Mynegativityontheoperatingprospectsforthereinsuranceandspecialtyinsurancesectorhasbeenarticulatedmanytimespreviouslyinthisblog。

Manyofthesamefactorsareimpactingthebroadercommercialinsurancemarket。

PricingconditionsintheUSandgloballycanbeseeninthegraphbelow。

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Twoinsurers,atdifferentendsofthesizescale,whichIhavepreviouslypostedon,areAIG(morerecentlyhereandhere)andLancashire(morerecentlyhereandhere)。

GiventhatalothashappenedtoeachsinceIlastpostedonthem,Ithoughtaquickupdateonbothwouldgiveaninterestinginsightintothecurrentmarket。

FirstupisAIGwhohavebeenunderalotofpressurefromshareholderstounlockvalue,includingabreak-upplanfortheinsurancegiantfromtheopportunisticrascalCarlIcahn。

Thegraphbelowshowsabreakdownofrecentoperatingresults(aseverwithAIGlongertermcomparisonsarehamperedbytheireverchangingreportingsegments)。

TheimprovementintheUGCmortgageinsurancebusinesshasbeendwarfedbythepoornon-liferesultswhichwereimpactedbyasignificantreservestrengtheningcharge。

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InJanuary,PeterHancock(the5thCEOsinceHankGreenbergleftin2005)announcedanewstrategicplantotheendof2017,themainpointsofwhichare

Returnatleast$25billionofcapitaltoshareholdersthroughdividendsandsharebuy-backsfromoperatingprofits,divestituresandotheractionssuchasmonetizingfuturelifeprofitsby$4-5billionthroughreinsurancepurchases。

Enhancetransparencybyseparatingintoanoperatingportfoliowithagoalofover10%returnonequityandalegacyportfoliothatwillfocusonreturnofcapital。

Reorganizeintoatleastninemodular,moreself-containedbusinessunitstoenhanceaccountability,transparency,andstrategicflexibility。

Reducegeneraloperatingexpensesby$1。

6billion,14percentofthe2015expenses。

ImprovethecommercialPCaccidentyearlossratiobysixpoints。

Pursueanactivedivestitureprogram,includinginitiallythe20%IPOofUGC。

Thenon-lifereservechargein2015amountedto$3。

6billion。

60%ofthechargecamefromthe(mainlyUS)casualtybusiness,16%fromfinanciallines(againmainlyintheUS)and15%fromtherun-offbusiness。

Afterthelastmaterialreservestrengtheningin2010,theworryingaspectofthe2015chargeisthatapproximatelytwothirdscomesfromaccidentyearsnotyet10yearsold(whichisrelativelyimmatureforlongtailcasualtybusinessparticularlywhen42%ofthechargeisonexcesscasualtybusiness)。

TheimpactofthereservehikesonthecommercialPCsegmentcanbeclearlyseeninthegraphbelow。

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Perhapsthemostaggressivetarget,givencurrentmarketconditions,inthestrategicplanisthe6%improvementinthecommercialPCaccidentyearlossratiobytheendof2017。

Theplanincludesexitingapproximately$1billionofUScasualtybusiness,includingpoorlyperformingexcesscasualtybusiness,primaryandexcessautoliability,health-careandfinanciallinesbusiness。

Growthof$0。

5billionisbeentargetedinmulti-national,financiallines,propertyuppermiddlemarketandmajoraccountswhichinvolvespecialistengineeringcapabilities,internationalcasualtyandemergingriskssuchascyberandMAinsurance。

AIGalsorecentlyannouncedatwoyearreinsurancedealwithSwissReontheirUScasualtybook(itlookslikea25%quotashare)。

ThescaleofthetaskforAIGinmeetingthistargetcanbeseenintheexhibitbelowwhichtakesanumberofslidesfromthestrategypresentation。

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Iwasstruckbyaquotefromthefirmontheirturnaroundplan“Wewillusethedataandanalyticaltoolswehaveinvestedintosignificantlydifferentiateanddeterminewhereweshouldfocusourresources。

”Isuspectthateverysignificantinsurerwouldclaimtohave,oratleastaspiretohave,similaranalyticalcapabilities。

Bigdataandanalyticaldrivenunderwritingisundoubtedlythefutureforlargeinsurerswithaccesstolargeamountsofqualitydata。

FortunehadaninterestingrecentarticleontheanalyticalfirmPalantirwhoareworkingwithsomeinsurersonsharpeningtheirunderwritingcriteriaforthesocialmediaage。

AnanalystinCitievensuggestedthatGoggleshouldlookatbuyingAIGasafintechplay。

Theentryofthebiginternetfirmsintotheinsurancesectorseemsinevitableinsomeformorother,althoughIdoubtAIGwillbepartofanysuchstrategy。

Astothebenefitsofstayingalargecompositeinsurer,AIGcitedananalysiscommissionedbyconsultantsOliverWymansupportingthebenefitsofdiversificationbetweenthelifeandnon-lifebusinessofAIG。

UsingtheSPconsolidatedmodelasaproxy,OliverWymanestimatea$7。

5billioncapitalbenefittoAIGcomparedtoseparatelifeandnon-lifebusinesses,asenvisagedinIcahn’splan。

So,canAIGachievetheaggressiveoperationaltargetstheyhavesetthemselvesforthePCbusiness?

