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Stock Strategist Industry Reports

Specialty Insurance is Still Too Risky, But There is One Opportunity

The housing crisis continues to weigh on this sector.

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Since our last industry update in late 2009, specialty insurer stocks (mortgage, bond and title insurers) have ridden the wave of speculative fever that is generally associated with companies in industries that face an extremely uncertain future. In some cases, stock prices tripled by the end of April, only to come falling down by half within a month. At the heart of this phenomenon are expectations regarding the health of the housing market, as most of these stocks are wed, in one way or another, to the ability of consumers to repay mortgage debt. Most likely, some investors jumped on board with the view that most of these stocks represent a call option that could pay off big time in the event the situation improves and the specialty insurers (primarily the mortgage and bond insurers) find a way to survive. On the basis of fundamentals, however, we don't see that much has changed since our last appraisal of these industries, and we think this is still an area investors should avoid, with some exceptions.

Mortgage insurers are still biding their time as the large inventory of delinquent mortgages--particularly those that are more than 60 days overdue--remains in limbo. Though mortgage lenders have pushed forward to resolution a little bit, there is still a significant overhang of loans awaiting foreclosure, which will add to the shadow inventory. What's more, it is estimated that at least 20% of all residential homes with mortgages have negative equity (underwater mortgages), a factor that could induce even more homeowners to default on the monthly payment. We think the situation could get even worse in the second half as more homes are added to inventory, exerting pressure on prices and putting more homeowners underwater.

Jim Ryan does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.