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Rising Yields: Bet on Life Insurance Companies
Posted by: Fede Zaldua (IP Logged)
Date: January 2, 2014 05:12PM

Generally speaking, life insurance companies have the sixth highest dividend yield of any sector and, unlike other high yielding sectors (think telecoms), they count on a high dividend cover and a low payout ratio. With interest rates poised to raise in 2014, this could be a good moment to start looking at life insurance companies a possible investment idea — higher bond yields and steeper yield curves are a positive for life companies.

Besides, life insurance companies trade at similar multiples of book value to banks but, on average, they offer superior returns on equity as well as lower regulatory, political and taxation risks. On top of all what was just mentioned, earnings revisions remain very strong but overall analyst's sentiment towards the sector is not yet as positive as It should be expected. Here I take a look at Metlife (MET), which one of the many American insurance companies that should largely benefit from rising bond yields into 2014.

Overall Business Trends Look Healthy for Metlife

Excluding one-time restructuring charges, Metlife, which is held by Ray Dalio and Lee Ainslie, has had a fairly good operational year in 2013. What's even more relevant, taking off restructuring charges, Metlife's guidance implies about $5.90 of operating EPS for the coming year. On a segment level, the company expects good results in corporate funding, Latam, and retail P&C to more than offset weak results in annuities and Asia.

Whats key for our investment thesis is the company's ameliorated free cash flow (FCF) generation outlook into 2015 and beyond, which we should expect to come at 45% to 55% — about 10% above previous expectations despite continued headwinds in Japan's business cash flow.


Taking into account other strong insurance peers such as Aflac (AFL), which is held by George Soros, I believe Metlife's price is fair but does not reflect how much the company might benefit from higher yields and a steeper yield curve. Metlife now sells for 9.3 times 2014 earnings and 1x the company's book value. The key point here is to understand that a rising and steeper yield curve should boost Metlife's returns on equity from the current 11%. Hence, the company would be able to increase its already fair 2% cash dividend yield. On the other hand, Aflac sells for 10.3 times 2014 earnings and 3x the company's book value. Of course Aflac's returns on equity are much higher at 28% but Metlife's scope for increased leverage is much higher at this point. Even when I like Aflac's plan to return capital to its shareholders through increasing its 2014 buyback plan to $1 billion versus the company's prior guidance of $600 million to $900 million, I would bet for Metlife's shares; I think the company has more to gain from a steeper yield curve.

Bottom Line

The best investments are usually made on companies that are cheap from a fundamental point of view at the time when they are poised to benefit from macro related trends. A few days ago, the U.S. Federal Reserve took the very much awaited decision to start “tappering” and, as a result, a few thing should happen in the coming years: (1) a stronger U.S. dollar and (2) a steeper yield curve. Most life insurance companies will largely benefit from a steeper curve and Metlife looks fairly valued. Hence, it might be time to start taking a look into the company.

Guru Discussed: George Soros: Current Portfolio, Stock Picks
Lee Ainslie: Current Portfolio, Stock Picks
Stocks Discussed: MET, AFL,
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