Currentmarketconditionspresentaconsiderablechallenge。

Combinedwiththeirrecentresults,anendof2017targetfora6%improvementisextremelyaggressive。

Tooaggressiveformyliking。

However,thePCresultsshouldimprovesomewhatovertheshortterm(particularlyifthereisnomorebigreservecharges)andactionssuchasexpensereductions,monetizingfuturelifeprofitsanddivestitureswillgiveAIGthefirepowertohandoutsweetiestoshareholders。

Forthosewillingtotakethepunt,thereturnofachunkofthe$25billiontargetindividendsandsharebuy-backsoverthenext2yearsforafirmwithacurrentmarketvalueof$61billion,tradingata0。

72multipletobookvalue(tradingaround0。

92ofbooklessAOCIandDTA),maybetootemptingtoresist。

Itdoeshaveacertainallure。

Lancashire,aLondonmarketspecialtyinsurerandreinsurerwithamantraofdisciplinedunderwriting,isattheoppositeendofthescalespectrumwithanichefocus。

Longcherishedbyinvestorsforitsshareholderfriendlydividendpolicies,Lancashirehasbeenunderpressureoflateduetotheheavycompetitioninitsnichemarkets。

Theenergyinsurancesector,forexample,hasbeendescribedbythebrokerWillisasdismalwithcapacitychasingasmallerpremiumpoolduetotheturmoilintheoilmarket。

Anumberofrecentarticles(suchashereandhere)highlightthedangers。

AlexMaloney,thefirm’sCEO,describedthecurrentmarketas“oneofthemostdifficulttradingenvironmentsduringthelasttwentyyears”。

Inaddition,Lancashirelostitsfounder,RichardBrindle,in2014plustheCEO,theCFOandsomeseniorunderwritersofitsLloyds’Cathedralunitin2015。

Thegraphbelowshowsthebreakdownofreportedhistoricalcalendaryearcombinedratiosplusthelatestaccidentyearnetlossratioandpaidratio。

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TheunderwritingdisciplinethatLancashireprofessescanbeseenintherecentaccidentyearlossratiosandinthe30%dropingrosswrittenpremiums(GWP),asperthegraphbelow。

Thedropismoremarkedinnetwrittenpremiumsat35%duetotheincreaseinreinsurancespendto25%ofGWP(fromapprox10%initsearlyyears)。

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ThetimelyandastuteincreaseinreinsuranceprotectionspendcanbeseeninthedecreaseintheirpeakUSaggregateexposures。

Thelatestprobablemaximumloss(PML)estimatesfortheirUSpeakexposuresareapproximately$200millioncomparedtohistoricallevelsof$300-350million。

Giventhelowernetpremiumbase,thePMLfiguresinlossratiotermshaveonlydroppedto40%from50-60%historically。

Lancashiresummeduptheirreinsurancepurchasingstrategyasfollows:

Ouroutwardsreinsuranceprogrammeprovidesabreadthanddepthofcoverwhichhashelpedustostrengthenourpositionandmanagevolatility。

Thishelpsustocontinuetounderwriteourcoreportfoliothroughthechallengesposedbythecycle。

AswithAIG,thetemptationforshareholdersisthatLancashirewillcontinuewiththeirgenerousdividends,astheexhibitbelowfromtheirQ42015presentationshows。

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TheotherattractionofLancashireisthatitmaybecomeatake-overtarget。

Itcurrentlytradesat1。

4timestangiblebooklevelwhichisrichcomparedtoitsUSandBermudiancompetitorsbutlowcomparedtoitspeersinLloydswhichtradebetween1。

58and2。

0timestangiblebook。

LancashireitselfincludedtheexhibitbelowontangiblebookvaluesinitsQ42015presentation。

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ItisnoteworthythattherehasbeenlittleactivityontheinsuranceMAfrontsincetheeyebogglingmultiplesachievedbyAmlinandHCCfromtheirdiversificationhungryJapanesepurchasers。

ManyinthemarketthoughtthevaluationssignaledthetopoftheMAfrenzy。

Relatively,AIGlooksmoreattractivethanLancashireintermsofthepotential?

forshareholderreturns。

However,fundamentallyIcannotgetawayfromcurrentmarketconditions。

Riskpremiaisjusttoolowinthissectorandnoamountoftemptingupsidethroughdividends,buy-backsorMAmultiplescangetmecomfortablewiththedownsidepotentialthatcomeswiththismarket?

Asperthesentimentexpressedinpreviousposts,Iamhappywithzeroinvestmentexposuretotheinsurancesectorrightnow。

Iwillwatchthisoneplayoutfromthesidelines。

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