The financial sector, which includes both property and casualty as well as life insurance businesses, had a hard time coming out of the financial crisis. This becomes clear when realizing that large-cap insurance companies continue to trade at meaningful discounts to book value -- six years after the financial crisis struck.
Share prices of major insurance companies like MetLife (NYSE:MET), Prudential Financial (NYSE:PRU), and American International Group (NYSE:AIG) have largely disappointed investors yet again in 2014 with marginal gains year to date: Of the three insurance companies, only American International Group's shares returned 4%, whereas shares of MetLife lost 1% and shares of Prudential Financial 6%.
Focus on Asia
U.S. insurance companies did have to fight an uphill battle after the financial crisis hit in 2007-08, and the cards in the industry were reshuffled thanks to American International Group's troubles in its Financial Products division that threatened to bring down the entire U.S. financial system.
The ill-advised speculation on credit default swaps in AIG's Financial Products division ultimately led to the bailout of AIG and, as a result, precipitated the divestment of AIG's stake in Asian insurance company AIA in 2012.
The Asian market is highly attractive for U.S. insurance companies because of its potential for incremental earnings growth. It is easy to see that Asian markets are still mostly underserved in terms of insurance policies (P&C, Life, Health etc.) given that its population is generally much younger compared to Western countries, and that Asian insurance markets are still developing.
According to a 2014 study from accounting firm Ernst and Young, the Asia-Pacific region is expected to do extraordinarily well over the next couple of years, with the "region's share of the global middle class to nearly double, rising from 28% in 2009 to 54% in 2020." This will have positive implications for the insurance industry.
As such, insurance companies with exposure to the Asian growth story make a strong selling point. Contrary to AIG, which sold its stake in AIA in order to pay back the government for its bailout, MetLife still benefits from strong operating earnings growth in this promising geography.
In 2013, Asia contributed almost 20% of MetLife's total operating earnings, and further increases, underlining Asia's importance for MetLife's incremental earnings growth, are likely going forward. From 2011 to 2013, operating earnings growth in Asia has outperformed non-Asia operating earnings growth by 4 percentage points in reported and 10 percentage points in constant currency terms.
While investors certainly need to account for the impact of currency volatility, the benefits of being present in an appealing growth market with high demand for middle-class insurance solutions are clearly outweighing concerns about fluctuating exchange rates.
Digital life insurer
To support policy distribution and to further its goal of becoming Asia's leading digital life insurer, MetLife has pushed its digital presence in order to capitalize on e-commerce opportunities. Its award-winning mobile platform offers MetLife access to consumers, streamlines sales and claims processes, and supports stronger customer relationships -- which in turn could lead to market share gains and higher earnings as a result.
From a valuation perspective, insurance companies are still extraordinarily cheap -- and this is particularly true for companies like MetLife that have exposure to attractive growth opportunities in nonsaturated geographies like Asia.
All large-cap insurance companies, AIG, MetLife, and Prudential Financial, trade at discounts to their respective book values -- to varying degrees. AIG currently still faces the largest book value discount of a whopping 30%, whereas MetLife and Prudential trade at only 14% and 3% discount from their book values, respectively.
While MetLife's 14% discount to book value is appealing considering that it is an insurance company with growing earnings, it becomes even more appealing when realizing at what valuation multiples MetLife traded at before the financial crisis.
Metlife has historically traded at much higher valuation multiples than the ones at which it trades now. A lot of it has to do with how investors see the earnings prospects of the entire insurance industry and how euphoric investors are in general. As such, it comes as no surprise that MetLife, like other insurance companies, traded at much higher P/B ratios in a period of exuberance preceding the economic collapse in 2006-2007.
While a P/B multiple of 1.5 times is at the higher end of MetLife's historical valuation spectrum, it still goes to show that MetLife's equity valuation has much more room to grow in a period of economic expansion.
The Foolish bottom line
MetLife is an interesting business for long-term investors who want to bet on increasing insurance company valuations in an environment of stronger economic growth. MetLife's exposure to and reliance on Asia to drive earnings growth as well as its ambition to becoming a digital life insurance leader justify a higher equity valuation for one of the largest insurance companies in the world.
Kingkarn Amjaroen owns shares of American International Group. The Motley Fool recommends American International Group. The Motley Fool owns shares of American International Group and has the following options: long January 2016 $30 calls on American International Group. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.