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By Simon Lack

CNA Financial (NYSE:CNA) is a property and casualty insurer 90% owned by the Loews Corporation (NYSE:L) (run by the Tisch family). We’ve long been intrigued at the prospect of investing alongside Loews; insurance companies take on long-tailed risk in many of the lines of business they write, and in the near term you rely on them to maintain their underwriting standards while it may take a year or two before more aggressive pricing shows up in a higher combined ratio (claims plus expenses as a percentage of premiums earned). The principal-agent problem always presents some risk at more aggressive pricing in order to generate current income, and since CNA is virtually privately held we believe there’s less risk of that.

CNA recently ceded all their remaining asbestos and environmental pollution risk to a subsidiary of Berkshire Hathaway (NYSE:BRK.A) in exchange for $2BN, which will reduce their 3Q profits by $375MM after-tax. However, it does remove an important element of uncertainty from their book of written insurance. CNA Commercial had a combined ratio of 103.9% during the first half of this year on $1,613BN in premiums earned (about half their business) while the combined ratio on CNA Specialty was 85.7%, both improvements on last year. At the end of 2009 they reported a statutory capital surplus of $9.3BN.

The $43BN investment portfolio is largely in bonds, with only $549MM in equities and $2,059MM in limited partnerships, which generated 2.6% in investment income during the first six months of 2010. Their biggest holdings ($21BN) are in corporate bonds, with another $8BN in residential and commercial mortgages. In 2008 they issued $1.25BN in preferred stock to Loews (subsequently redeeming $250MM) to shore up their balance sheet. While the 10% dividend on this is high and there’s apparently little prospect of it being repaid, it illustrates the benefits of having a deep-pocketed owner.

Their common equity on their balance sheet is valued at $10.9BN, although we adjust this for $390MM in unrealized gains on their held to maturity bonds (listed in all other comprehensive income) since as these bonds mature this gain will convert into investment income. But the stock’s market cap is $7.47BN so the company trades at a 29% discount to adjusted book value.

Name

Ticker

Market Cap (BN)

2011 P/E

P/B

CNA Financial

CNA

$7.5

9.8

0.71

American Financial Group

AFG

$3.3

8.2

0.77

Chubb Corp

CB

$18.0

10.2

1.16

Travellers Corp

TRV

$24.7

9.1

0.94

Hardtford Fin’l Svces

HIG

$10.0

6.2

0.56

Allstate

ALL

$16.4

7.4

0.91

Disclosure: Long CNA

Source: CNA Financial: Invest Alongside the Tisch Family