Weekly Reports | Apr 21 2023
This story features INSURANCE AUSTRALIA GROUP LIMITED, and other companies. For more info SHARE ANALYSIS: IAG
The near-term driver of stock performance for domestic general insurers, booming migration to Australia, & issues facing the private health insurance industry.
-The near-term driver of stock performance for for general insurers
-Will migration to Australia be higher for longer?
-Issues facing the private health insurance industry
-Morgan Stanley prefers private health insurers to hospitals
By Mark Woodruff
Motor claims impact the near-term outlook for general insurers
The most important near-term driver of stock performance for domestic general insurers is Motor claims, according to UBS.
The broker likes the sector for defensive characteristics, valuations and increasing return on equity (ROE), but remains wary of near-term motor claims and reinsurance headwinds.
The emphasis on motor insurance is not only because it is the largest gross written premium (GWP) contributor for Insurance Australia Group ((IAG)) and Suncorp Group ((SUN)), but also motor claims inflation was exceptionally high last year and the outlook is uncertain, explain the analysts.
Recent updates from leading A&NZ repairer AMA Group ((AMA)), and several US personal-lines insurers suggest to Jarden motor inflation remains persistent.
Despite improving immigration, AMA Group last week noted ongoing labour market tightness with elevated turnover driving higher labour costs and operational disruptions.
Having recently met with management at AMA, UBS doubts smash repair costs will decrease much this calendar year.
Smash repair times are widening for a range of reasons including longer wait times for parts manufactured offshore. As a result, insurers are writing off vehicles more frequently and purchasing replacements in the used car market.
Unfortunately, used car prices have increased recently, probably due to lack of supply, and increasing numbers of consumers are buying out leases, suggests UBS. While a gradual moderation in used car prices is likely, they are not expected to return to pre-covid levels.
In a relative positive for local insurers, Jarden observes second-hand car prices in Australia are now -8% lower than the first half FY23 average, compared to a 6% increase in the US following rises in early 2023.
Separately, UBS suggests the total gross bill damage from the Auckland floods in January and cyclone Gabrielle in February will exceed $10bn.
After reinsurance recoveries, UBS expects these two weather events will cost Sell-rated IAG and Suncorp (Buy) around -$350m and -$70m, respectively.
The broker lowers its forecasts for both companies after allowing for higher Motor claims, the impact of cyclone Gabrielle and lower running yields in the second half of FY23. However, a partial offset is provided by better pricing and a benign recent perils experience in Australia, and target prices are left unchanged.
Jarden also points to moderating second-hand car prices and accelerating motor pricing for Buy-rated Suncorp and IAG (Overweight).
UBS expresses a preference for Buy-rated QBE Insurance ((QBE)) in the sector as management simplifies, de-risks and turns around the profitability of its global operations.
Will migration to Australia be higher for longer?
The Federal Government's review of the skilled migration system is due for release next week, with reforms potentially being revealed ahead of the FY24 Budget on May 9.
Jarden notes there are expectations for the visa system to shift more towards permanent migration and offer more pathways to permanent residency.
Such changes could include re-establishing the pathway from student to permanent residency for certain skills, which would increase the attractiveness of studying in Australia for international students, explain the analysts.
This review comes at a time when the government has significantly improved turnaround times, which has helped reduce the visa backlog.
Indeed, since June 2022, Jarden notes a record 283,000 students and 37,000 temporary skilled employees have arrived.
Following a recent meeting with migration agents, the broker’s key takeaway was the recent shift towards regional migration, with increased demand for skilled employees in areas like mining, aged care and health.
While the analysts are hopeful sectors like mining will benefit from an easing in skills shortages, the housing crisis and rising cost of living is considered a potential deterrent for migrants generally.
The agents noted demand from both employers and migrants remained incredibly strong and a record 5.5m visa applications have been received since June, albeit many would already have already arrived in Australia.
While inbound enquiries have peaked, they remain well above pre-covid levels, suggesting to Jarden that migration could remain above pre-covid levels for some time.
Not only is Australia seen as an attractive destination, but the agents continue to see new corporate clients looking offshore to fill skills gaps.
Key sources of migrants remain India, UK and Asia. Importantly, Jarden points out Chinese visa applications (including for employment) have rebounded following the China reopening, which could help sustain migration at a higher level for longer.
Issues facing the private health insurance industry
Morgan Stanley anticipates structurally lower claims expense as Australia exits the pandemic and prefers private health insurers (PHIs) to hospitals.
The broker observes private hospitals are the most exposed to the evolving ecosystem of alternative care options, taking volumes out of the acute hospital setting.
Meanwhile, PHI players are seeking to change the nature of their relationship with customers to become their health and well-being partners via wearable technology, data and AI.
However, as mortgage arrears are on the rise, Morgan Stanley believes pressure on household budgets could translate to weaker private health insurance participation.
Claims per policy are also on the increase, and the broker suggests operational efficiencies within the funder/service models need to be found to attain system stability, alleviate pressure on premiums and, thereby, encourage greater private health insurance participation.
Hence, the analysts explore the cheaper funding alternative of increasing the use of standalone day facilities/“day in day” as separation locations, compared to the main practice of conducting “day in overnight” separations.
A patient separation generally occurs when an admitted patient is either discharged or transferred to another institution.
Meaningful savings to insurer claims could unfold if there were to be a proliferation of stand-alone day hospitals, given their lower reimbursement rates, explains the broker. These savings would come at the expense of profitability for overnight private hospitals.
Existing overnight hospital operators like Ramsay Health Care ((RHC)) are reluctant to engage in alternate care models and invest in the likes of standalone surgeries, given the impact on existing margins, observe the analysts.
However, if Ramsay does not participate, it’s thought margin pressure could eventuate anyway as other day providers gain share through their lower cost, higher margin offerings. Moreover, by expanding its day/short-stay facilities the broker feels Ramsay can systematically evolve.
If Ramsay did move into day facilities, PHIs would benefit from lower claims cost, system efficiencies and improved member retention, explains Morgan Stanley.
Equal-weight-rated Medibank Private ((MPL)) would potentially gain market share from growth in no-gap procedures, according to the broker. The company is already a direct participant in investing in the evolution of new care approaches via its short stay no-gap model.
Morgan Stanley prefers Medibank Private over nib Holdings ((NHF)), also Equal-weight, due to a stronger balance sheet and more palatable valuation.
Separately, the broker downgrades its rating for Ramsay to Underweight from Equal-weight and lowers its target to $60.60 from $67.10 due to a high valuation, issues from its stake in Ramsay Sante, increasing labour costs and an elevated borrowing level.
The drag from Ramsay Sante would be solved should Ramsay sell its 52.79% share for around $2.1bn (Morgan Stanley estimate). If the proceeds were applied against debt the broker's forecast outcome would be EPS neutrality in FY24 and 4% accretion in FY27.
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