A Financial Favorite Is Poised to Gain 30%
We value this reinsurer's independent thinking.
We value this reinsurer's independent thinking.
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Renaissance Re Holdings, Ltd.
Moat: Wide | FV Uncertainty: High | Price/Fair Value Ratio*: 0.62 | Three-Year Expected Annual Return*: 31.6%
What It Does: Renaissance Re (RNR) is a Bermuda-based reinsurer formed in 1993. Ren Re offers a range of property-catastrophe reinsurance products, catastrophe-exposed individual risk protection, and specialty reinsurance for risks that include workers' compensation, personal accidents, aviation, and terrorism. Most risks are short-tail, which means losses are identified within a few years. Direct insurance coverage has taken an increasing share of Ren Re's product mix in recent years.
What Gives It an Edge: Ren Re is one of Morningstar analyst Bill Bergman's favorite reinsurance enterprises. Unlike the other Bermuda reinsurers, Bergman credits Ren Re with a wide economic moat, owing to its highly differentiated service offering and its low production costs. According to Bergman, Ren Re stands apart from the crowd in its ability and willingness to assume catastrophe risk. For a reinsurance enterprise, low production costs include claims expenses, and over the long run, Ren Re's underwriting acumen and value-added services have produced one of the lowest loss ratios in its industry. While this loss-ratio is highly variable, Ren Re still manages to earn supernormal returns over time. Also, Bergman places a high value on independent thinking in the reinsurance industry, where crowd-following behavior tends to dominate. Ren Re stands out for its willingness to underwrite when others won't, and its discipline in pulling back when capital is flooding the market and prices are low.
What the Risks Are: Ren Re writes property catastrophe reinsurance, which can provide high returns or large losses in any given year. In recent years, Ren Re sailed into some regulatory head winds involving finite risk reinsurance and other issues, but we believe the associated risks have declined with the firm's cooperation with regulators. We believe that an investment in Ren Re is appropriate for investors with a strong stomach for risk.
What the Market Is Missing: While Bergman credits Ren Re for its independent thinking, the market has punished the shares for the firm's recent decision to curtail its underwriting volume after a flood of new capital hit the market. Two benign loss years after the heavy 2005 storm season have buttressed industry capital and invited significant new entry into the market. New entry has also included growth in new risk management vehicles like catastrophe bonds that compete with traditional insurance. Pricing for catastrophe insurance is down significantly, and new government programs in Florida have also lowered demand. After carefully looking over this landscape, Ren Re consciously chose to reel in its underwriting volume, partly causing a slowdown in its quarterly growth trends. Bergman believes the stock market is too focused on these short-run results, mistaking Ren Re's underwriting discretion as a weakness. Bergman views Ren Re's current actions as adding to the firm's industry strength in the long run.
* Price/fair value ratios and expected returns calculated using fair value estimates, closing prices, and cost of equity estimates as of Friday, May 2, 2008.
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