The Beauty (and Money) in Selling Insurance

The market is cooling off... And that's OK... Whitney on Warren... The beauty (and money) in selling insurance... In praise of 'float'... Our team's latest insurance stock pick...

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Let's take a step back...

We've been writing early this year that the market could be due for a pullback. As our Ten Stock Trader editor Greg Diamond has warned – most recently in his latest Diamond's Edge video – he's seeing concerning technical "divergences" all over the market...

A big one is the entire S&P 500 Index moving higher while bond prices have been moving lower. That's typically a warning signal of volatility ahead, and right now, it's at least in part attributable to a recent rebalancing of inflation and interest-rate expectations.

Yet the S&P 500 Index is 6% higher since New Year's Day, which would be a nearly 40% annual gain if that pace were to continue for another 10 months.

Of course, we know nothing goes up in a straight line in the markets... Sure, wild speculations can make a parabolic rise right before the bubble bursts. But in a healthy market, ups and downs are normal.

And, apart from pockets of the market, U.S. stocks are generally showing healthy behavior...

For now, the broad U.S. stock market is churning higher...

Long-term technical trends have remained bullish, and market breadth is still relatively strong. Roughly 60% of stocks listed on the New York Stock Exchange ("NYSE") are trading above their 200-day moving averages, and the equal-weighted S&P 500 just hit a new all-time high on Friday.

Sectors of the market (like semiconductors and anything attached to AI) or isolated stocks (like Nvidia, Microsoft, or Super Micro Computer) may be exhibiting euphoric behavior. And the valuation of the S&P 500 is at roughly its highest level of the past 20 years, according to our Stansberry's Investment Advisory team's proprietary methodology.

But from the perspective of nominal prices and trends, it looks like, broadly speaking, Mr. Market could be taking an appropriately scaled "breather" after the year-end rally of 2023 and early returns of 2024.

That's not to say a breather can't turn into a huff-and-puffer... A larger pullback might still hit the markets, and it's always wise to be prepared for the outcome anyway. But as our DailyWealth Trader editor Chris Igou wrote to subscribers today, it looks more like a "cool off" scenario today than a short road to a crash.

From 'too good' to 'cool down'...

Late 2023 was just "too good," Chris wrote. By December, he noted, nearly 90% of the stocks on the NYSE were in a short-term uptrend.

That was after more investors started betting on the Federal Reserve cutting interest rates in 2024 and delivered generous double-digit returns for the major U.S. indexes.

Whatever the reason ascribed to a broad market move, though, this type of "everything is up" environment doesn't typically last long. We've seen it time and time again.

Chris used the 50-day moving average (50-DMA) of NYSE stocks as an indicator...

Back in December, more than 85% of stocks were in an uptrend. That kind of performance can't last forever. And that number is down to 60% today...

Now, this is a sign that the market's rally is a little weaker. Still, similar scenarios that Chris looked at over the past two decades don't suggest anything like an imminent crash. In fact, history suggests gains that outperform the market...

We tested what happens after the percentage of stocks above the 50-DMA falls below 70%. Take a look...

Since 2001, buying the S&P 500 after this signal has led to 2.4% gains in three months, 4.6% in six months, and a solid 9.3% over the next year.

What's more, the "win rate" in these instances was significant. The three-month time frame was the worst, with stocks up just 70% of the time. By six months, the win rate had risen to 80%. And the one-year rate was 84%. As Chris said...

In other words, yes... the market's rally is getting a little weaker. But the data shows that the "too good" moment in December doesn't have to lead to a bigger crash. History shows the opposite is actually true.

Overall, any bumps ahead are likely to be short-lived for the S&P 500. And you still want to own the market over the longer term.

This is why we always say to keep your timeline for your investments in mind.

A few more words on the contractor...

Yesterday, we shared a look at Berkshire Hathaway's (BRK-B) annual report – which was published on Saturday – along with Warren Buffett's Chairman's Letter and the tribute he wrote to his late longtime business partner Charlie Munger.

