Aspen and Axis Report Q2 Results
-By Sam B | [email protected]
Aspen insurance (AHL) & Axis Capital (AXS), two Bermuda based insurance companies, reported results after the close on Wednesday. Both companies reported combined ratios that were higher than many of its peers. Aspen reported a combined ratio of exactly 100% while Axis had a combined ratio of 97.6% for the second quarter. The combined ratio is a closely watched metric in the insurance industry because it measures a company's underwriting results and is calculated by taking insurance losses plus general & administrative costs divided by net premiums earned. A ratio under 1 means that an insurer writes profitability. The chart below shows how Aspen & Axis compared to the industry since 2010.
AM Best, a U.S. based rating agency, said that the ratio deteriorated to 100.7% in 2016, but it expects an improvement to 100.3% in 2017. Aspen and Axis have, also, seen their expense ratios increase almost every year since 2003; this could be crimping overall profitability. 
Axis had said in its conference call in the second quarter of 2014 that it expected its G&A ratio to drop under 14% in 2016, but the ratio for the first 6 months of 2017 was 16.2% compared to 16% in 2016. Also, acquisition costs for Axis rose to 20.5% from 20%. Acquisition costs represent the costs that an insurer pays to originate or buy a policy: these costs can includes commissions to sales agents and other acquisition expenses. Aspen's G&A ratio was 21.1% for the first 6 months.
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Other notable names have not seen their combined ratios drop to such an extent. For instance, for the first 6 months of 2017, Chubb Limited recorded a combined ratio of 87.8%; Arch Capital Group reported a combined ratio of 86.6% and Everest Re reported a combined ratio of 88.3%. These companies have been able to produce combined ratios in excess of those in the industry.
Aspen reported a return of operating equity of 4% this quarter and 5.4% in Q1 compared to AXS of 8.6% this quarter and 4% in Q1. Each company's return on equity is precariously close to their cost of capital. Axis issued 5.5% preferred shares near the end of 2016. An equity discount rate should be a little higher than the preferred rate as it has slightly more risk.
Insurers, also, earn money from investment income. Aspen reported investment income of $47.4 million, a decline of 1.3% from last year and $95.1 for the first 6 months of the year, a decline of 2.5% compared with last year. Axis reported investment income of $106 million compared with $92 million last year and $205 million compared to $141 million last year. Axis tends to have a lumpier investment portfolio as its other investments tend to have wider fluctuations. In the first quarter of 2016, Axis's other investment lost $27 million compared to a gain of $19 million in Q1 of 2017. Both companies should benefit from rising interest interest rates, all things being equal.
A calculation of why this would be the case follows. As rates rise an insurer is able to better leverage. If an insurer has $150 of assets yielding 2% and $100 of liabilities, the liabilities contain $85 reserve for losses and $15 in bonds bearing interest of 1%. Assuming no underwriting profit , the assets would yield $3 ($150 * 2%) and the liabilities would pay 0.15 (15* 1%) or a profit of $3.35 and an ROE profit of $3.5 / $50 or 7%. If rates were to rise to 4% and bond yields rise to 3% then assets would earn $6 and liabilities would pay 0.23 and there would be a profit of $5.7 and an ROE of 5.7 / 50 or 11.55%.
Axis reported an acquisition on July 5th of Novae and says that the acquisitions "accelerates many of our stated strategic goals." The company completed its acquisition of Aviabel in April and recently announced the acquisition of Novae, making Axis a top 10 carrier in the Lloyds Market: "the acquisition of Novae would establish us as a top 10 carrier at Lloyd’s, which complements our position as a top 10 U.S. access and surplus lines player, and our leading positions in the global professional lines in reinsurance markets.Lloyd's."