Submitted by 2ndSifter t3_zy8y3e in wallstreetbets
TLDR; Insurance companies are investment banks at their core. They take premiums earned and invest that capital in securities, stock, and debt. This model works because the likelihood of paying out on a policy is relatively small. However, they must still keep capital on hand in the event that lawsuits, unexpected events, or catastrophes occur. Progressive is currently incurring significant losses on existing investments while simultaneously reeling from natural disaster claims.
SUMMARY:
Historically speaking, many insurance companies have been consistent safe havens for investors to park their cash. This is because insurance companies don't face the complex macroeconomic constraints that come with selling a tangible product. There are no manufacturing costs, shipping fees, or commercial real-estate costs for brick-and-mortar stores. They usually only offer an intangible contract of insurance for consumers, and typically don't even frequently have to pay out on the policy.
However, they don't simply just take the premium you pay to insure your car or home and sit on it; they reinvest it in other assets like bonds, government securities, and MBS. This is where they make the shift from an insurance company to an investment bank.
​
​
Net losses of ~$7B with fixed maturity assets leading the way.
Now of course these numbers look bad, but for the sake of due diligence, we have to consider more than just losses on portfolio investments for a set quarter to determine a company's solvency and feasibility as an investment. A company can perpetually stay billions of dollars in debt, yet remain above water for years. As a matter of fact, the majority of companies are.
So then what should be the red flags to look out for if billions of dollars in losses aren't enough?
As I mentioned before, debt and/or loss across a period aren't necessarily a cause for concern. Over the past two years, there actually hasn't been much that has raised investors' red flags. Now that macroeconomic conditions are shifting, value and balance sheets are slowly becoming relevant again. So let's take a look.
​
Progressive nets 1.8% of revenue from ~$49B in revenue.
I've highlighted the information that I immediately look for when I pull up a chart. Is the company making a profit? Is the Price-to-Earnings ratio reasonable? Does the volume profile indicate that a small dollar volume could be manipulating the price?
Here we can see
1.) Net income to revenue suggests that PGR is not efficiently generating capital from operations.
2.) Price-to-Earnings ratio is abnormally high suggesting that PGR is not valued appropriately
3.) A small volume indicates that a small amount of share purchases can manipulate the stock price to the upside.
These are all red flags that in the past few years could be ignored, but are rapidly regaining relevance as investing capital sparingly in companies that reflect value back to the investor becomes a necessity.
But I digress.
​
Digging deeper into the vacuum of capital that makes up an insurance company's balance sheet, we can see that Progressive has a net cash position of $365M. Their net debt greatly outweighs the amount of quickly accessible cash on hand, but this could be long-term debt that is not rapidly approaching maturity.
​
Another metric that can be useful is shown above. Here we can see that there are 587M shares outstanding, and 86% of those are owned by institutions. An average daily volume of ~2.5m shares suggests that many institutions have been buying and holding shares for long-term investing, driving the price up as they go. The beta of PGR is 0.46 indicating that overall, PGR is a low-volatility stock with consistent upward momentum.
But is it a good value?
Although the stock price action has been relatively consistent over time, a number of variables could quickly shift sentiment. If any institution that owns a large block of shares is forced/decides to liquidate for any reason, the large increase in volume to the downside would significantly shift momentum since it is not an incredibly liquid stock.
Progressive's investments may incur significant losses, further increasing risk. This is especially true for their security holdings profile.
​
Largest investment held in BBB-rated corporate debt
​
​
Further volatility in the housing market or treasury securities may exponentially compound losses
Progressive operates in the industry of insurance, but with a majority of its earnings reinvested into securities and equity markets, a bulk of its profitability depends on its investments. It is an investment bank at its core, and I believe that it is not appropriately valued as such.
The value of the stock is increasing, yet the put/call open interest ratio is not tracking.
I do not necessarily believe that Progressive is plummeting toward insolvency, there may be significant value to be found here. Put option contracts are abnormally cheap for the risk involved in the industry during macroeconomic conditions such as this.
It's difficult to find value in options nowadays, but I've noticed that some options expiring even a YEAR from January are still trading in the money for a fraction of the cost of other put options with similar expiries. This comes with the risk of a lower open interest, but only until institutions come to the same conclusion.
That the value of PGR has completely decoupled from reality.
YallGotMemes t1_j24igal wrote
God actually good DD turns me on so much