Hartford Financial provides investment products, individual life, group life and group disability insurance products, and property and casualty insurance products in the United States. On Jan 12, HIG pre-announced 4Q09 core earnings of between $1.45 to $1.60 per diluted share. This was significantly higher than consensus of $0.83. But the pre-announcement includes about $0.26 gain related to after-tax DAC unlock benefit. Even without that one time gain, HIG easily beat the estimates and after an initial spike to ~$28.50, the stock has settled below $28.
On the fundamental side, here is an excellent piece by Credit Suisse regarding this announcement:
"In terms of valuing HIG, it currently trades at just 6x the high end of its normalized
4Q09 guidance, and 7x the low end, below both the life insurance (8.5x) and P&C peer averages (8x) using 2010 as the base case. We suspect the high end of this EPS range of $4.00 and $4.60 won't be viewed as relevant for forecasting future EPS though due to what likely to be an unsustainable level of P&C results. If we further examine peer multiples and consider that HIG closest competitor on the life insurance side, LNC trades just below an 8x P/E and some of the larger peers on the P&C side that aren't repurchasing shares (ALL and ACE) trade below 8x and 7x, respectively, we think an 8x P/E is too high, though a 7 to 7.5x P/E makes sense. Adding all of these variables together, we are sticking with our price target of $29, despite the increase in EPS estimates."
4Q09 guidance, and 7x the low end, below both the life insurance (8.5x) and P&C peer averages (8x) using 2010 as the base case. We suspect the high end of this EPS range of $4.00 and $4.60 won't be viewed as relevant for forecasting future EPS though due to what likely to be an unsustainable level of P&C results. If we further examine peer multiples and consider that HIG closest competitor on the life insurance side, LNC trades just below an 8x P/E and some of the larger peers on the P&C side that aren't repurchasing shares (ALL and ACE) trade below 8x and 7x, respectively, we think an 8x P/E is too high, though a 7 to 7.5x P/E makes sense. Adding all of these variables together, we are sticking with our price target of $29, despite the increase in EPS estimates."Despite the fact that the analyst didn't change the target price, there are two positives to be considered. One, the analyst community is bound to increase forward EPS estimates for 2010. Even without expansion in P/E ratios, the raised EPS should put a floor under the stock. Secondly, I expect HIG will provide in near term its plans to pay back $3.4 billion TARP through equity raise or by other internal means. As CS points out, that will actually be accretive to EPS as preferred dividend of 7.4% after tax will be eliminated.
Bottom line is I believe the stock is cheap relative to peers considering potential upside in EPS, below industry-average P/E and only 0.7x book value vs. industry average of 0.9x. The company reports earnings on Feb 8 and I believe the management will provide further clarity into 2010 which could follow analyst upgrades.
I will be a buyer going into earnings on Feb 8. However, I want to do this with a conservative option play. As such I like the following Skip-Butterfly trade:
- Buy to open 20 contracts of Feb $25 strike calls
- Sell to open 30 contracts of Feb $27 strike calls
- Buy to open 10 contracts of Feb $28 strike calls
The whole trade can be done for $2.20 debit as I write this note. The potential P&L chart for this trade as well as the daily chart of the stock is attached. The trade assumes that $26 will hold through Feb expiration as that was the level before HIG pre-announced. Additionally, the trade remains profitable if the stock stays here or goes further up.
Good luck!
