I own a tiny position in TLX since July 2013. Time to take a look.
Talanx AG is a German insurance holding providing insurance, re-insurance and asset management services. It is majority owned by HDI V.a.G., which goes back to its history of German industrial insurance. Meiji Yasuda Life Insurance holds anotehr 5%. Thus the tradeable float of TLX is rather small and Hannover Rueck might be valued (HNR1 GR, €19bn) more efficiently.
TLX’ equity story lists five reasons for an investment.
- Diversified insurance group: majority owner of Hannover Re, growing contribution from primary insurance
- Proven capacity to generate above-average growth backed by cost leadership in 3 out of 4 divisions
- Resilient business model driven by the good solvency position and the risk-conscious investment policy
- Group net income outlook between EUR 900m and EUR 950m in 2021.
- Attractive and consistent dividend policy. Unchanged dividend payout of EUR 1.50 per share for 2020
This is another part of my series of Quickies on new companies.
Diversified insurance group
Talanx’ GWPs are diversified with regard to regions and segments. Germany as the biggest region accounts for a fifth of gross written premiums. RE-insurance is responsible for 60% of total GWP (P/C + life/health), and re-insurance contributes more than half of net profits. The aim is to increase primary insurance contributions.
Key financials (link) show solid high single digit growth in premiums (GWP/NPE). Since the group’s underwriting result is constantly negative, driven by German life insurance, but profitability is reached through investment income (a common strategy).
Re-insurance is an attractive industry with solid growth enabling the big companies to re-invest their profits at good ROEs. The industry is cyclical with higher losses/catastrophes driving future rate increases. Cyber insurance is only in the beginning of a (potentially) very long growth segment. Talanx owns 50.22% of Hannover Rueck. At its current market cap (€19bn) TLX’ stake is worth €9.5bn. Hannover Rueck trades at a mid-teens P/E and a dividend yield of 3%, and 1.7x P/B for ROEs between 10-15%. Such ROEs are valuable with many reinvestment opportunites, which seems to be the case (payout ratio is between 40-60% since 2015). Hannover Rück has a cost advantage as the third biggest Re-insurance in the world, after munich Re and Swiss Re (kind of odd that Germans/Europeans are pretty good at it, maybe it is because of culture. Germans tend to have a solid processes for everything). I believe it is roughly fairly valued, or at least not grossly mis-valued. Verus had a good German write-up!
Primary insurance contributes a growing share of TLX’ net profit. This is a stated company goal. The primary insurance segment includes a bunch of sub-segments, some of them with their issues (and the potential for turnarounds and vastly better results). Overall, it appears that the value of Talanx’ primary insurance business is largely dismissed as its market capitalization is covered by its stake in Hannover Rück.
Industrial Lines contribute a mere 6% of net income (attr. to SH). This results from a combined ratio (CR) that fluctuates around 100% and EBIT margins that are barely positive – an industry wide problem. Due to lower interest rates, MTCR (maximum tolerable combined ratio with regard to ROE targets) falls further. Issues were tackled and the segment seems to improve.
The German life insurance segment’s profitability gets pressured by low investment returns, but so far, the segment sports confortable capital adequacy ratios, depending on ones perspective: ‘As of 30 Sept 2020, the as-if-merged Solvency II CAR for the four German life entities stood at 332% including transitional measure, at 103% without transitional measure‘.*
Valuation of embedded interest options or rate guarantees within German life insurance products was part of my master thesis. This is a complex theoretical topic (options) getting more complicated when mixed with reality (as usual). One of the assuring assumptions from the view of insurance companies was that customers will never rationally make use of/execute the various embedded options in their products. Unfortunately, it was observable in the segment of “Bausparprodukte” that many Germans made indeed good use of their embedded interest rate guarantees for the embedded savings component. The internet might have been a huge factor here (education). One thing is for sure, life insurance within the low interest environment bears its risks and, in general bears a differnet risk profile from P/C insurance. The primary life insurance might be the reason for Talanx’ apparently low valuation.
Low level of long-term interest rates continues to put pressure on solvency ratios of life carriers, which have improved significantly per 31 Dec 2020 vs. 30 Sep 2020 due to selected capital measures and balance-sheet derisking such as reducing duration gaps and credit exposurepresentation, p21
Asset management is big business for Talanx. Ampega, its asset mangement unit/brand, manages a total of c. €170bn, thereof €40bn of non-group clients AUM, after recently winning 10bn (news).
Talanx has a cost advantage in some segments and this could truly support future ‘above average growth’.
- Understanding Talanx with its various segments is complicated and I am not even close!
- Understanding accounting, regulation + developments, and segment/industry trends is hard (or impossible (for me)
- Investment would be much more based on a high level understanding/thesis/notion
- Due to the shareholder structure, I think (big) buy backs are off the table,
- I usually prefer buy backs to dividends.
- HDI V.a.G. (the big shareholder) might even prefer best service for industrial clients over profitability.
Better buy insurances during uncertain times? With the benefit of hindsight, 2020 was the time to buy TLX. The stock sold off from €45 to €25 at the beginning of 2020 (covid) and touched €25 later again due to uncertainty. Insiders used 2020 to buy shares. From the 13 listed directors’ dealings, beginning in 2021, seven were within 2020. These were all buys, one was a transaction within an employee share programm, three took place on 16/18 March. The traded volumes were not huge (for US standards), but might have been an excellent information to support a buying decision during uncertainty.
- On March 31, 2020, Hanoover Rück had a market cap of c. €15.5bn which would indicate a value of €7.8bn for Talanx’ stake. TLX had a market cap of €7.75bn. Today, its mcap is slightly above its HNR1 stake’s market value.
- I did not pull the trigger in late October at €25 – I rue that (but that is easy to say now)
TLX gets into MDAX and its capital markets day or CMD is on Nov 17th, 2021.
I hope you enjoyed this post.
*) As of yet, I do not understand the ‘transitional measure’ but I hope a friend, seeking a promotion in insurance, can help me further… But, so far, it seems like the usual phase-in periods of stricter regulation, i.e. Bassel III.
III.4 Transitional measure on the risk-free interest rateshttps://www.eiopa.europa.eu/sites/default/files/publications/reports/eiopa-ltg-report2019.pdf
For a period of 16 years after the start of Solvency II, insurance and reinsurance
undertakings may apply the transitional measure on the risk-free interest rate. Under
the transitional measure undertakings apply a transitional adjustment to the risk-free
interest rate for the valuation of insurance and reinsurance obligations. The transitional
adjustment is based on the difference between the discount rates of Solvency I and the
risk-free interest rates. At the beginning of Solvency II, the transitional adjustment is
100% of that difference. Over the transition period of 16 years, the transitional
adjustment is linearly reduced to zero. The transitional measure applies only to
insurance and reinsurance obligations from contracts in force before the start of
Background: German life insurance undertakings have traditionally focused on policies with long-term interest guarantees. The market-consistent valuation under Solvency II reveals the risks inherent in these guarantees. Therefore, the introduction of Solvency II in the current environment of low interest rates presents a particular challenge for these undertakings.bafin.de/…/2014/pm_141112_vollerhebung_leben_en.html
A key aspect of the Solvency II regime will be the transitional measures under which the new capital requirements will be gradually phased in over a period of 16 years. The volatility adjustment will be an additional permanent tool available to life insurance undertakings. The adjustment is a spread in the yield curve aimed at avoiding extreme earnings volatility caused by market excesses. The European Insurance and Occupational Pensions Authority (EIOPA) sets the spread. German life insurance undertakings must receive authorisation from BaFin to apply these measures.