Comparing America's 3 Largest Property And Casualty Insurance Companies

Includes: ACE, AIG, TRV
by: Joseph Cafariello


The Property & Casualty Insurance industry is expected to underperform the S&P broader market substantially this and next quarters, significantly in 2015, and negligibly beyond.

Mean/high targets for the 3 largest U.S. Property & Casualty Insurance companies – American International Group, ACE Limited, Travelers Companies - range from 4% below to 25% above current prices.

Find out which among AIG, ACE and Travelers offers the best stock performance and investment value.

* All data are as of mid-day Friday, December 12, 2014. Emphasis is on company fundamentals and financial data rather than commentary.

To keep this comparison restricted to the main theme of Property & Casualty Insurance, I've decided to bypass the largest U.S. company in the industry, Berkshire Hathaway Inc. (NYSE: BRK.A). Although Berkshire is categorized in this industry, the company is something of a conglomerate whose sphere of influence extends well beyond the Property & Casualty Insurance arena, given its stakes in such diverse companies as Coca Cola (NYSE:KO), Wells Fargo (NYSE:WFC), Heinz (HNZ), Dairy Queen, Jordan's Furniture, and more, in addition to actual insurance companies such as Geico, Applied Underwriters, and others. I am thus selecting the next largest U.S. companies which are much more wholly concentrated in this industry as the contestants for this competition.

The Property & Casualty Insurance industry is one that has been disproportionately skewed when a single event of government intervention un-levelled the playing field. Simply put, the government played favorites, in a sense, by awarded one company in particular - American International Group, Inc. (NYSE: AIG) - a very nice rescue package which ultimately gave it an edge over its competitors, as the graphs below indicate.

It all started in the early 2000s, when AIG had over the course of time insured "collateralized debt obligations," debts which were backed by home mortgages issued by numerous banks and mortgage lending firms across America.

Unfortunately, these mortgages which were serving as collateral were high risk "sub-prime" mortgages given to home buyers with below-prime credit. AIG had insured as much as $57.8 billion worth of debt obligations backed by these risky sub-prime loans.

When the interest rates of thousands of sub-prime mortgages started rising from 2006-07, a vast number of sub-prime home owners found they were unable to afford their higher mortgage payments. One by one, sub-prime home owners all across America began defaulting on their mortgages, unleashing a devastating housing crisis that we have still not fully recovered from.

But the consequences of these failing mortgages didn't just stop with the home owners or the banks that had issued their loans. A long chain of dominoes started falling all the way down the line of creditors and insurers like AIG who had guaranteed debt securities backed by these now defaulting sub-prime home mortgages. AIG and many other insurers were left holding a bag with a gaping hole in the bottom - the contents of which they were now responsible for as insurers.

In the heat of the 2008 crisis, the U.S. Federal Reserve stepped in with a hefty bail-out package for AIG that ultimately topped $180 billion, saving the largest insurer in America from certain bankruptcy. It was just too big to allow to fail, as its collapse would have set in motion an even greater number of domino chains extending from it straight across America's financial landscape.

Of course, the money was ultimately paid back in full to the U.S. government, with interest/dividends. In fact, the government even made a little bonus money from the sale of AIG shares it had received as part of the bailout conditions, which shares had soared in value post-crisis.

And they have continued to soar. Since the economic recovery began in March of 2009, where the broader market S&P 500 index [black] has gained 200% and the SPDR Financial Sector ETF (NYSE: XLF) [blue] has gained 290%, AIG's stock [beige] has soared an astounding 840%. Meanwhile, its two closest competitors - ACE Limited (NYSE: ACE) [purple] and The Travelers Companies, Inc. (NYSE: TRV) [orange] - have gained only 260% and 210% respectively.


Might ACE and Travelers be calling foul on AIG's bailout? Though they haven't done so officially, I would suspect they're likely a little perturbed at the nice boost AIG received from Daddy Government's deep pockets. Especially when you consider that AIG brought its troubles upon itself, which ACE and Travelers were clever enough to avoid.

