Given a substantial improvement in the economy, backed by rising interest rates, a growing gross domestic product (GDP) and lower tax incidence, the insurance industry has so far been exhibiting a significantly favorable performance. We expect this momentum to continue in the fourth quarter based on the aforementioned factors, which will enable insurers to focus on bolstering their bottom line as well as boosting top-line growth.

The insurers might grapple with challenges in the form of unpredictable weather-oriented events or regulatory uncertainty but banking on a more-than-decent performance year to date, we anticipate the industry to finish off with much better results in comparison to 2017.

Interest Rate Hike: Keeping Pace With Projection

Per expectations, the Fed raised the interest rate for the third time this year at the Sep 26 FOMC meeting with the current interest rate now ranging at 2-2.25% (also marking the eighth hike since the financial crisis). Also, the regulatory body is estimated to deliver another quarter-point rate hike in December 2018 and three more in 2019. This accelerated pace of rate hikes signifies the strength in economy that will be beneficial to the insurance industry for driving its key players’ results in the final quarter of 2018 and beyond.

This increase in interest rates has been a boon to insurers and we are hopeful that an improving rate environment will aid investment income, an important component of insurers’ revenues. This in turn, will allow insurers to accelerate their overall growth in the near term.

Underwriting Results: So Far So Good?

With no major catastrophic event experienced in the first half, the insurers could display a better-than-expected underwriting performance. Even though the third quarter will bear the brunt of Hurricane Florence, it will still not be as devastating as the damages suffered last year. Recently, United Insurance Holdings Corp. (UIHC - Free Report) announced that it has incurred $35 million pre-tax catastrophe loss due to the aforementioned hurricane.

Although the aforementioned catastrophic event is likely to impact results in the soon-to-be-reported quarter, the insurers still do not fear a huge dent in their underwriting performance. Thus, the air of optimism surrounding a better underwriting performance remains intact despite massive inclement weather-oriented losses being incurred.

Other Influencing Factors

There are a few other factors consistently enhancing the insurers’ performance in the past couple of quarters and are expected to keep the trend alive in the near term. The unemployment rate is projected at 3.7% in 2018 (the unemployment rate of 3.9% in August denoted the 18-year low level). The gross domestic product is likely to grow 3.1% in 2018 (an increase from the June estimate of 2.8%). Both represent a bullish economic outlook, retaining insurers’ confidence for favorable results.

Additionally, inflation is anticipated to remain slightly above the targeted 2% through 2020, though the same will stay at 2% thereafter.

Moreover, a lower level of tax incidence (effective first-quarter 2018) has been contributing to the insurers’ bottom line. This in turn, will not only support margin expansion but also hike dividend payouts owing to higher net profit available to shareholders.

A strong liquidity profile, attributable to a continued capital inflow into the industry, will not only back the insurers to counter near-term volatility as well as the impact of hostile occurrences but will also sustain the industry’s growth momentum. With the insurance industry boasting an all-time high capital level, strategic mergers and buyouts (an important trend in the industry this year) have become easier to pursue and invest in.

This apart, the insurers stand to benefit from a broader invested asset base and alternative assets.

Key Picks

Riding high on the above-mentioned tailwinds, we have zeroed in on three stocks, displaying more-than-a-modest performance to date. We expect this upside to last for the ongoing quarter as well. These stocks also carry an encouraging VGM Score of A and B and we expect the same to deliver an impressive performance on the basis of northbound estimate revisions, a solid Zacks Rank and share price outperformance on a year-to-date basis. Our research shows that stocks with a commendable VGM Score of A or B when combined with a favorable Zacks Rank #1 (Strong Buy) or 2 (Buy), offer the best investment opportunities. 

Mayfield Village, OH-based The Progressive Corporation (PGR - Free Report) provides personal and commercial auto insurance, residential property insurance and other specialty property-casualty insurance and related services, primarily in the United States. The stock has seen the Zacks Consensus Estimate for current-year earnings being revised 4.1% upward to $4.57 over the past 60 days. This is also reflected in the company’s Zacks Rank #2. The insurer boasts a VGM Score of A.

The stock has jumped 26.3%, outperforming the industry’s increase of 7.2%.

Pembroke, Bermuda-based James River Group Holdings, Ltd. (JRVR - Free Report) offers specialty insurance and reinsurance services in the United States. The stock has seen the Zacks Consensus Estimate for 2018 bottom line move 2.2% north to $2.35 over the past 60 days. This is also justified by the company’s Zacks Rank of 2. The insurer flaunts a VGM Score of A.

The stock has gained 5.3% against the industry’s decrease of 6.2%.

Headquartered in West Des Moines, IA, American Equity Investment Life Holding Company (AEL - Free Report) provides life insurance products and services in the United States. The stock has seen the consensus mark for current-year earnings being raised 3.5% to $3.55 over the past 60 days. This is also indicated by the company’s Zacks Rank of 2. The life insurer has a VGM Score of B.

The stock has rallied 16.8% versus the industry’s decline of nearly 16.1%.