis and those who came after might have differing investment approaches.
The past few weeks, with the market whipsawing and setting new lows, is bringing back bad memories of 2008 and those red FactSet screens. However, many factors that triggered that crisis seem not to be in play this time around.
Stock returns have been impacted by several significant outside factors, including recession fears, persistent inflation, and a global energy crisis, which have superseded some concerns of prior months, such as the war in Ukraine or Covid.
Inflation has continued unabated through the spring, with a May CPI increase of 8.6% annually, reaccelerating after an earlier cool-down and the highest level since the Reagan administration.
We are not Fed policy commentators, so we will refrain from opining on the pace of interest changes, but having lived through a few cycles, it seems we are caught between a rock and a hard place.
To combat inflation, the Federal Reserve raised interest rates by 0.75% last week, the most significant rate increase since 1994, and announced that it expects another 0.75% interest rate hike in July. The more-aggressive-than-expected increases by the Federal Reserve sparked fears of an impending recession.
US Q1 2022 GDP fell by 1.5%, the first negative-growth quarter since the Covid-impacted Q1 and Q2 2020. The yield curve inverted again last week, and to top this, bonds and equities moved in the same direction, breaking the traditional inverse relationship. This development has resulted in the stock market appearing rudderless, figuring out if the next set of data would be good or bad.
But how does this impact insurance stocks? Our recent note discussed the insurance industry’s relationship with the overall economy and found that industry price to book has a slight inverse correlation with yield curve inversions, and GDP drops do not always lead to insurance ROE declines. But while that may shield the industry from some impacts of a pessimistic market, the report below illustrates that insurance stocks have still felt some pain.
Taking a step back, yes, insurance would not be immune from the contagion. But the insurance space is a collection of different sub-segments that often have independent cycles. The discussion below delves into these subsegments.
Large commercial insurers were down 11.3% in the last month and are down 4.2% YTD. Recession fears have affected commercial lines’ stock performances, as the sector fell in line with the S&P 500, down 11.3% for the past month. Our recent piece on inflation and interest rates noted that downward GDP pressure would likely have more impact on commercial carriers than other sectors due to the sector’s payroll-dependent premiums.
Personal lines carriers were down 9.6% in the last month and up 3.3% so far in 2022. Personal auto carriers have faced worsening loss cost trends but are one of only two sectors (along with specialty lines) to have sustained positive stock price growth year to date in 2022. Yes, personal auto has faced headwinds from changing loss cost trends. But on the other end, the short-tail nature of the product gives carriers the ability to continue to tweak their pricing.
Reinsurers were down 8.1% this past month and down 5.6% YTD. As ongoing catastrophe losses compound, reinsurers have adopted different strategies to rebalance the risk/reward metrics, rethinking their exposures, or even exiting from the cat market entirely. With the easy money of yesteryears competed away by new entrants, a reinsurance-heavy strategy no longer makes sense. Our recent note on Axis Capital’s decision to discontinue its property reinsurance book noted that facing a shift in risk-reward and investor perception, the firm may be making this move at the right time.
InsurTechs were again the worst performers, down 24.3% in the past month. InsurTech firms, being more growth-oriented than other sectors, sometimes rely on stock prices to validate investors’ belief in a company’s business model or product. Given the poor performance of InsurTechs over the past few months and the sector’s vulnerability to market instability, firms must look elsewhere to demonstrate viability to investors.
Our note on Lemonade’s GiveBack program, which the company holds up as a differentiator against other insurance firms, noted that the good publicity failed to alleviate the firm’s selection challenges. Similarly, our recent note on Root’s Carvana partnership detailed the dangers of relying on a non-insurance partner to grow market share. The worst might not be over for this cohort as cash burns continue, and one of the likely outcomes would be lifelines from large established insurers.
Brokers were down 9.5% in the past month and down 17.3% YTD. As broader insurance pricing rolls over, brokers have experienced a stock price selloff. Brokers generally outperform the rest of the P&C industry, and the sector previously experienced better-than-expected results amid a sustained uptick in pricing, an economic recovery, and a heightened appreciation of risk, which we dubbed the super-cycle. Usually, brokers are the first movers when the insurance pricing cycle turns, so that the broker sell-off could be an early signal of a cycle turn.
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