China Life Insurers: Rebound in premium growth presents a huge turnaround opportunity

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With the recovery in premium growth, we foresee a turnaround in China’s life insurance industry across this year. Here’s the two stocks we are optimistic on.

We think that much of the negativity surrounding the China insurance sector is priced in, with the recent rebound in premium growth providing a key catalyst for the industry.
As life insurers adjust their business structures towards long-term protection-type products, the industry is expected to undergo a sustainable and healthy recovery.
The easing of the previous toughened regulatory stance will also drive the recovery of market sentiment surrounding the insurance industry.
We value Ping An Insurance (HKEX: 2318) and China Life Insurance (HKEX: 2628) at HKD 100 and HKD 29 respectively.

What happened to China’s insurance industry?

Chart 1: Stock prices of China’s life insurers tanked amid dovish yield environment

Started in early 2018, catalysed by the Anbang scandal and a surge in China’s financial leverage to dangerously high levels, the China Banking and Insurance Regulatory Commission (CBIRC) began a crackdown on illegal shadow banking activities in the market. As supervision of the insurance industry tightened, regulators imposed a ban on the “short-term” high-yield wealth management products (WMP) on a short notice. Overall premium and underwriting revenue declined across last year, as insurers scrambled to make necessary structural adjustments in their product portfolios towards long-term protection-type policies.

At the same time, Chinese life insurers have reported in a sharp decline in their investment income last year. China’s dovish yield environment and lacklustre equity market last year have rendered it highly difficult for insurers to generate positive returns on their investment portfolios. Faced with a double whammy of a decline in underwriting revenue and investment income, the stock prices of China insurers like Ping An and China Life fell -18.7% and -34.0% respectively last year (Chart 1).

While we think that the dovish yield environment in China is likely to persist across 2019, much of the negatives have already been priced in. With a rebound in premium growth in sight for the next two years, we foresee a positive re-rating in the sector, which will lift insurers’ valuations back up from the current historical lows. We remain optimistic on life insurers Ping An Insurance (HKEX: 2318) and China Life Insurance (HKEX: 2628), given their strong fundamentals and dominant foothold in China’s life insurance industry.

(Related Article: Ping An Insurance Group: Undervalued insurance titan with huge growth potential)

Rebound in premium growth rate a positive catalyst for industry

Chart 2: China’s life insurance premium growth poised for a rebound after last year’s disappointment

China’s life insurance sector is expected to see premium growth rebound over the next two years. Premiums for life insurance are expected to resume an annual growth rate of over 10% in 2019 and 2020, ricocheting back from the negative growth last year (Chart 2). Thanks to strong underlying demand for insurance products in China, the country is expected to lead globally in premium growth rate again.

Due to a low base of comparison in 2018, the gross written premium (GWP) of China’s life insurers should have a relatively low bar to clear this year. Last year, the CBIRC’s heightened regulations on savings-type products coincided with 2018’s New-Year sales season (开门红), which resulted in a sharp -24.3% decline in policy sales from the prior year. As Chinese insurers quickly adapted to the industry transition, focusing more on protection-type products with wider margins, growth of GWP gradually traced back towards positive territory in the following months (Chart 3).

Chart 3: Growth in insurance premium picking back up after the sudden regulatory shock at start of 2018

Sustainable rebound in premium growth as industry focuses on protection-type products

As major insurers complied with regulators via a transition towards protection-type products, premium growth has rebounded quickly in 2H18. Monthly gross written premium (GWP) growth recovered strongly in 4Q18, reaching averaging close to growth rate of 30% year-on-year (Chart 4). We expect premium growth to continue, as Chinese consumers’ demand for protection-type products such as health insurance and pension insurance remain persistent.

Chart 4: Growth of gross written premiums has improved significantly in later portion of 2H18

Given the long-term nature of protection-type insurance products, we also believe that the rebound in premium growth of the industry is sustainable moving forward, driven primarily by a combination of first-year premiums (FYP) growth and a recovery in renewal premium growth. With protection-type products such as health insurance playing a bigger role in insurers’ product mix, we can expect renewal premiums to be on a steady ascent.

