The recent rise in long-term interest rates has been good for life insurance stocks, which remain undervalued, according to a market analyst with Sterne Agee.
“Overwhelmingly we find investors more positive on the outlook for life insurance stocks, primarily as a result of the recent move higher long-term rates and investor views that long-term rates are far more likely to move higher still from current levels,” Sterne Agee Analyst John Nadel wrote in July 17 report. “Clearly this is positive for life insurers, as it both reduces the risk of further balance sheet related ‘impairments’ (DAC, goodwill, reserves, etc.) and, over time, reduces the headwind on spread-based earnings.
“At our Insurance Idea Dinner [on July 16], investors were clearly more positive on the outlook for life insurance stocks despite the roughly 40 percent [year-to-date] performance for our group, particularly on a relative basis versus other financial sub-sectors (most notably P&C underwriters and reinsurers) as well as regional banks,” he added.
In support of his positive assessment, Nadel observes that life insurance stock valuations are low relative to those of prior years. So investors would to do well to maintain “exposure” to the sector. He added that whereas investment “specialists” (among them hedge funds) are reducing exposure to the industry, “macro/generalists” are buying insurance stocks. He cautioned, however, of Federal Reserve policy decisions on life insurance stocks.
“We wonder how strong the hands will be if [Federal Reserve Chairman Ben] Bernanke convinces more investors that long-term rates have moved too high already and economic conditions (inflation, housing/refi activity, recent retail sales, etc.) provide sufficient justification to postpone tapering,” he wrote. “Unfortunately, in our view, returns generated in the life sector are likely to remain primarily beta-driven, based upon getting the macro call more right than wrong." “[MetLife and Prudential Financial] remain undervalued, in our view, and we remind investors both may have significant capital deployment opportunities in pension closeouts with funding gaps declining (a potential 2H13 catalyst),” he added.