As I wrote yesterday, referencing Buffett's description of Munger as the "architect" and himself as the "general contractor" of Berkshire...

The tribute also gave great insight into why the pair were so successful working together through the analogy of the architect (laying out the vision) and the general contractor (executing it).

In short, Buffett and Munger understood and respected each other's roles and skills, which allowed the entire operation to flourish.

As we mentioned, Stansberry's Investment Advisory lead editor Whitney Tilson – who knows Buffett and knew Munger personally and knows more about Berkshire than any person I know – also shared some thoughts in his free newsletter yesterday.

Today, Whitney shared more of his highlights from Buffett's letter...

As he wrote...

He once again hit on many of the themes that I return to again and again in my daily e-mails: invest in high-quality, enduring businesses, hold for the long run, ignore the Wall Street casino, etc.

Of course, Buffett has been preaching these things for more than half a century.

And I – like so many others who (as I like to say) "pray in the church of the famed Benjamin Graham, David Dodd, Warren Buffett, and Charlie Munger" – am one of his happy followers.

So today, I'll share some of the highlights from his annual letter...

His highlights included Buffett's outline of the characteristics of the types of businesses he likes to own... his downplaying of expectations for Berkshire's stock... and his references to the "casino-like behavior" in the markets that we wrote about yesterday.

Read Whitney's full thoughts here.

And a few more words on insurance...

I want to add some more on one of my own highlights that I included yesterday: Buffett's description of just how well Berkshire's property and casualty (P&C) insurance businesses are doing in these days of higher prices and inflation.

Berkshire's insurance business set records in sales, float (which we'll get into in more detail momentarily), and underwriting profits in 2023... And, as Buffett noted, this business's volume has increased 5,000-fold, from $17 million to $83 billion, over the past 57 years.

I get that insurance sounds boring... and you may hate the concept of paying ever-rising insurance premiums for your health care, home, or vehicle. The fact is, though, that's why (the right) insurance businesses can be terrific investments.

As longtime Stansberry Research subscribers know, our team has long referred to the P&C insurance sector in particular as "the best business in the world." In P&C insurance, the insured event may happen today... or tomorrow... or in 20 years... or may never happen...

So, for companies that sell this insurance, potential profits (and losses – which is why underwriting ability is essential) can be higher than those of any other form of insurance.

Life insurance, for example, is based on the certainty of death, to put it in plain terms. On the other hand, while waiting for you to possibly crash your car or burn down your house, your P&C insurance company can invest the money you've paid it in your insurance premiums.

As Buffett explained in Berkshire's annual report (using P/C instead of our P&C style) of its insurance business, which includes Geico and others under the Berkshire brand name...

One reason we were attracted to the P/C business was the industry's business model: P/C insurers receive premiums upfront and pay claims later. In extreme cases, such as claims arising from exposure to asbestos, or severe workplace accidents, payments can stretch over many decades.

This collect-now, pay-later model leaves P/C companies holding large sums – money we call "float" – that will eventually go to others. Meanwhile, insurers get to invest this float for their own benefit. Though individual policies and claims come and go, the amount of float an insurer holds usually remains fairly stable in relation to premium volume. Consequently, as our business grows, so does our float.

Berkshire's insurance business had a combined float of $39 million in 1970. It was nearly $169 billion in 2023, which gives Berkshire tremendous flexibility and the ability to grow in myriad ways... including its rewards to shareholders.

The uniqueness of 'float'...

This should be old hat to longtime readers, but I don't think the concept of investable "float" can be explained enough.

As Stansberry Research analysts Bryan Beach and Mike DiBiase described in an issue of our Stansberry's Investment Advisory a few years ago, P&C companies and reinsurance companies (where the "customer" is another insurance company) get paid to use other people's money...

We often describe the P&C and reinsurance business as a two-headed monster. The first head is the insurance business – collecting premiums and paying claims. If the premiums you receive over time exceed the claims you pay over time, you're earning an underwriting profit.

