QBE Insurance Group Limited

Fat Prophets

Friday 7th August 2015

Sharechat Hot Stock - QBE Insurance (QBE.ASX)

It’s all about core strength

What’s new?

QBE Insurance has released two key updates since we last updated our thoughts on the name in early June 2015. First, QBE Insurance announced the sale of its Mortgage & Lender Services business in North America, and then followed this up with some changes to its senior management team. While both are indicative, in our view, of QBE Insurance’s transformation under current management, it is arguably the sale of the company’s North American business that is most significant.

According to QBE Insurance’s market release, “the sale of Mortgage & Lender Services is expected to free up in excess of $100 million of capital that will be available for reinvestment elsewhere” in the company’s North American Operations. While the divestment will reduce the Group’s gross written premiums by around $400 million, it is expected to improve QBE Insurance’s North American Operations “budgeted 2016 combined operating ratio and return on allocated capital by approximately 1.5 percent and 1.8 percent, respectively”.

QBE Insurance is expecting to receive a total cash payment of $90 million for Mortgage & Lender Services. While we view the transaction as a positive given recent underperformance in the region, QBE Insurance has flagged that the divestment will result in a FY15 net loss after tax of $120 million. According to the market release on the matter, the full-year loss is due primarily to “one-time, non-cash charges and write-offs in connection with the transaction, some of which will be recognised in QBE Insurance’s 2015 interim result”.

Outlook

While a lot of the heavy lifting has already been done, recent announcements reinforce our view that QBE Insurance is continuing to progress its operational transformation. Over the last year or so, QBE Insurance has (i) restructured and remediated its underwriting capabilities, (ii) bolstered its capital position, (iii) undertaken a number of initiatives to improve productivity, and (iv) made a number of strategic changes to its senior management team.

Having been a key earnings headwind for the insurance sector for some time now (i.e. increased money supply putting downward pressure on premium pricing and low interest rates putting downward pressure on fixed interest returns), signs that the Federal Reserve is now looking to raise its cash rate can only be positive for the likes of QBE Insurance. As history attests, there has been a strong positive correlation between QBE Insurance’s share price and that of US ten year bonds.

Price

From a technical perspective, QBE Insurance’s outlook appears positive, with the share price having continued to edge higher since it moved above the downward slopping trend line. Furthermore, with the gap opening having been filled, the momentum is clearly to the upside. Consequently, we favour a renewed challenge of the $16 barrier in the near term. QBE Insurance’s fundamentals support this technical view, with the company trading at 15.4 times CY15 earnings, 1.3 times CY15 book value and offering a dividend yield of 3.7 percent.

Summary

While we view QBE Insurance’s current prospective dividend yield as relatively attractive, management’s recent decision to review its dividend policy in recognition of the company’s strong capital position could potentially signal higher dividends going forward. In the meantime, we believe that management’s continued focus on costs will position the company for the inevitable upturn in the insurance cycle, with QBE Insurance’s short duration fixed interest portfolio already primed for an eventual uptick in the yield curve.

James Lennon is an Analyst at Fat Prophets share market research. To receive a recent Fat Prophets Report, call 0800 438 328 or Click here.

Disclosure: QBE is held in the Fat Prophets Concentrated Australian Share Model.

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