CINF Downgraded to Underperform - Analyst Blog
August 02 2011 - 1:12PM
Zacks
We are downgrading our recommendation on the shares of
Cincinnati Financial Corp. (CINF) to Underperform
from Neutral following the wider-than-expected operating loss
reported by the company in second quarter 2011 owing to huge
catastrophe losses.
Moreover, the Commercial Lines segment will likely remain
somewhat weak due to the sluggish economy, although the decline in
business is moderating gradually.
The top-line growth at Cincinnati Financial has been slow for
the past five years, with 5-year compounded annual growth rate of
negative 0.7%. The decline was completely due to weak markets and
economic pressures. The lingering effects of the soft insurance
market pricing are expected to affect growth rates and earned
premium levels in 2011 or perhaps later, depending on when
insurance market conditions improve.
These conditions continue to weaken loss ratios and hamper
near-term profitability. The Commercial Lines, which accounted for
73% of 2010 net written premiums, is still experiencing a very
strong competition in the market, along with pricing decline in low
single digits and reduced insured exposure levels that include
negative effects on audit premium.
However, net written premiums dropped 26 million or 1% in 2010,
which is quite an improvement from the 6% decline in 2009. We
expect the segment to remain somewhat weak until the fragile
economy strengthens significantly.
Investment income is an important component of Cincinnati
Financial’s revenues and net income. The company has experienced
investment portfolio problems owing to equity investments, which
formed a significant portion of its investment portfolio.
Though the portfolio has been diversified to reduce equity
concentration (26.4% of the total portfolio as of December 31,
2010), it is equity-heavy relative to its peers, thus imparting
equity-market-related volatility. Moreover, low yield for
investment options is expected to continue, thereby limiting any
investment income growth.
Though Cincinnati has undertaken several growth initiatives (new
agency appointments and entering new states, technology
investments, etc), these measures are yet to reach their full
contribution to earnings. Thus, the company might not see
advantages of these investments for several years.
Cincinnati’s geographic concentration ties its performance to
business, economic, environmental and regulatory conditions in
certain states. Although the company markets its property casualty
insurance products in 37 states, its business is significantly
concentrated in the Midwest region, which is susceptible to
catastrophes. As such, the company’s operations are vulnerable to
catastrophe losses, imparting volatility to earnings.
In its other business segments – Personal, Excess and Surplus,
and Life business– Cincinnati is seeing moderating trends. Its
homeowners line within the Personal Line segment is witnessing an
improvement in new business levels and strong retention levels, as
well as rate increases.
The Personal auto lines is also witnessing high retention, along
with rate hikes albeit in low single digits. The company’s
investments in pricing precision and technology are positively
impacting the personal lines segments, thus helping to produce an
improved loss ratio as well as premium growth in that area. Going
forward, with an improvement in the personal insurance market, the
company will see increased premium growth.
Cincinnati’s Life Insurance earned premiums also grew in the
second quarter as did profit. The Life Insurance segment remains an
important contributor to operating results and helps compensate the
variable results from the company’s property and casualty
operations.
Cincinnati’s Excess and Surplus lines is also performing well.
Despite a soft market environment, the segment has been able to
achieve rate increases for nine consecutive months.
Strong capital levels, consistent dividend increases, and stable
share buybacks, will hold earnings in the near term. However, we
believe that the top-line growth will remain suppressed as the slow
economic recovery continue to limit a larger base of insured
exposures, causing lower premium growth.
Cincinnati is carrying a Zacks #5 Rank, indicating downward
pressure on the shares over the near term. It competes with
Harleysville Group Inc. (HGIC ) and Selective Insurance
Group Inc. (SIGI ) , both of which have significant
market presence in Midwestern United States.
CINCINNATI FINL (CINF): Free Stock Analysis Report
HARLEYSVILLE GP (HGIC): Free Stock Analysis Report
SELECT INS GRP (SIGI): Free Stock Analysis Report
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