At the same time, China life insurers should continue to revive FYP growth over the coming quarters, driven by a stable economic backdrop and a wealthier and fast-aging populace. Ping An’s FYP rose 15% year-on-year (YoY) in 2H18, retracing up from a negative -5% YoY growth in 1H18, while China Life is expected to soften its growth decline in 2H18 (Chart 5). The top two life insurers by market share is also among the earlier ones to shift to long-term protection policies from short-term products. The recovery in FYP will also drive growth in new business value (NBV).

Chart 5: First-year premium growth staging a recovery from sharp decline in 1H18

Easing of toughened regulatory stance helpful for sentiment recovery

Starting this year, we expect to see a gradual easing of the toughened regulatory stance previously imposed on the industry. While still the major part of life insurers’ product portfolios, the industry has actively reduced their reliance on short-term high-risk product offerings, especially investment-linked insurance and high-yield wealth management products (WMP).

More recently, Chinese regulators (CBIRC) took turns to lavish praise on the improved stability and structure of the industry. They have cited that the insurance sector has shown a stronger capacity to fend off risks, with its overall leverage back to acceptable levels and business structure improved. This comes as the industry’s core and comprehensive solvency ratio has recorded improvements in the later parts of last year. We believe the improving sentiment will serve as a catalyst for a positive re-rating in the sector, especially as the one-off effect of last year’s WMP shock fades.

As regulators become more lenient, we can also expect a recovery in life insurers’ GWP on savings-type products. Savings-type policies, such as endowment and annuities, is likely to gain appeal among Chinese customers in the near term.

Ping An and China Life Are Our Top Picks for China Insurers

We are optimistic on the top two China life insurers Ping An Insurance (HKEX: 2318) and China Life Insurance (HKEX: 2628), given their strong fundamentals and dominant foothold in China’s life insurance industry. Together they account for almost forty percent of all gross written premium in China last year.

We value Ping An at HKD 100 and China Life at HKD 29, which represent potential upside of 25% and 36% respectively (based on closing prices on 22-Feb-2018).

Our fair value of HKD 100 for Ping An is derived using a Sum-Of-The-Parts (SOTP) methodology, due to its nature as multi-segment conglomerate. The calculations for the SOTP valuation are tabulated in Table 1.

Table 1: Sum-Of-The-Parts Valuation of Ping An Insurance Group

Business Segment	Method	Multiple	Per Share (HKD)
Life Insurance	P/EV	1.2X	69.4
Non-Life Insurance	P/B	2.3X	17.3
Banking	P/B	0.65X	6.5
Securities	P/B	0.75X	1.5
Other Businesses	P/B	1.0X	5.7
Total Per Share			100
Source: Bloomberg, iFAST Estimates.

Chart 6: Life insurance segment constitute majority of Ping An’s SOTP valuation

Our fair value of HKD 29 for China Life is derived by applying an industry average’s price-to-embedded value (P/EV) multiple of 1.0X on the estimated embedded value per share (EVPS) of HKD 29. China Life’s current P/EV ratio of 0.7X is at historical low levels, which we think has fully reflected the negative sentiment (Chart 7).

Chart 7: China Life’s P/EV ratio is lower than peers’ average and is at historical low

With the recovery in premium growth, we foresee a turnaround in China’s life insurance industry across this year. Looking further ahead, the underpenetrated China insurance market and fast-aging population drives the secular growth trend in this industry. In addition, the current valuation of the sector is undemanding and provides decent upside potential, especially after the sector sell-off last year.

Stay tuned for our next article to find out what else we like about Ping An Insurance (HKEX: 2318) and China Life Insurance (HKEX: 2628).

Declaration:

For specific disclosure, at the time of publication of this report, IFPL (via its connected and associated entities) and the analyst who produced this report hold a NIL position in the abovementioned securities.

The Research Team is part of iFAST Financial Pte Ltd.

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