In fact, during the thick of the financial crisis from mid 2007 to early 2009 as graphed below, where the S&P had fallen 56% and the XLF had fallen 83%, both ACE and Travelers had managed to steer their ships pretty nicely through the fog, falling a mere 48% and 37% respectively, while AIG was as good as sunk.


Clearly ACE and Travelers had out-managed AIG in a game of fair play. And yet as it turned out, this was one of those cases in which the one who should have lost ended up winning, as AIG's stock has vastly outperformed the others since then. As an ancient writer once put it, "the race doesn't always go to the swift, nor the battle to the mighty, nor food to the wise, nor wealth to the intelligent."

Just don't expect any companies in the Property & Casualty Insurance industry - including AIG - to have such an easy go of it moving forward, as the industry and its companies are expected to take on water, as tabled below where green indicates outperformance while yellow denotes underperformance.

Over the current and next quarters, the industry as a whole is expected to grossly underperform the S&P's average earnings with atrocious earnings shrinkage near 100%.

2015 looks a little more promising, with further recovery over the next five years, though still on the downside of the market's growth rate.

Zooming-in a little closer, the three largest U.S. companies in the space (after Big Berkie), are likewise expected to under-grow the market's earnings, with pervasive shrinkage.

Over the immediate term, all three are expected to shrink their earnings from 6 to 8%, with Travelers continuing to shrink and ACE stagnating next quarter, with still more shrinkage awaiting both of them in 2015.

Over the longer term, AIG mounts a come back as the only one of the three companies to actually beat the broader market's earnings growth rate over the next five years, but even then only negligibly.

Yet there is more than earnings growth to consider when sizing up a company as a potential investment. How do the three compare against one another in other metrics, and which makes the best investment?

Let's answer that by comparing their company fundamentals using the following format: a) financial comparisons, b) estimates and analyst recommendations, and c) rankings with accompanying data table. As we compare each metric, the best performing company will be shaded green while the worst performing will be shaded yellow, which will later be tallied for the final ranking.

A) Financial Comparisons

Market Capitalization: While company size does not necessarily imply an advantage and is thus not ranked, it is important as a denominator against which other financial data will be compared for ranking.

Growth: Since revenues and expenses can vary greatly from one season to another, growth is measured on a year-over-year quarterly basis, where Q1 of this year is compared to Q1 of the previous year, for example.

In the most recently reported quarter, Travelers delivered the greatest revenue and earnings growth year-over-year, where ACE delivered the least, even earnings shrinkage.

Profitability: A company's margins are important in determining how much profit the company generates from its sales. Operating margin indicates the percentage earned after operating costs, such as labor, materials, and overhead. Profit margin indicates the profit left over after operating costs plus all other costs, including debt, interest, taxes and depreciation.

Of our three contestants, ACE operated with the widest profit and operating margins, while Travelers and AIG split the narrowest margins between them.

Management Effectiveness: Shareholders are keenly interested in management's ability to do more with what has been given to it. Management's effectiveness is measured by the returns generated from the assets under its control, and from the equity invested into the company by shareholders.

For their managerial performance, Travelers' management team delivered the greatest returns on assets and equity, where AIG's team delivered the least.

Earnings Per Share: Of all the metrics measuring a company's income, earnings per share is probably the most meaningful to shareholders, as this represents the value that the company is adding to each share outstanding. Since the number of shares outstanding varies from company to company, I prefer to convert EPS into a percentage of the current stock price to better determine where an investment could gain the most value.

Of the three companies here compared, AIG provides common stock holders with the greatest diluted earnings per share gain as a percentage of its current share price, while ACE's DEPS over current stock price is lowest.

Share Price Value: Even if a company outperforms its peers on all the above metrics, however, investors may still shy away from its stock if its price is already trading too high. This is where the stock price relative to forward earnings and company book value come under scrutiny, as well as the stock price relative to earnings relative to earnings growth, known as the PEG ratio. Lower ratios indicate the stock price is currently trading at a cheaper price than its peers, and might thus be a bargain.

