It's been a challenging year in the market, as the S&P 500 Index, Dow Jones Industrial Average, and Nasdaq Composite Index have all hit bear market territory at some point in the past few months.

In this market environment, its hard to find many winners. But some areas of the market have held up. Outside of energy stocks, some financial sector companies are doing quite well. Specifically, insurance companies have held up, with the SPDR S&P Insurance ETF little changed since the start of the year.

But one insurer has been crushing the market -- Kinsale Capital (KNSL 0.30%). The specialty insurer is up about 30% since the start of the year and earlier this week it hit a 52-week high. Here's what you need to know about this insurer.

Kinsale covers unique risks other insurers won't touch

Kinsale Capital writes insurance policies on hard-to-place risks, covering areas traditional insurers won't. The company operates in the excess & surplus (E&S) insurance market, writing casualty insurance policies in high-risk regions and professional liability in high-risk industries. Traditional insurers don't like to cover these areas because they carry the potential for higher losses than they are willing to take on.

State regulations for E&S insurers aren't as strict as those for traditional insurers, giving them flexibility about the types of policies they take on and more flexibility in the rates they charge customers.

Kinsale primarily makes money on the premiums it takes in. Last year more than 50% of Kinsale's premiums came from policies relating to small businesses, excess casualty, construction, and commercial property. Because companies like Kinsale have built up expertise on the specific risks they cover, they can face less competition and be quite profitable.

Insurers have been able to increase premiums for this reason

Many industries tend to be cyclical, meaning they go through periods of expansion, peak, contraction, and recovery. For insurers, the industry can undergo periods of soft and hard markets.

A soft insurance market is characterized by increased competition, lower loss levels, and increased capacity by insurers to provide coverage. Consumers prefer a soft market because it means cheaper premiums that don't increase much from year to year.

A hard insurance market is the opposite, characterized by higher insurance premiums, stricter underwriting, and less competition among insurers. Hard insurance markets happen when claims costs rise because of increasing catastrophes or litigation relating to claims -- which is precisely what has happened in recent years.

Insurers have recently faced increasing claims due to the pandemic, inflation, hurricanes, wildfires, and other natural disasters. As a result, insurers must raise premiums to maintain profitability. 

Kinsale is one of the best at writing profitable policies

Although the backdrop has been favorable for insurers, that doesn't wholly explain Kinsale Capital's success. Kinsale has done an excellent job of being selective about what it covers, which has helped it deliver profitable outcomes.

One metric to track when evaluating insurers is the combined ratio. The combined ratio is calculated by adding claims losses plus expenses, divided by the total premiums collected. A ratio under 100% is desirable, because it means a company is writing profitable policies.

Since going public in 2016, Kinsale Captial's combined ratio has averaged 82% -- which is unheard of in an industry where the average ratio hovers around 99%. (A lower ratio is better.) The company has maintained this impressive profitability through disciplined underwriting, modeling individual risks in its property portfolio, diversifying its lines of business, and using reinsurance -- essentially insurance for insurers -- to limit potential losses. 

A bar chart shows Kinsale Capital's combined ratio vs. the industry average since going public in 2016.

Data sources: Kinsale 10-K Filings, National Association of Insurance Commissioners. Chart by author.

This discipline was evident in the third quarter. In September, Hurricane Ian hit the west coast of Florida and ended up being one of the costliest storms in U.S. history. While some insurers faced significant losses, Kinsale navigated the storm and ended the third quarter with a combined ratio of 83.6% -- slightly above its historical average, but stellar nonetheless. 

What to expect from Kinsale, and the industry, as we advance

Although the industry now is in a hard market, if inflation were to subside or catastrophe costs were to fall, the industry could enter another soft market -- benefiting consumers, but not insurance companies.

However, analysts expect the hard market to persist. According to Goldman Sachs, the hard insurance market will likely continue in 2023, saying that "inflation, geopolitical uncertainty, and natural catastrophe will maintain upward pressure on pricing." Kinsale Chief Operating Officer Brian Haney echoed this sentiment, saying he expects losses from Hurricane Ian to prolong the hard market. 

Insurers have thrived this year while most other industries have struggled. Their ability to adapt prices to inflationary pressures make them attractive investments. Kinsale is one of the best in the industry at identifying and writing profitable policies, and continuing tailwinds make this a stellar stock you can add to your portfolio today.