AIG (NYSE:AIG) is set to report results for the fourth quarter of 2013 on Thursday, February 13.  The insurance company reported a 17% year-on-year increase in net income in the third quarter, helped by margin expansion in its property and casualty unit and strong sales from U.S. life and retirement operations. Pre-tax income from P&C grew 33% during the third quarter as the combined ratio (expenses to premiums) improved from 105% in 2012 to 102%. Life and retirement pre-tax income was up 38% with strong sales of annuities and retail mutual funds. We believe that the company can maintain this momentum in the fourth quarter.
We have a price estimate of $47 for AIG’s stock, in-line with the current market price.
U.S. P&C Margins To Improve
AIG has property and casualty insurance operations around the world, but more than half of its premiums come from the Americas region. It is the fifth biggest P&C insurance company in the U.S., with a market share of 4.52%.  It is particularly strong in the “other liabilities” line of insurance, with a market share of 11.5%, ahead of The Travelers Companies, Inc. (NYSE:TRV). AIG is also the fourth largest insurer in the workers’ compensation line, with a market share of 6.14%, behind Liberty Mutual Group (market share 8.7%), Travelers (market share 7.9%) and The Hartford Financial Services Group (NYSE:HIG) (market share 6.8%).
The U.S. insurance industry as a whole benefited greatly from the lack of natural disasters in 2013. Hartford recently reported a 14 percentage point improvement in its combined ratio, which reached 95%. For Travelers, the combined ratio improved 18 percentage points to 87.7%.  Both of these companies incurred high catastrophe-related losses in 2012 due to Hurricane Sandy, which hit the East Coast of the U.S. in October and was the second-costliest hurricane in U.S. history.  In contrast, the 2013 hurricane season was relatively peaceful. Hartford’s catastrophe-related losses dropped from $335 million in 2012 to $28 million in 2013, while Travelers’ figure dropped from $1 billion to $53 million. Due to its similar nature of operations, AIG can also be expected to report a significant improvement in its combined ratio for U.S. P&C operations. The company incurred total losses of $2 billion as a result of Hurricane Sandy in 2012, which led to an operating loss of $945 million for the division.
Currency Fluctuations In Asia
Around 30% of AIG’s P&C premiums come from the Asia Pacific, where the company has established operations in markets like Japan, China, Korea, Singapore, Vietnam, Thailand, Australia and Indonesia. It is the largest foreign property casualty insurer in Japan,  and also in China.  However, FX fluctuations hurt the company’s earnings during the September quarter; premiums increased 5% on a local currency basis, but were down 10% on a nominal reported basis. The Japanese Yen has weakened significantly against the U.S. dollar, and this will have an impact on near-term earnings. However, we believe that AIG can achieve long-term growth from its Asia Pacific operations.
Life And Retirement In The U.S.
AIG has divested its international life insurance operations, selling AIG Star Life Insurance Co., Ltd. and AIG Edison Life Insurance Company to Prudential Financial (NYSE:PRU) and American Life Insurance Company (ALICO) to MetLife (NYSE:MET). However, it still maintains operations in the U.S. and is the 11th largest insurer in the country, with a market share of 2.21%.  It has capitalized on MetLife’s exit from the variable annuity market and is now the sixth-largest seller of variable annuities in the U.S. with a market share of 7%.  MetLife was once the biggest seller of the market linked product, but has now dropped to fifth place with a 40% decline in sales through the third quarter. In contrast, AIG reported a 76% surge in premiums and deposits from its U.S. life and retirement operations during the third quarter, while assets under management grew 10%.
Recently, AIG launched AIG Financial Network to push its annuity operations in the U.S. However, the company has been named as a non-bank systemically important financial institution (SIFI) by the Financial Stability Oversight Council (FSOC). This designation will impose stricter capital requirements along with other regulations which might hamper growth prospects in the coming years. We will closely monitor the situation and update our model accordingly.Notes:
- AIG to Report Fourth Quarter 2013 Results on February 13, 2014, Investor Relations [↩]
- NAIC, Property and Casualty Insurance [↩]
- The Travelers Companies Management Discusses Q4 2013 Results – Earnings Call Transcript [↩]
- Hurricane Sandy: October 22 – 29, 2012 , Tropical Cyclone Report, United States National Oceanic and Atmospheric Administration [↩]
- http://www.seiho.or.jp/english/publication/2011/pdf/2-11.pdf)) which is the second biggest insurance market outside the U.S. ((Swiss Re’s World Insurance [↩]
- Foreign Insurance Companies In China, PWC, December 2012 [↩]
- NATIONAL ASSOCIATION OF INSURANCE COMMISSIONERS LIFE AND FRATERNAL INSURANCE INDUSTRY 2012 TOP 25 GROUPS AND COMPANIES BY COUNTRYWIDE PREMIUM [↩]
- U.S. Individual Annuity Sales, LIMRA [↩]