Munich Re (OTCPK:MURGY) offers a forward dividend yield of about 3.6% and is likely to announce a new share repurchase program in the near future, making it an interesting income play within the European insurance sector.
Munich Re is the world’s largest reinsurance company, having a diversified business model and a global presence. It’s based in Germany, but also trades in the U.S. on the over-the-counter market, while its current market value is about $50.6 billion. As usual within the reinsurance industry, it has a strong credit rating, measured by its AA- rating from S&P, which has been stable since 2006.
The company has a defensive business profile, and its culture is usually considered conservative, while Munich Re’s first business priority over the long term is solvency rather than profitability. Munich Re is the leading reinsurance company in the world measured by premiums, followed by Swiss Re (OTCPK:SSREF), which I’ve covered in the past, and Hannover Re (OTCPK:HVRRF).
The reinsurance industry is somewhat fragmented, considering that the four largest companies have a combined market share of about 51%, but there are many companies operating in the industry with smaller market shares. This means that the largest companies have some pricing power, but there is room for more concentration in the industry over the next few years.
Munich Re’s operating business is spread across the major segments, namely Reinsurance, Property & Casualty (P&C), and Life. Its largest segment is reinsurance, which accounts for about 67% of gross written premiums, while the rest comes from ERGO, the group’s primary insurance company.
Regarding its investment portfolio, it amounted to €228 billion at the end of September 2022, representing some 75% of the company’s total assets. Reflecting Munich Re’s conservative culture, its investment portfolio has a relatively low risk asset allocation, with the vast majority of investments allocated to fixed-income securities and loans. In these two asset classes, most investments are in government bonds, covered bonds, and mortgage loans, which have a low-risk profile.
Other asset classes with a higher risk profile have relatively low weights, such as equities that are about 8% of its investment portfolio, or real estate at less than 6%. This means that Munich Re’s investment returns are highly exposed to interest rates, while its sensitivity to capital markets (equities) is quite low.
Financial Overview & Dividends
Regarding its financial performance, Munich Re has reported relatively positive results over the past few years, even though its bottom-line can be volatile due to swings in its technical result, coming from higher claims costs than expected.
For instance, while its top-line has increased gradually in recent years, the company’s net income declined to €1.2 billion in 2020 (from €2.7 billion in the previous year), due to Covid-19 claims of about €2 billion during the year. This shows that unexpected events can have a significant impact on the company’s profitability, even though this does not put Munich Re’s ‘normalized’ earnings power at risk.
In 2021, Munich Re enjoyed a positive operating environment, with higher underlying earnings being able to offset higher claims costs related to Covid-19 and catastrophe losses. Its gross written premiums amounted to €59.6 billion, an increase of 8.5% YoY, due to higher pricing. Its net income was €2.9 billion in the year, more than double from the previous year, and up by 8.3% compared to 2019. Its return on equity (ROE) ratio was 12.6% (vs. 5.3% in 2020), a good level of profitability and close to its medium-term profitability target (ROE between 14-16% by 2025).
During the first nine months of 2022, Munich Re delivered a good set of results, with gross written premiums increasing to €50.9 billion (+14% YoY). This good performance was mainly driven by P&C reinsurance, which reported gross written premiums up by 22% YoY, supported by higher pricing as competition from alternative players has decreased due to tighter funding conditions in the capital markets. While this led to a much higher technical result during this period (€2.6 billion vs. €1.07 billion in 9M 2021), lower investment results resulted in slightly lower consolidated results in 9M 2022 (€1.9 billion) compared to the previous year.
Due to these positive results, the company increased its guidance for the full year, and now expects to generate gross written premiums of about €67 billion (+13.6% YoY, while previously was expecting €64 billion) and achieve a net result of €3.3 billion, which will be the highest annual income since 2015.
According to analysts’ estimates, Munich Re should be able to maintain a positive operating momentum in the coming years, and deliver some €75 billion in gross premiums written by 2025, while its net income is expected to be about €4.4 billion. This leads to a ROE of around 15.5%, which is close to the top of its target range, showing that Munich Re is likely to reach its profitability goals in the coming years.
Regarding its capitalization, Munich Re’s solvency ratio was 254% at the end of Q3 2022, a very good level of capital and also above the company’s own medium-term target. Indeed, as shown in the next graph, Munich Re’s target range is between 175-220%, thus it currently has an excess capital position and can therefore provide an attractive shareholder remuneration policy.
This strong level of capital is another reflection of its conservative culture, given that its strong balance sheet has been consistently among the best within the European insurance industry over the past few years.
This allows the company to deliver a growing dividend despite its short-term earnings volatility, which is positive for income investors as dividend visibility is quite good over the long term. Munich Re’s dividend policy is to provide a growing dividend in-line with earnings growth, with the previous year dividend as a floor.
However, even during years when earnings declined more than expected (such as 2022), it has historically maintained its dividend. This shows that providing a stable, or growing, dividend is paramount to its shareholder remuneration strategy, preferring to focus on dividend sustainability over the medium to long term, rather than adjusting its annual dividend to its earnings in a specific year.
Its last annual dividend was €11 per share, which represented an increase of 12% YoY. Investors should note that, like many European companies, Munich Re only makes one dividend payment per year, which reduces somewhat its income appeal. Related to 2022 earnings, its annual dividend is expected to grow to some €11.6 per share, which at its current share price leads to a forward dividend yield of about 3.60%.
Considering that its dividend payout ratio was 52% related to 2021 earnings and is expected to be about 49% related to 2022 earnings, its dividend is clearly sustainable and Munich Re can even be more aggressive and grow its dividend higher than currently expected, considering that its capital position is way above its target and does not need to retain much cash.
In addition to dividends, the company is also performing a share buyback program of €1 billion to be completed in the coming months, while a new repurchase program is likely to be announced in the near term as the company’s strong balance sheet clearly allows to both distribute a growing dividend and perform share buybacks in the coming quarters.
Munich Re is an interesting stock to own within a defensive and income-oriented portfolio, even though there are other high-yielding alternatives in the European insurance sector. However, its dividend is clearly sustainable and the company’s leading position in reinsurance as two strong factors supporting its dividend sustainability over the long term, a profile that is not easy to match by competitors.
Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.