The flurry of M&A activity in the insurance/reinsurance markets has created a windfall for savvy equity investors as acquirers pay control premiums for their targets. Nick Martin discusses some recent deals and the prospect for more activity.
Nick Martin is the Co-Manager of the Polar Capital Global Insurance Fund which currently invests in excess of USD 500m in insurance equities. On June 30 2015 the fund's top five holdings were Arch Capital (7.60%), ACE (6.70%), Marsh & McLennan (6.20%), Markel (5.70%) and Alleghany (5.10%).
The 2Q15 earnings season did not produce anything particularly surprising. Results were somewhat mixed and were, in many cases, impacted by higher energy losses, with the Pemex loss in the Gulf of Mexico as the main driver. Rate rises in commercial lines continue to moderate, which is to be expected given we are now in the fourth year of increases. Within personal lines, both Allstate and GEICO (part of Berkshire Hathaway) reported elevated loss trends within their auto accounts. Both stated they will respond with rate rises. Commentary on the 1 July reinsurance renewals was more positive than many expected and it seems property cat pricing may be getting closer to a bottom. We will know more after Monte Carlo.
Most of the interest from analysts and investors on the earnings conference calls inevitably focused on M&A. Last November, with its acquisition of Platinum Underwriters, RenaissanceRe kicked-off a number of Bermudian reinsurance-focused transactions largely designed to address a deteriorating property catastrophe market and to provide a more ‘relevant’ multi-geography, multi-class offering to clients. In the last two months the scope of the industry M&A has widened with the acquisitions of two of the highest regarded primary underwriters.
Japanese insurer Tokio Marine Holdings announced the acquisition of HCC Insurance Holdings for $7.5bn in cash. They paid a 38% premium on the previous close of HCC shares, which valued the company at 190% book value and 250% tangible book value. The acquisition further diversifies Tokio Marine away from its domestic market and adds HCC to previous quality-name purchases including Philadelphia Consolidated and Kiln.
ACE's $28bn acquisition of Chubb is the largest tie-up ever in the industry. ACE paid 180% tangible book value for arguably the best brand name in the US personal lines insurance market. The deal was quickly executed after being dreamed up by ACE CEO Evan Greenberg whilst he was laid up in bed with a broken ankle. I believe it is a fantastic combination. There are many attractions for ACE including immediate scale in the independent agency channel and a leading position in US high net worth homeowners insurance. ACE will assume the Chubb name when the deal closes early next year.
Quality US insurance companies continue to trade below long-term average valuations and remain attractive in today's equity markets where many sectors trade at historically high multiples. With valuations favourable, M&A activity is likely to continue. There may be more to come from Japan following Tokio’s HCC acquisition. Chinese companies have also participated buying Ironshore and Sirius. This could just be the start of Asian interest in Western insurers.
While it may be fun to speculate on who is next on the M&A merry-go-round it should be remembered we are in the risk business. A decade has now passed since the last significant US hurricane losses Katrina, Rita and Wilma in 2005. This 10-year fallow period is the longest in history when the US has not had a major East Coast hurricane(s) making landfall. Major loss activity is long overdue. Since catastrophe pricing often weakens during Mother Nature’s passive periods, major losses usually occur at times of weak pricing. A well-respected insurance executive I saw recently summed it up: “God hates cheap reinsurance.”
More information on the Global Insurance Fund and other Polar Capital funds can be found at www.polarcapital.co.uk
All opinions and estimates in this report constitute the best judgement of Polar Capital as of the date hereof, but are subject to change without notice and should not be relied upon. The views represented herein do not necessarily represent the views of Polar Capital. Shares in the Fund should only be purchased by professional investors and investors should consult the Fund’s offer documents before making a decision to invest.
Posted: Monday, August 24th, 2015