Is QBE finally back on track?

Just a cursory glance at the share price history of QBE Insurance Group (ASX:QBE) is enough to scare most investors away. After hitting a high of around $34 back in 2007, the stock has more than halved to around $15. But a new management team seems to be steering the business in the right direction, and many analysts see QBE as a turnaround story.

As with many of the larger capitalisation stocks on the ASX, the Australian Eagle investment team has followed QBE from the early 2000s when then management successfully expanded internationally and domestically, buying many niche insurance businesses and leveraging the company’s advantage in pricing risk. Even though QBE today looks very different, our understanding of the drivers of the company and the share price remain fundamentally similar.

After many false starts with different management teams, it seems the planets are beginning to align and the company is returning to the performance last seen when John Cloney and Frank O’Halloran were in charge in the late 1990s and early 2000s. Subsequent CEOs prepared the platform by attempting to simplify an incredibly complex business, selling or closing unprofitable insurance lines and cutting costs. The new CEO – appointed in September 2021 – turned a loss-making North American insurance division into a profitable region within 18 months by exiting some unprofitable lines, targeting growth to reach scale and reducing volatile legacy exposures through reinsurance.

With the North American turnaround coinciding with higher inflation and interest rates, the most recent results announcement in February 2023 confirmed our investment thesis for QBE. The company continues to experience high single-digit gross written premium growth in addition to a welcome rise in investment returns from its $28.8 billion investment book. Investment income grew from $382 million to $567 million mainly due to the recent increase in bond yields on a shorter-duration portfolio of bonds. Management has continued their prudent approach to riskier areas with a broad-based reinsurance transaction that de-risks exposure to North America and International long-tail claims. Another shrewd move was to reduce exposure to lenders’ mortgage insurance in Australia, especially as cost-of-living and rising rate expenses begin to bite. We take the view that the judicious de-risking of the insurance book will reduce earnings volatility from insurance and expose shareholders to the benefits of rising premiums and the potential upside of higher returns from investments. Additionally, this may lead to a re-rating of QBE from its currently modest 10-11x PE ratio.

The FY23 outlook provided by management presents a picture congruent with our short-term expectations for mid to high single-digit gross written premium growth, continued profitability in the insurance underwriting division, and a significant improvement in the 2022 exit yield of 4.10 per cent for the investment book. Our positioning has expressed our confidence QBE has been structured to benefit from the industry tailwinds of higher premiums and higher interest rates while limiting the downside risks such as the effect of inflation on large long-tail claims.