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Insurance stock underperformance unjustified; growth outlook and franchise strength overlooked 

The material underperformance of life insurance stocks relative to the broader market in the last six months has been puzzling, given that the major challenges relating to second Covid wave losses and reinsurance price hikes are already known. Even after accounting for the recent softness in monthly new business volumes, the changes in fundamentals will not be enough to explain this. The impending mega IPO of LIC could be considered as one of the key reasons for the underperformance. To reflect the recent softness in new business volumes, we have tweaked our estimates, thus lowering our FY22-24E APE, VNB and EV estimates by ~2-12%, ~2-18% and 1-6%, respectively. Despite these adjustments, we see major upside in Life Insurance stocks and reiterate our positive stance as current prices seem to be pricing in too many near-term negatives while ignoring the growth potential of the sector and the franchise strength of top private life insurers. Backed by attractive valuations, we are upgrading IPRU to Buy from Hold. Our pecking order in Life Insurance is: SBILIFE (Buy, TP: Rs1,615), MAXF (Buy, TP: Rs1,110), HDFCLIFE (Buy, TP: Rs670) and IPRU (Buy, TP: Rs620).

Life insurance stocks underperform significantly: Listed private life insurers have underperformed the broader market materially in the last 3-6 months. And, the timing of this underperformance has been baffling as it has come when the Covid-19-led losses and the impact of reinsurance price hike on the protection business were already known to all and incorporated into estimates. The temporary softness in retail new business in Jan’22 and Feb’22 (private sector RWRP 2-year CAGR in 11M FY22 was still strong at ~11.5%), the upcoming LIC IPO and FII outflow could only partly explain this underperformance

Tweaking estimates to reflect recent developments: Private life insurers’ new business growth in Jan-Feb’22 was below expectations due to a combination of base effect, own product strategy and external macroeconomic factors. Going forward, we expect growth to be somewhat affected by the volatile equity markets and an inflationary economic environment. To reflect these developments and expectations, we have cut our FY22-24 APE and VNB estimates. Building in additional conservatism, we cut our VNB margin estimates as well. The EV estimates see a slight cut owing to the reduction in VNB assumptions.

LIC IPO does not change fundamentals of private players: Notwithstanding technical factors such as flows and rebalancing of weights by the funds, the impending IPO of LIC should not change the fundamentals of private players. From product offering to distribution to cost structure, private players are very different from LIC. In this context, the trend of private players expanding faster by targeting young and affluent customers with innovative product offerings will continue. Under the new segregated fund structure, LIC’s bonus rates in par products might reduce gradually, thus reducing its attractiveness.

Above sector average growth and stable margins look much conservative for private leaders: Amid the recent slowdown in new business, there have been some concerns around the growth outlook of these players. However, in the medium term, the sector is likely to grow in line with nominal GDP growth of ~11-12%. In addition, the private players should deliver relatively faster growth given their brand and distribution. On the margin front, the low hanging fruits have been largely harvested. Yet, continued support from operating leverage should help maintain margins despite potential unfavorable product mix changes. Additionally, a rising interest rate scenario should support margins in the near term.

Valuations turn favorable for the sector; upgrade IPRU to Buy: The current valuations of private life insurers seem to be completely ignoring the growth prospects of the sector, and within the sector, the franchise strength of these top-notch companies. Although we are slightly trimming our estimates and building in conservatism in valuation methodology by reducing terminal growth rates, the life insurance stocks appear attractively valued and offer a favorable risk-reward, in our view. The current market prices that imply ~12-28x FY23E VNB on FY22E EV seem to be completely ignoring the growth story. We are upgrading IPRU from Hold to Buy on favorable valuations. Our pecking order: SBILIFE (Buy, TP: Rs1,615), MAXF (Buy, TP: Rs1,130), HDFCLIFE (Buy, TP: Rs670) and IPRU (Buy, TP: Rs620)

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