Life Insurance Q4/20 Outlook
Absolute and Relative Valuation, Fundamentals, Higher Rates... ...All Point to Solid Upside Across the Group
Canada's life insurance companies are scheduled to report Q4/20 results on February 10 (Great-West Lifeco [GWO-T], Manulife Financial [MFC-T], and Sun Life Financial [SLF-T]) and February 11 (iA Financial [IAG-T]). We expect the insurers to report an increase in EPS of 15% y/y, lead by GWO (up 45% y/y). Our estimates call for a 1% decline on an adjusted basis, with a significant difference in growth across the group. IAG's 10% forecast growth reflects the benefits of the IAS deal and better P/H experience, while GWO's forecast 11% contraction reflects lower earnings on surplus and a much higher tax rate (Q4/19 included tax gains).
The life companies underperformed the banks by 10% in 2020, the fourth year of underperformance in the last five. In 2020, bank 2021E consensus EPS was down 16% versus 7% for the insurers. As a consequence, the banks moved from an 8% P/E premium to the insurers at the beginning of 2020 to a 26% premium today. A comparison of the insurers' performance, P/E, and relative P/E (relative to the banks and the broader market) point to material upside in the group as interest rates rise and the yield curve steepens. Our more favourable outlook on the insurers is not solely based on how market sentiment changes as interest rates increase, but also on fundamentals, some of which relate to interest rates.
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Much stronger investment income, supported by yield enhancement gains, and higher earnings on surplus, supported by higher interest rates.
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Very strong net-flow trends across the wealth management operations of the insurers. Improving net flows and the rally in markets point to solid growth across the large wealth management businesses of the insurers.
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Improving experience gains/losses and little or no charges associated with the assumption reviews, as well as various expense initiatives point to improving momentum in expected profit in 2021 and 2022.
Effective with this report, we are returning to valuing the insurers on a forward P/E basis. Our target P/E is set at 10.5x-11.0x, a 5% discount to the bank target P/E of 11.0x-11.5x. Our approach is to establish a group target P/E and apply premiums and discounts to the individual insurers (relative to the group target), largely based on: 1) business momentum; 2) our view regarding the potential for positive or negative earnings revisions; and 3) historical premiums and discounts. Our target prices imply a very strong total return of 30% across the group. Reflecting the 37% return for MFC, we continue to rate the stock ACTION LIST BUY. We are maintaining our BUY ratings on the other three lifecos and our OVERWEIGHT position on the sector.