Which Fire and Casualty Stocks?

Abstract

THE ARTICLE ON FIRE AND CASUALTY insurance stocks, entitled Pauper and Prince, by Shelby Cullom Davis, was a stimulating addition to the November, 1956, edition of the JOURNAL. Certainly it was timely. The casualty insurance stocks are almost friendless. Many are selling at low multiples of investment income and substantial discounts from net asset value. If the past is any criterion, present prices may appear extremely low when normal insurance profits are restored, possibly a year or two hence. Fortunately, the secular growth of the industry persists; though cyclical, each swing of the pendulum moves the stocks higher, the high forms a new plateau, and the ensuing low point is not as far down as its predecessor. It is difficult to go along with the emphasis Shelby Cullom Davis places on low multiples of investment income and large discounts from net asset value or liquidating value as the fundamental ratios. Basically, fire and casualty insurance sotcks are regarded as growth investments because the industry has moved ahead more rapidly than our economy, and underlying factors presage a continuation of this trend. If this premise is sound, then the values to be sought are those in the future. Discounts from the liquidating value of a concern not to be liquidated are relatively unimportant over the longer term, and present investment income is of less import than probable future income which can support larger dividend payments. The most successful investments in the fire and casualty insurance field have been the stocks of those enterprises which acquire new premium volume rapidly and earn better than average profits on such business. Primarily, growth of investment income is dependent on rising sales. The mere receipt of premium dollars provides investable funds and thereby additional assets augments revenues. This is true even if the new premium dollars result in only a breakeven profit-wise. Naturally, if satisfactory profits are realized, their retention supplies further income-yielding assets. Assets and investment income also rise due to successful investment. That has never been more true than during the past decade when the stock market moved sharply upward. Companies entrusting comparatively large segments of their new funds to common stocks consequently have experienced a more substantial increment to net asset value than have companies which placed major emphasis on fixed income securities. However, the market has not valued this type of asset amplification nearly as highly as the steady enhancement achieved through retained earnings. The assertion is made here that the fire and casualty insurance companies giving the best market performance have