Over the last year or so, Lloyd's insurers Amlin and Catlin have both disappeared from the London market. Both firms were taken private by deep-pocketed trade buyers. Presumably they were attracted by the potential for long-term cash flows and the next sector upturn.
Investors in the specialist insurers which remain listed may wonder if their stocks will be next. Will Lloyd’s underwriter Novae Group receive an offer it can’t refuse?
We can’t know of course, but it’s a possibility. Novae’s net profit has risen by 86% since 2012 and the shares have risen by 45% over the last two years. Many insurance stocks have fallen over the same period, suggesting that Novae is in favour with institutional investors.
Novae has also impressed Stockopedia’s computers. The company currently has a StockRank of 91 and qualifies for two Guru Screens. One of these is the Josef Lakonishok Momentum Screen, which has delivered a healthy annualised gain of 16.1% per year since its inception.
Not so fast...
Before you rush off to load up with Novae stock, it’s worth considering the potential downsides. Perhaps the biggest problem for an active investor is that specialist insurance businesses are complex and opaque. I’d argue that for most private investors, detailed analysis is impossible. In my view, management outlook statements plus a few basic insurance ratios are likely to be the limit of our understanding.
Another risk is that profits can be hit hard by one or two major catastrophe claims. Periodic big losses from events such as shipwrecks or hurricanes are normal. Assuming the firm has high standards of underwriting and is well capitalised, they are not a reason to sell. However, they do mean that dividend payments may be cut in poor years.
A closer look at Novae’s value credentials
Interestingly, what’s happened over the last few years is that insurers have had relatively few major catastrophe claims. This has contributed to low levels of premium growth. It’s easier to put up prices following a claim.
Like a number of its peers, Novae has opted to return surplus capital to shareholders rather than reduce its underwriting standards to win more business. Although this means profits have been flat, investors have now enjoyed a three-year run of special dividends.
In 2015, Novae paid ordinary dividends of 27.3p plus a special dividend of 22.5p. This gives a total dividend of 49.7p and a trailing yield of 5.7%. This payout…
