You'll have to forgive investors in China Life (NYSE:LFC) for making more than a little merry this holiday season -- certainly more than investors in more storied insurers such as American International Group (NYSE:AIG), Allianz SE (NYSE:AZ), or AXA (NYSE:AXA). After all, these happy souls saw shares of China's largest life insurance company climb some 283% during 2006 as the company continued to gain market share, benefited from the easing of government restrictions that allowed it to increase its investment returns, and started its transition toward its stated goal of becoming a diversified financial holding company through the acquisition of stakes in companies such as CITIC Securities and Guangdong Development Bank.
Pretty heady stuff, isn't it? Well, so is China Life's valuation. After the run-up over the past year, shares of China Life currently trade at 35 times fiscal 2007 earnings estimates (I'm forgoing discussions of the traditional insurance price-to-book ratio, since I view the company as primarily a growth play at the present time). This is roughly a 11% premium to its projected five-year growth rate.
Is this valuation rich in absolute terms? Yes.
Is it reason for investors to unload their shares? My answer would be an emphatic no.
In my Foolish opinion, shares of China Life are likely to put in another year of premium performance in 2007, since the company should continue to benefit from its dominant share of China's underdeveloped life insurance market, the rapid aging of the nation's population, and the fact that shares are reasonably valued given the company's growth prospects.
Let's take a quick look, shall we?
China Life Insurance Company Ltd.
China Life is far and away the largest life insurance company in China. For the six months ended June 30, 2006, China Life reported that its share of the Chinese life insurance market increased to 49.4%, up from 44% at year-end 2005, well ahead of the 16% share held by its nearest competitor, Ping An. To say that the company's dominance in this underdeveloped market gives it tremendous growth opportunities is an understatement. According to a Swiss Re report, World Insurance in 2004: Growing Premiums and Stronger Balance Sheets, China had just a 1.9% share of global premium volumes at the end of 2004 (pretty minuscule when you consider China's population of 1.3 billion) with insurance premiums per capita of about $27, and a premium-to-GDP ratio of just 2.14%. To put these numbers in perspective, the global average for premiums per capita stood at about $292, while the premium-to-GDP ratio averaged 4.53%.
Now, growth opportunities in such an undeveloped market are obvious, but China Life should also benefit from a change in the country's demographic makeup -- namely, the rapid aging of China's population. According to a recent report by the World Bank, the percentage of people in China aged 65 or older will more than double by 2050, and will come to represent 25% of the county's total population vs. the current 12%. Just as U.S. life insurers are seeing a pickup in business as baby boomers age, so will Chinese life insurers, and China Life's dominant position has it in the proverbial catbird seat.
Sounds interesting, doesn't it?
But, as Bob Barker of The Price is Right fame used to say, "That's not all, folks." China Life is also reaping the rewards of the Chinese government's recent easing on certain types of investments, allowing the company to grow its investment returns. China Life reported that in the first half of 2006, its investment yield rose to 4.24% (4.54% if you exclude cash), compared with a 3.9% return in 2005 and up from a mere 3.4% in 2003. I believe that as the government continues to allow more investment flexibility, China Life's yield will inexorably climb to the 6%-8% return averaged by other global insurers.
Summary
In short, I believe the abovementioned factors -- the company's dominant share of an underdeveloped market, the potential growth of that market due to the rapid aging of China's population, and the likelihood of increasing investment yields -- should convince investors to stay the course with China Life, despite its relatively lofty valuation.
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Fool contributor Will Frankenhoff is enjoying his time writing for The Fool more than reading The Financial Times, rooting for the Jints, or taking a nap. He welcomes your feedback and does not own shares in any of the companies mentioned above. The Fool has a disclosure policy.