Among our three combatants, AIG's stock is cheapest relative to forward earnings, company book value and 5-year PEG. At the overpriced end of the scale, ACE is the most overvalued relative to earnings and PEG, where Travelers' is the most overpriced relative to company book.

B) Estimates and Analyst Recommendations

Of course, no matter how skilled we perceive ourselves to be at gauging a stock's prospects as an investment, we'd be wise to at least consider what professional analysts and the companies themselves are projecting - including estimated future earnings per share and the growth rate of those earnings, stock price targets, and buy/sell recommendations.

Earnings Estimates: To properly compare estimated future earnings per share across multiple companies, we would need to convert them into a percentage of their stocks' current prices.

Of our three specimens, Travelers offers the highest percentages of earnings over current stock price for the nearest two quarters, where AIG offers them in 2015. At the low end of the scale ACE offers the lowest percentages for all time periods.

Earnings Growth: For long-term investors this metric is one of the most important to consider, as it denotes the percentage by which earnings are expected to grow or shrink as compared to earnings from corresponding periods a year prior.

For earnings growth, AIG offers the greatest earnings growth overall, where Travelers offers the least growth overall. Yet there is plenty of earnings growth shrinkage to go around for all three.

Price Targets: Like earnings estimates above, a company's stock price targets must also be converted into a percentage of its current price to properly compare multiple companies.

For their high, mean and low price targets over the coming 12 months, analysts believe AIG's stock offers the greatest upside potential and least downside risk, while Travelers' stock offers the least upside and greatest downside.

It must be noted, however, that AIG's stock is already trading below its low target. While this may mean an increased potential for a sharp move upward, it may warrant a reassessment of future expectations.

Buy/Sell Recommendations: After all is said and done, perhaps the one gauge that sums it all up are analyst recommendations. These have been converted into the percentage of analysts recommending each level. However, I factor only the strong buy and buy recommendations into the ranking. Hold, underperform and sell recommendations are not ranked since they are determined after determining the winners of the strong buy and buy categories, and would only be negating those winners of their duly earned titles.

Of our three contenders, ACE is best recommended with 4 strong buys and 12 buys representing a combined 64% of its 25 analysts, followed by AIG with 6 strong buy and 8 buy ratings representing 56% of its 25 analysts, and lastly by Travelers with 4 strong buy and 4 buy recommendations representing 29.62% of its 27 analysts.

C) Rankings

Having crunched all the numbers and compared all the projections, the time has come to tally up the wins and losses and rank our three competitors against one another.

In the table below you will find all of the data considered above plus a few others not reviewed. Here is where using a company's market cap as a denominator comes into play, as much of the data in the table has been converted into a percentage of market cap for a fair comparison.

The first and last placed companies are shaded. We then add together each company's finishes to determine its overall ranking, with first place finishes counting as merits while last place finishes count as demerits.

And the winner is… AIG still riding on the impetus of the Fed's helping push, outperforming in 18 metrics and underperforming in 5 for a net score of +13, followed very far behind by Travelers, outperforming in 9 metrics and underperforming in 12 for a net score of -3, with ACE struggling to keep its balance on a tilted field, outperforming in 4 metrics and underperforming in 14 for a net score of -10.

Where the Property & Casualty Insurance industry is expected to underperform the S&P broader market substantially this and next quarters, significantly in 2015, and negligibly beyond, the three largest U.S. companies wholly devoted to the space are all expected to struggle with earnings growth shrinkage near term and underperformance longer term, with AIG ultimately managing to give the broader market a run for its earnings.

After taking all company fundamentals into account, American International Group ensures the more secure investment given its lowest stock price ratios, highest cash and revenue over market cap, highest current ratio, highest EBITDA over market cap and revenue, highest diluted earnings over current stock price, highest 2015 earnings over current stock price, highest future earnings growth overall, best price targets, and most analyst strong buy recommendations - decisively winning the Property & Casualty Insurance industry competition.