I first discovered Aspen Insurance Holdings (AHL) from an investment I had made in Greenlight Capital (GLRE) in June. David Einhorn, the famous value investor and poker champ, owned 5% of the company and I was initially engaged by the low price to book ratio and solid long term growth in net asset value.
Aspen recently sold off from a price nearing 75% of book value back to its perch at 66% of book value after earning nearly $100MM in the latest quarter. Aspen earned over $400MM last year and trades for just $2.2BN in market cap. The book value of $3.4BN has grown at around 12% per year or so over the past two years and the company has faced some large, potentially catastrophic, losses in drilling, earthquakes and other disasters, and a lagging American operation.
At first, I looked deeper into the lagging American segment and thought further about the problem. "If their U.S. business is slow and unprofitable, most of this company's earnings must come in currencies other than dollars." At this point in my analysis, I realized AHL was a good deal at a 34% discount to book when the book is growing at a market beating clip and earning that money in foreign currencies.
AHL is a long term investment. It may drop 30% but I will buy more unless the story changes and new risks emerge that make the stock "cheap for a reason."
One reason that I believe AHL is undervalued is the relatively low debt to equity ratio at the company. Reinsurance firms generally take on less leverage than a Life Insurance business, for example, mainly because the scope of potential losses is much less defined. Reinsurance can lead to choppy earnings. One way to value a business with choppy earnings is to average the past five years of earnings to get an accurate PE ratio for the firm. AHL trades at around 8X earnings or so in my estimate, which is not screamingly cheap but is relatively attractive given the strong history of earnings and growth and the deep discount to book. I would expect AHL to earn a combined ratio of between 95-99% going forward.
Some risks to AHL include:
- A massive catastrophe loss.
- Insiders decide to "Take Under" AHL at a price below book value
- An unforeseen risk arises
- Bermuda based location -- presents its own accounting, macro, political, and sovereign risk
- Reinsurance is a notoriously risky line of insurance underwriting
All in all, I feel that AHL is deeply undervalued and will go much higher in the next few years as long as the company maintains current profitability. I am a holder of the March $20 call options and will exercise the call options at expiration. I am also long some stock with the June $30 call sold against the position for some income and downside protection. Remember, AHL pays a 2% dividend, so investors should factor in the loss of income when considering buying call options. All in all, I like the risk reward and the low premium on the call options versus a covered call or outright long in AHL.
Disclosure: Long AHL and AHL Calls