If you’ve noticed a lot more severe weather events, you are right. It isn’t just media hype as climate-change deniers would have you believe. There’s been a record-breaking number of severe storms this year so far.
As of the end of August, the U.S. had been hit by 23 weather disasters big enough to cause $1 billion or more in damages. That was more than the tally for any full year since 1980, according to the National Oceanic and Atmospheric Administration.
Local pop-up storms, known as “severe convective storms” caused $38 billion of insured losses in the first half of 2023 alone. That broke the prior record of $33 billion in the first half of 2011, notes Aon Analytics, a division of the insurer Aon
Severe convective storm losses increased about 9% a year from 1990 to 2022.
“Climate change is real,” said Greg Locraft, an equity analyst who covers the insurance sector for T. Rowe Price. “It is causing storms to form quicker and more intensely. That is now occurring nationally. Severe convective storms are happening everywhere.”
“While costly disasters hurt near term, higher payouts have two positive effects on insurers. ”
Because climate change and other factors drive up claims, insurance companies around the world will pay $133 billion a year in catastrophe loss claims over the next several years, predicts research firm Verisk, which analyzes insurance sector trends. That’s up from $101 billion a year on average over the past five years, and $70 billion a year over the five years before that.
You might think these trends are terrible for insurance companies offering property and casualty coverage. But in the twisted world of insurance, the exact opposite is true. While costly disasters hurt near term, the payouts have two positive effects on insurers.
First, capacity. By eating into capital, the big payouts take insurance capacity off the market. And because weather is getting harder to predict, some insurance companies are moving away from property and casualty insurance. Big losses also drive out irrational underwriters and discourage new entrants. All these trends reduce capacity.
Second, demand. Weather disasters motivate people and companies to buy more insurance. So, demand goes up, just as capacity shrinks.
Combined, these trends boost pricing, creating what’s known as a “hard market” in the industry. The upshot is higher profitability at insurance companies — making them a climate change play.
Climate change isn’t the only trend favoring insurance companies. Higher inflation means property is more valuable and repairs cost more, so insurance payouts rise.
Moreover, people are moving to places with higher risk of weather-related losses, like Florida, the Sun Belt states and Texas. “People like to live in dangerous places from a climate perspective. The nicest and most expensive places are near the water and in the woods,” Locraft said. “If you start erecting high-value homes in Miami and a hurricane hits, the hurricane is more costly because it hit where the value is. That has nothing to do with climate change.”
Indeed, Aon Analytics blames most of the insured loss increase on growing exposure in high hazard areas and property cost inflation — and not climate change. But that might not be accurate, says insurer RenaissanceRe Holdings
“Our scientists believe that weather events have been influenced by a combination of slowly evolving factors,” RenaissanceRe CEO Kevin O’Donnell noted. These factors include “enhanced energy in the system due to climate change,” he added.
The bottom line is that together, all these trends, including climate change, create substantial pricing power in the insurance sector. In the past five years, property and casualty insurance pricing has more than doubled, Locraft said. Now, expect more of the same.
“Industry-insured losses in 2023 are likely to exceed $100 billion once again,” O’Donnell said. “This puts more pressure on demand for reinsurance. At the same time, we’ve seen very little new capital into the system.” Combined, these trends “should create a healthy tension for pricing,” he said.
“Insurance companies also benefit from rising bond yields.”
Pricing power isn’t the only source of earnings growth. Insurance companies also benefit from rising bond yields, since they invest their float in fixed income.
“Insurance companies this year are delivering the best results I have seen in twenty years of following the sector,” Locraft said. Big picture, analysts forecast 47% earnings growth among property and casualty insurance companies next year, according to Yardeni Research.
“I’ve got visibility at least a year out in an uncertain earnings environment when the probability of recession is rising,” Locraft said. Despite these trends, insurers are trading at some of the lowest valuations in a decade, he added.
Here are three insurance companies that look like good investments because they benefit from these trends. The first two are favorites of Locraft, at T. Rowe Price. The third comes from the outperforming money managers at the Marshfield Concentrated Opportunity Fund (MRFOX MRFOX)
: This Switzerland-based insurer is one of the bigger companies in the space. Net premiums written grew 9.1% year over year in the third quarter, to $13.1 billion. Property and casualty insurance premiums grew 8.4%. Net income per share grew 49% to $13.79, though some of that came from the purchase of Chinese insurance company Huatai.
“We had a simply outstanding quarter, contributing to outstanding year-to-date results,” said CEO Evan Greenberg. “We are confident in our ability to continue growing revenue and operating earnings globally, which in turn drive earnings per share.” Investment income grew 34% to $1.4 billion.
“Chubb and peers have experienced a positive trend in underlying underwriting profitability, similar to the period that followed 9/11,” Morningstar analyst Brett Horn reports. “Highly disciplined operators such as Chubb are positioned to earn very attractive return.”
2. RenaissanceRe Holdings: Bermuda-based RenaissanceRe Holdings is “a top five reinsurance company, but it is particularly good in property and casualty reinsurance,” Locraft said.
Year-to-date, property catastrophe net premiums written are up 40%. Third quarter investment income advanced 109% to $329.1 million, despite exposure to big weather events like Hurricane Idalia, which hit Florida last August. Because of rate increases, “catastrophe activity has had a much smaller impact on us than it would have had in previous years,” CEO O’Donnell said.
Arch Capital Group
: Like famed investor Warren Buffett, smart insurance companies know when to back away from underwriting because prices are too low. Arch Capital is great at this, say Elise Hoffmann and Chris Niemczewski who manage the Marshfield Concentrated Opportunity Fund. That’s one reason why Arch Capital is their biggest position, at over 10% of their portfolio. “Property casualty insurance companies live or die based on how disciplined they are,” Niemczewski said. “You can lean into hard market only of you leaned out of the soft market.”
Arch Capital pulled in the reins years ago during a weak part of the insurance cycle, so now they have the capacity to grow quickly. Gross premiums written advanced 17% in the third quarter to $4.5 billion. Property and casualty premiums rose 26% from a year ago to $3 billion. Earnings per share was $1.88 vs two cents a year ago.
Arch Capital expects the “hard market” pricing strength to support good gains again in 2024. “The current hard market feels like a baseball game,” CEO Marc Grandisson said. “We know there are only nine innings, but we have no idea how long those innings will take.”
Michael Brush is a columnist for MarketWatch. At the time of publication, he had no positions in any stocks mentioned in this column. Brush publishes a stock newsletter called Brush Up on Stocks. Follow him on X @mbrushstocks