The question on every investor’s lips at the moment is: ‘Does the recent sell-off offer a buying opportunity, or should we be heading for the hills?’ As a fundamentals-based stock picker, I’m far more interested in how specific companies will perform over the medium to long term, rather than in the daily fluctuations of the major indices. However, in light of the current skittishness of the markets, I’ve chosen this week’s best share tip in light of its defensive qualities:
Catlin Group (CGL: 430p), tipped by The Independent
In 2004, Mother Nature unleashed four hurricanes – Charley, Frances, Ivan and Jeanne – that struck the US and cost the global insurance industry $56bn. Last year was even worse: the hurricanes that hit the US, Mexico and the Caribbean caused some $65bn of insured property damage. Hurricane Katrina alone, which devastated New Orleans, killing more than 1,300 people, was the most expensive natural catastrophe of all time.
Can lightning strike in the same place three years running? Well, if it does, then Lloyds insurers, such as Catlin, will be better prepared, since insurance premiums for these risks have rocketed. If it doesn’t, then cash flow and profits will be strong. In my view, the end result will be somewhere in between, and Catlin will deliver, or even exceed, the City’s earnings per share expectations of 63.7p for 2006.
Catlin is based in Bermuda and specialises in property and casualty insurance. As well as cover for natural disasters, it underwrites a spectrum of other business, including professional indemnity, medical malpractice and directors’ liability insurance. Not surprisingly, Catlin’s 2005 results were blown apart by the unprecedented severity of the hurricanes. With premiums surging higher, the management didn’t want to be constrained in writing new, profitable business. So in March 2006, the firm raised £40m at 500p via a placing to provide extra underwriting capacity. The strategy appears to be working. Last week, the board announced that it had made a good start to 2006, with overall gross premiums up 10% year-on-year. Hurricane-related rates spiked by a massive 28%.
Like the bookmakers, Catlin effectively offers odds to customers on the likelihood of natural disasters and other insurable losses occurring. Where exposures are considered too high, some of these risks are laid off or reinsured. Catlin makes money from pricing in risk and managing its overall exposures better than competitors. Thus although the hurricane season is starting again, I’d be surprised if Catlin didn’t generate healthy long-term profits in these more uncertain times.
In terms of valuation, Catlin (at 430p) trades on a paltry 2006 p/e multiple of 6.7, pays a 3.6% dividend yield and has a price-to-book ratio of 1.2. Irrespective of the peaks and troughs of the insurance industry, in my view this is far too cheap. Finally, Catlin doesn’t offer annuities or pension plans. As such, its capital base is far less exposed to the equity markets than its cousins in life assurance.
Recommendation: BUY at 430p
Paul Hill’s personal portfolio has gone up by 483% over the last five years. To find out more about his own specialist share-tipping service, ‘Precision Guided Investments’, click on the link below: