Progressive (PGR -0.97%) kicked off earnings season last week, and the results stunned investors. The blue chip insurance company announced earnings that missed both revenue and earnings per share estimates by analysts.
After its earnings announcement on July 13, Progressive stock plummeted 13% -- its largest one-day decline in two decades. Perhaps the most surprising development was the uptick in insurance losses for the historically steady business.
Progressive, along with other insurers, has struggled with the lingering effects of inflation on the cost of repairs and replacement vehicles. Here's what investors need to know about Progressive, the broader insurance industry, and where things go from here.
Underwriting losses ticked up in the second quarter for Progressive
At first glance, Progressive's earnings weren't too bad. Its net premiums written of $14.7 billion represented an 18% growth from the same quarter last year. It also posted a net income of $345 million, up from its net loss of $543 million last year. However, digging deeper, you'll find it struggled to maintain profitable insurance underwriting in the quarter.
The combined ratio is a key metric for insurers that tells you how profitable their insurance policies are. This ratio measures the losses plus expenses divided by total premiums taken in. A ratio under 100% means the insurer is writing profitable policies, and the lower the ratio, the better the underwriting profit.
Progressive has long been one of the best auto insurance underwriters in recent history, and it even earned the praise of Berkshire Hathaway's Warren Buffett and Charlie Munger. Its long-term goal is to maintain a combined ratio of 96% -- and it has done so every year since 2001. Investors were caught off guard when this ratio jumped to 100.4% in the second quarter.
Why Progressive struggled, and how it compares to the broader industry
Halfway through this year, Progressive's loss and loss adjustment expense (the portion of an insurer's reserves set aside for unpaid losses and costs associated with them) is up 25% from last year. Net written premiums have failed to keep pace, increasing 20% in comparison.
A few factors have weighed on Progressive's insurance business. For one, changes in a Florida law meant to benefit insurers resulted in a flood of last-minute lawsuits against insurers before the bill went into effect. According to Elyse Greenspan, an analyst with Wells Fargo, more than 70,000 lawsuits were filed in the week before the law change took effect. In response, Progressive set up reserves (like it would do during a hurricane) to account for the surge in lawsuits.
Not only that, but insurers have struggled across the board this year. According to S&P Global Market Intelligence data, property and casualty (P&C) insurers had an underwriting loss of more than $7.3 billion and a combined ratio of 102.2% in the first quarter of this year. It was the largest Q1 underwriting loss in 12 years.
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Insurers struggled amid several weather-related events to start the year. According to the S&P Global analysis, "across all lines, net incurred losses continued to increase at a rate well in excess of earned premiums. They rose nearly 22.1% in the first quarter while net earned premiums climbed 9.3%."
Auto insurers, in particular, have suffered their biggest loss ratios in almost two decades. These insurers struggled due to elevated inflation, resulting in higher costs for repairs and replacement vehicles -- showing that the lingering effects of inflation haven't gone away for insurers.
Why I'm not selling
As a long-term investor in the stock, I'm not too concerned yet. Progressive's losses aren't necessarily due to losing ground to the competitors. The entire industry struggled with profitability in Q1 this year.
While I don't intend to sell my stock any time soon, I will closely monitor how other insurers perform when they announce earnings later this month to see if this trend remains pervasive across the industry.
Progressive has a long history of stellar underwriting and should be able to weather this recent storm, which is why insurers can be a solid hedge against inflation. However, it does mean the company will have to continue raising premiums to return to profitability -- bad news for customers who have already seen premiums skyrocket in recent years.
