Investors who've only seen success since 2010 may be shocked by the severe downdraft in growth investments, and seeking safer homes for their money. While its peers and the overall market take a beating, insurance and investing conglomerate Markel (MKL -0.78%) is thriving. Here's why Markel may offer one solution to the uncertainty, inflation and rising interest rates currently accelerating investors' fears.
1. Markel's insurance arm only chases profitable business
All property and casualty insurers face two significant headwinds that make predicting future insurance claims difficult. The first notable headwind is increasing litigation over liability. Over the years, as more people have become determined to sue the party deemed responsible for a mishap, juries have awarded larger and larger settlements. Ultimately, insurers pay these unforeseen large settlements.
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Second, climate change is causing more extensive and unpredictable payouts for insurance companies. Many experts think climate change will cause more frequent extreme weather events, making it harder for insurers to set aside enough money for future claims.
When aggressive insurers attempt to gain more business by pricing insurance policies lower than competitors, they put themselves at greater risk of paying unexpected future claims. And when those insurers pay out more in claim costs than they collect in premiums, they lose money, which often leads them to bail out of whatever line of business is costing them dearly, leaving fewer companies competing for the same customers. By jumping into the markets that its rivals abandon, Markel gets to charge more for its premiums and reap higher profits. Markel's experience in deciding which businesses to enter and exit has come in handy over the past two years -- it has navigated high settlement awards, pandemic disruptions, and increased costs from weather-related events, yet still increased its profits in 2021.
Profitable insurers generate combined ratios lower than 100 -- the lower the ratio, the greater the profit. Markel lowered its 2021 combined ratio to 90%, versus a pre-pandemic 2019 combined ratio of 94%. Markel's 2021 number is its fourth-lowest combined ratio in the past 30 years.
Markel earned those profits while writing even more policies. Its $8.49 billion in gross written premiums, up 18% year over year, led it to record underwriting profits of $628 million in 2021, up 390% in the same period. Clearly, Markel is finding more areas to write profitable insurance even while it reduces some unprofitable lines.
Markel's insurance segment is presently hitting on all cylinders, but insurance is a cyclical business. As a result, many investors are uncertain about how long the company can continue to charge more for the protection it sells. However, during the company's earnings call, Markel's CEO Richie Whitt mentioned that he expects rate increases to continue across most of its insurance lines in 2022. Even if Markel cannot maintain those higher prices, investors should be comforted that Markel's history indicates that it will avoid the trouble of taking on unprofitable business.
2. Markel Ventures is steadily growing profits
Markel uses its ample stores of equity – including its "float," the premiums it's collected that it hasn't yet paid out as claims – to acquire controlling interests in promising businesses that produce value over the long term. Its Markel Ventures division seeks profitable companies with good returns on capital, low debt, talented management teams with integrity, businesses with reinvestment opportunities, or excellent capital discipline -- all available at a reasonable price. This model has worked for Berkshire Hathaway (BRK.A -0.30%) (BRK.B -0.26%), and it's working for Markel on a smaller scale.
Markel Ventures's first acquisition, AMF Bakery, had only $60 million in total revenues and EBITDA of approximately $5 million when the company bought it in 2005. Over the last 16 years, Markel Ventures's portfolio has grown to over 20 companies, producing operating revenues of $3.6 billion and EBITDA of $403 million.
3. Markel's investment portfolio books strong performance
Markel also invests its surplus equity in what most investors would call value stocks -- profitable, low-debt companies with talented management teams. According to the website Institutional Investor, studies show that rising interest rates favor value stocks outperforming growth stocks since inflation and rising interest rates eat into their expected future gains.
Markel returned 29.6% on its equity portfolio in 2021 versus the S&P 500's 26.89%. With the Fed poised to raise rates aggressively, Markel's equity portfolio seems likely to keep performing well.
Cautious optimism
Markel ended 2021 with all of its business units operating very effectively. For the year, Markel's total operating revenues rose 28% year over year. Its operating margins surged by more than 122 percentage points, to 25.2%, while its net income shot up by 198%. Those results have fueled a 20.53% year-to-date increase in Markel's shares, compared to 15% growth for the property and casualty industry, and a 4% loss for the S&P 500 as of March 27, 2022.
With Co-CEO Richie Whitt still seeing opportunities to raise premiums in the insurance segment, and the market presently favoring the company's equity investments, investors looking for a safe harbor should consider investing in Markel.
