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Dow-30 Earnings: The Travelers Companies – Second Quarter 2013
Property/Casualty (P/C) insurance behemoth Travelers (TRV - Free Travelers Stock Report) announced solid results for the June quarter of 2013. Specifically, earnings from operations, which exclude capital gains and losses from the investment portfolio, came in at $2.13, a 69% increase from the year-earlier tally, and markedly better than our initial estimate of $1.70. What drove the earnings advance at Travelers? For one, catastrophes (weather-related events that cause at least $25 million in damages), fell from $549 million, to $340 million, net of reinsurance. This resulted in a combined ratio of 94.3% for the interim, a 6.2% improvement over 2012's tally. This implies that the company generated $5.70 in pretax profits for every $100 in policies insured. Favorable tax and legal settlements were also a plus for the period. On the other hand, net investment income was constrained by lower reinvestment rates during the quarter.
As a result of the recent news, we have upped our share-earnings forecast for 2013. We now look for earnings per share of $8.05, a $0.45 increment from our prior view. We have left our 2014 share-net estimate intact at $7.75. Net premiums earned might well decrease slightly this year before climbing moderately in 2014. We expect Travelers to post rate increases across most product lines over the next 12 to 18 months, as capacity conditions in the broader P/C market have strengthened. However, we believe that management will continue to be selective in the new business that it undertakes, with attention on margins (pricing along with policy terms & conditions) rather than ``writing business at any cost''. The latter was the primary cause of the prolonged downturn in the P/C insurance market during the late 1990s into the early 2000s.
The combined ratio has been quite profitable in recent periods, largely thanks to a low level of catastrophes. However, we believe that this abnormally low level of weather-related catastrophes is unsustainable longer term. Hence, we look for a slightly higher (less profitable) combined ratio next year. Another item that should be noted is investment income per share. Insurers make profits from the float, which is the premiums taken in minus immediate expenses. Investment income has been under pressure in recent quarters, resulting from historically low short-term interest rates. (Insurers keep the lion's share of their investment portfolio in bonds, reflecting their conservative nature.) We look for investment income per share to trend higher moving forward, as short-term interest rates likely continue to increase.
Travelers stock has increased moderately in price in recent weeks, as the broader market averages have strengthened. At the recent valuation, these shares have ample risk-adjusted total return potential. The company's immense size and stringent underwriting discipline place it in a lucrative competitive position 3 to 5 years hence. Our expectation for high single-digit earnings growth over that period, on average, reflects a normal amount of catastrophes. Share buybacks and an increasing dividend are also pluses for the long term.
About The Company: The Travelers Companies, Inc. (formerly St. Paul Travelers) is a leading provider of commercial property/casualty insurance and asset management services. Following the April 1, 2004 acquisition of Travelers, the company is now a leading underwriter of homeowners insurance and automobile insurance through independent agents. USF&G was another notable acquisition, which was purchased in April of 1998.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.