There will always be a time lag between the premium you collect and any claim made against that policy. Sometimes, this time lag can be months... But it may be years or even decades later (malpractice insurance, for example). Sometimes, a policyholder never makes a claim... for example, a driver who dutifully pays for auto insurance every year but barely uses her car.

In the aggregate, these still-unclaimed premiums are known as "float." Insurers are free to invest the float for their own benefit. The earnings on float represent the second "head" of our insurance monster.

As Buffett said, this mechanism – and a successful managing of it – is why the P&C insurance business has been very good to Buffett and Berkshire for several decades and in various financial conditions... and why it "carried the day" in 2023.

How to find the right insurance stocks...

The thing is, though, for some of these same reasons why the P&C insurance business can be so profitable, it can be hard to pin down precisely what these businesses are worth.

In his Chairman's Letter this year, Buffett himself admitted to "wandering in the wilderness" of insurance operations until another partner, Ajit Jain, joined Berkshire in 1986.

For example, the insurance business goes through "hard" and "soft" cycles that make for better buying opportunities in P&C insurance stocks at certain times than others. The harder, the better... like today with still-high inflation and high demand for insurance...

In my experience, a relative few can and are willing to explain the insurance business to you – and the best investments to make in it – in an easy-to-understand fashion. Our team can do it like no one else in our industry.

In fact, we've been at this so long that in the latest issue of our flagship Stansberry's Investment Advisory, our team recommended an insurance stock that we've been waiting 16 years to buy again – when the price was right.

The time is now...

Four P&C stocks in the Investment Advisory portfolio have been trading at new all-time highs lately. But only one of these holdings is below its recommended buy price.

Fortunately, just this month, our team recommended another P&C insurance business. Its stock has gotten cheaper and cheaper in recent years as its insurance operations have gotten better and better...

More recently, the market overreacted to this company's latest quarterly earnings report, according to our team. They said this move presents a terrific buying opportunity... in Buffett's favorite type of business. This sector has proved to be inflation-proof in the past several years... and has rewarded shareholders for decades, as our team expects it to for years to come.

Existing Investment Advisory subscribers and Stansberry Alliance members already have access to all the details on our team's latest buy in the latest issue of our flagship publication. If you're interested in joining them, click here for more information.

You can get started with a subscription today for just $49 – that's 75% off the regular price.

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New 52-week highs (as of 2/26/24): AbbVie (ABBV), Applied Materials (AMAT), Broadcom (AVGO), American Express (AXP), Cencora (COR), Costco Wholesale (COST), Pacer U.S. Cash Cows 100 Fund (COWZ), Copart (CPRT), Salesforce (CRM), Cintas (CTAS), Commvault Systems (CVLT), Dell Technologies (DELL), Comfort Systems USA (FIX), ICON (ICLR), IQVIA (IQV), Iron Mountain (IRM), Micron Technology (MU), Nucor (NUE), Phillips 66 (PSX), Ferrari (RACE), Regeneron Pharmaceuticals (REGN), Sprouts Farmers Market (SFM), Sherwin-Williams (SHW), VanEck Semiconductor Fund (SMH), Cambria Shareholder Yield Fund (SYLD), TFI International (TFII), Tenaris (TS), Trane Technologies (TT), ProShares Ultra Semiconductors (USD), Visa (V), and Walmart (WMT).

In today's mailbag, thoughts about the next widely followed inflation number: the personal consumption expenditures ("PCE") index due out later this week, which we wrote about in yesterday's edition... Do you have a comment or question? As always, e-mail us at feedback@stansberryresearch.com.

"If the PCE comes in higher [I think] we'll definitely get the volatility... This past weekend I heard Larry Summers on Bloomberg talking about the Fed policy possibly needing a 'rate hike' in May which goes against everything the mainstream media has been reporting. Both institutional and individual investors have been waiting and hoping to hear about anything that could change the Fed's policy sooner rather than later..." – Subscriber Rodger G.

All the best,

Corey McLaughlin
Baltimore, Maryland
February 27, 2024