Insurance remains a black hole for local investors after last week.
And after remarks by the smartest man in world insurance, finance and business at the weekend, the hole has just become even blacker and wider.
Last week the biggest local insurer, QBE did well, although second half earnings growth slowed, and the shares tanked on Monday. Suncorp, the country’s biggest general insurer revealed lower overall earnings from its banking and insurance businesses, but the lower profit was dragged down by $280 million in losses on insurance.
Its $7.9 billion takeover of Promina with its QBE, Vero and Shannons insurance brands is looking pretty poor.
On Friday Insurance Australia Group was battered by the same problems, storms here, poor returns on investments because of the credit crunch and subprime mortgage mess, with the added bonus of bad weather and big losses in the UK where it is trying to build its presence, like QBE.
IAG was down 19c, or 5%per cent, at $3.58 in a broadly negative market yesterday, QBE was off $1.37 (6%) at $21.20 and Suncorp shed 3% or 41c to $13.50.
They were the lowest prices for several years in each case.
IAG claims soared by $200 million to $326 million, and that cut interim earnings to the end of December by 66% to just $110 million.
IAG, which owns the NRMA Insurance and CGU brands, actually made an underwriting loss of $7 million higher premium income, driven in part by the move into Britain.
IAG shareholders were reassured by the decision to hold its interim dividend at 13.5c a share, although IAG can only do so by dipping into its reserves as its profits no longer cover the payout. That’s the same at Suncorp where the steady 52c a share dividend can’t be met by after tax earnings. Both companies are now pushing their dividend reinvestment plans.
Yesterday a number of brokers downgraded their full year earnings forecasts for IAG.
Merrill Lynch lowered its fiscal 2008 full year earnings per share (EPS) forecast for IAG by 9% and Goldman Sachs lowered its EPS forecast by 12%.
A worry is that while IAG maintained interim dividend it wouldn’t commit to maintaining its full year dividend. It also said that it would reduce reserve releases; something some analysts wonder if Suncorp can keep doing (around $11 million was released in the December half for SUN).
But the most telling comment on the outlook from insurance came on the weekend from Warren Buffett and his Berkshire Hathaway company, which is the largest integrated insurance group in the world.
It is an underwriter and it is a reinsurer and it’s very profitable and successful.
In his now famous annual letter to shareholders, Buffett warned Berkshire shareholders that the good times were over in insurance.
"Finally, our insurance business – the cornerstone of Berkshire – had an excellent year. Part of the reason is that we have the best collection of insurance managers in the business – more about them later. But we also were very lucky in 2007, the second year in a row free of major insured catastrophes.
"That party is over. It’s a certainty that insurance-industry profit margins, including ours, will fall significantly in 2008. Prices are down, and exposures inexorably rise.
"Even if the U.S. has its third consecutive catastrophe-light year, industry profit margins will probably shrink by four percentage points or so. If the winds roar or the earth trembles, results could be far worse. So be prepared for lower insurance earnings during the next few years."
Buffett’s huge insurance business is already feeling the impact of the slowdown in insurance and the credit crunch.
Fourth-quarter underwriting profit from Berkshire’s insurance business fell 46% to $US465 million led by declines at its Geico car insurance business in the US and in its various reinsurance companies.
US business insurance rates slid 12% according to industry estimates last month, while prices for reinsurance, which is coverage for insurance companies, dropped as much as 15% in the January renewal season, according to leading broker, Willis Group Holdings.
That’s normally good for the likes of IAG and Suncorp, but because they have accessed their reinsurance in the past year to put a cap on their Australian storm claims, and are doing so (or have already done so in the case of Suncorp), the gains from falling reinsurance premiums will not be great.
And, with QBE building up its reinsurance business, the drop in rates won’t be helpful either.
Buffett’s message is one you won’t read in the statements of IAG, Suncorp Metway, QBE or Wesfarmers (which owns another major Australian insurer), nor in any of the reports from broking and investment bank analysts. It’s too realistic for them to cope with.
QBE however was far more realistic than either IAG or Suncorp because of its world view.
Here’s what QBE forecast for 2008: "A continued appreciation of the Australian dollar against the US dollar, sterling and other currencies will offset a large part of our growth from our various initiatives. In addition to exchange rates, we are also currently estimating that premium rates will reduce by an overall average of 4%.
"Gross investment yield of 6.3% in 2007; low risk strategy maintained compared to a target of 5.5% (5.2% in 2005).
"The 2008 gross investment yield is likely to be adversely impacted by the lower yields on our substantial US investments; however, we expect Australian and Euro interest yields to be slightly higher which allows us to target a yield of around 5.5% for 2008. This includes a 5% capital appreciation on equities.
"The gross investment yield was 6.3% compared with 5.2% last year. In line with our absolute return criteria, we took the opportunity to hedge the substantial majority of our
