Europe’s insurance sector has a tough time ahead, according to analysts at Barclays.
But despite turning more negative overall, they are more upbeat on the prospects for Prudential, up 34p at £16.46, and Aviva, steady at 523p. Barclays said:
We downgrade the European insurance sector to negative [from neutral] to reflect the significant and growing capital and earnings headwinds facing the sector, particularly parts of the life sector. These challenges are primarily a result of low interest rates, but the new Solvency 2 rules – which have been eased the past few years to ensure no major industry casualties – remain a near-term threat and potentially a mid-term drag. In addition, property and casualty underwriting returns (both primary and reinsurance) are stalling, and growth is elusive.
Despite this backdrop, the sector has outperformed the EuroSTOXX in each of the past 3 years (71% since January 2012). While PEs and price to book ratios are in line with historical discounts to the wider European equity markets, both the ‘E’ and the ‘B’ are inflated and we believe the sector is trading at all-time relative highs, despite fundamentals heading into all-time lows. We believe this strong sentiment shift was driven by the growing payout ratios and strong dividend growth.
But earnings and solvency headwinds should combine to stall or even shrink dividends, reducing this key support. We therefore steer clear of the unpredictable risks associated with interest rate guarantees, and maintain a preference for UK Life names (Pru and Aviva both overweight) and property and casualty markets where we see solid balance sheets and relative underwriting margin stability (Sampo and Zurich (both overweight).
On Prudential specifically, the Barclays analysts said:
We see Prudential continuing to grow earnings at 12% compound annual growth rate and cash remittance at 15% compound annual growth rate over the next 5 years, buoyed by Asian growth and an increasingly cash generative US business. At 14 time s our 2015 earnings per share estimate, we see Prudential as offering strong, quality growth at a very reasonable price.
And on Aviva:
We believe the acquisition of Friends Life transforms Aviva’s balance sheet, which is crucial in the Solvency 2 transition year. We also think the acquisition of Friends transforms Aviva’s cash generation, and makes the stock into a very attractive dividend stock in a market searching for yield.
