How do you make insurance interesting?
Admiral Group, the FTSE 100 motor insurer, chose to theme its interim results this week around the work of spaghetti western director Sergio Leone.
Founder and chief Executive Henry Engelhardt explained at the top of Wednesday’s analyst meeting:
As most of you probably know, there are three films in his Man with No Name trilogy, and I think the Admiral half-year is summed up by one of these movie titles. I suspect you’ll think the same. But I’m going to leave it to you to choose which movie title to go with these results, the movies being A Fistful of Dollars, For a Few Dollars More and The Good, the Bad and the Ugly.
On your way out the door you’re going to find a table with pictures of these three movies on it and a box next to it; pick the one you think best summarises these results, drop it in the box, and we’ll get back to you later with the consensus view.
Fun!
Less fun.
The reasons for this 17 per cent decline are not simple. Admiral’s headline numbers matched forecasts — policies up 30 per cent, turnover up 50 per cent — but reserve releases were much weaker than expected. The spiralling cost of bodily injury claims meant Admiral had to bulk up its buffers for the last two years.
Why did no one see this coming? Driver injury claims have spiked in the past few years. The UK is, it seems, in the middle of a whiplash bubble, as peers such as RBS’s Direct Line had already warned.
Unfortunately for Admiral, the whiplash bubble was not in its price. The shares had previously been trading at 19 times 2011 earnings forecasts — which, for a specialist car insurer in a sector averaging less than 10 times forward, may look a bit generous.
As BarCap explains:
Until yesterday, Admiral appeared to have navigated around this issue. Admiral’s disclosure that it was now affected by this issue served to raise the spectre of future reserve additions, and tarnished its aura of invincibility.
A second problem is that the scale of injuries, much like the number of claims, has been escalating. Less whiplash, more broken bones; fewer crashes, higher costs. BarCap again:
It will be interesting whether this issue, distinct from the volume one, appears in other insurers’ results. Given Admiral’s previous record, it is perfectly conceivable that Admiral may have spotted a market trend first and addressed it first.
Perhaps. Or perhaps, Admiral’s pursuit of rapid growth over the past 18 months has led it to let risk controls slide. Redburn Partners analyst Paul Goodhind suspects as much:
Until yesterday the company appeared confident that it could manage a growth rate in policy count in the 30 per cent range while maintaining the quality of the book. Yesterday the tone was somewhat different with the company suggesting that it may have made some operational mistakes due to its high growth rate. This admission does not relate to specific identifiable mistakes that the company can point to, but rather an ex post rationalisation of the deterioration in the ultimate loss picks. These mistakes would most likely be in the area of risk selection or claims handling.
The jury will remain out regarding the extent to which recent growth will erode part of Admiral’s competitive advantage. It will take some time before the market can assess the extent to which recent ultimate loss volatility is random noise, or the start of a more worrying trend.
It appears many in the jury have already returned their verdicts.
But, more importantly, what of Sergio Leone? Which of his films best represents a set of numbers that has knocked nearly £700m off Admiral’s valuation since Wednesday morning?
An FT Alphaville exit poll of analysts points to a surprise victory for A Fistful of Dynamite (aka Duck, You Sucker!).
Related link:
Henry Engelhardt of Admiral plays long/short – FT video