Britain’s unprecedented decision to leave the European Union (EU), the world’s biggest trading block, has shaken the global financial markets. The result of the voting, which calls for U.K. exiting the EU after being with it for more than four decades, saw the resignation of British Prime Minister David Cameron and sent indices all over the world crashing.
The Brexit event has flagged political and economic chaos in Europe. The domino effect of it may hurt the already fragile world economy and the spillover effect across the pond can be in the form of reduced earnings for U.S. companies with large exposure to the U.K.
Will Brexit Put a Brake on Fed’s Interest Rate Decision?
One of the side effects of Brexit is that it will most likely delay the next interest rates hike by the Federal Reserve. The Brexit event caused the pound falling to its lowest level in 30 years and even Euro saw a decline against the U.S. dollar. The uncertainty induced by Brexit and the strengthening dollar may compel the Federal Reserve to delay its plans to raise short-term interest rates. A strong U.S. dollar hurts exports and makes imports cheaper, thereby widening the trade deficit.
Also, continued appreciation of the dollar can flare up global market volatility. Moreover, a strong dollar can prompt China to weaken its currency, yuan, as it had done before. Earlier, yuan weakness had caused global market volatility which held back the Fed from hiking rates.
After a no-show at the June meeting, it now looks highly unlikely that the interest rates will be moved northward in the subsequent meetings at least until it becomes clearer how events in Europe will affect the U.S. economy. Fed policy makers’ projection of four hikes in 2016 has been pushed off the board till the global financial markets settle down. Traders are even considering chances of an interest rate cut by the Fed but the possibility of it remains too low.
How Will Insurers Tackle Low Rates?
Low interest rates affect earnings and liquidity of the insurers and hence pose a threat to the insurance industry. Since investment income forms an important revenue component of insurers, a low interest rate compresses yields which in turn lowers investment income. Looking at it the other way, since insurance companies hold a large percentage of bonds in their investment portfolio, low interest rates cause an appreciation in the value of invested bonds.
Moreover, insurers have managed to guard themselves against low rates by asset-liability matching. Also, a broader invested asset base and alternative asset classes have provided some cushion amid low rates, though the results are way below their historic highs.
While insurers have learnt to grapple with low interest rates, they have also been enjoying a low- catastrophe environment which has reduced their claims’ costs and increased their reserves, making them fundamentally strong.
U.S Insurers Least Exposed to the U.K
The U.S insurance industry is one of the sectors with the least exposure to the U.K. market. So Brexit and its ills will have minimum impact on insurers. Some of the biggies like UnitedHealth Group, Inc. UNH, Prudential Financial Inc. PRU, The Travelers Companies, Inc. TRV, Aetna Inc. AET and Aflac Inc. AFL are some of the S&P 500 companies with less than 0.25% of their revenues coming from the U.K.
Some Insurers that Can Weather the Brexit Storm
At a time when investors’ decisions have been blurred by intense market volatility, choosing stocks in the insurance sector will ensure returns to one’s portfolio. We therefore pick some stocks from this space based on a solid VGM score. Here V stands for Value, G for Growth and M for Momentum and the score is a weighted combination of these three scores. Moreover, these stocks are backed by a favorable Zacks Rank, an attractive price-to-earnings (P/E) ratio and positive earnings surprises over the past four quarters.
Amerisafe, Inc. AMSF is a specialty provider of workers’ compensation insurance that markets and underwrites insurance through its subsidiaries. Amerisafe has a Zacks Rank #1 (Strong Buy) and a VGM Score of B. Its expected earnings growth is 8.8% for the current year. The forward P/E ratio is 14.7, which is lower than the industry average of 16.1. The company beat estimates over the last four quarter by an average 25.9%. Notably, the stock has witnessed upward estimate revisions over the last 60 days.
Employers Holdings, Inc. EIG operates in the commercial property and casualty insurance industry primarily in the United States. The company provides workers' compensation insurance to small businesses in low to medium hazard industries. It has a Zacks Rank #2 (Buy) and a VGM Score of B. Its expected earnings growth is 5.9% for the current year. The forward P/E ratio is 11.6, which is lower than the industry average of 16.1. The company delivered positive surprises in the last four quarters, with an average beat of 51.3%.
Argo Group International Holdings, Ltd. AGII underwrites specialty insurance and reinsurance products in the property and casualty market. It has a Zacks Rank #2 and a VGM Score of B. Its expected earnings growth is 5.9% for the current year. The forward P/E ratio is 14.2, which is lower than the industry average of 16.1. The company beat estimates over the last four quarter by an average 11.9%.
AmTrust Financial Services, Inc. AFSI through its subsidiaries, underwrites and provides property and casualty insurance in the United States and internationally. It has a Zacks Rank #3 (Hold) and a VGM Score of A. Its expected earnings growth is 6.8% for the current year. The forward P/E ratio is 7.9, which is lower than the industry average of 16.1. Over the last four quarters, the company beat estimates by an average 14.6%.
The Hanover Insurance Group, Inc. THG through its subsidiaries, provides various property and casualty insurance products and services in the United States and internationally. It has a Zacks Rank #3 and a VGM Score of A. Its expected earnings growth is 0.8% for the current year. The forward P/E ratio is 12.9, which is lower than the industry average of 16.1. The company’s average beat for the last four quarters is 11.4%.
Headquartered in Chattanooga, TN, Unum Group UNM provides disability insurance, long-term care insurance, life insurance, employer- and employee-paid group benefits and related services. Unum Group has a Zacks Rank #3 and a VGM Score of A. The company has expected earnings growth of 2.8% for the current year. The forward P/E ratio is 8.4, which is lower than the industry average of 16.1.Unum Group delivered positive surprises in two of the last four quarters, with an average beat of 1.9%.
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