It’s time to buy Insurance Australia Group Limited: Bell Potter

Insurance Australia Group Limited (ASX: IAG) dropped 2.5% on Thursday last week when the company downgraded 2013-14 revenue guidance but upgraded margins. While the general market was unimpressed, the analysts at financial planning and asset management firm Bell Potter believe it’s a good buying opportunity.

But first, a recap

IAG reported that insurance margins for the 2013-14 financial year would be between 14.5% and 16.5%, up from previous guidance of 12.5% to 14.5%, while its gross written premium (GWP) growth is expected to be in the range of 3% to 5%, down from 5% to 7%.

Why did the share price fall?

Indications point to analysts being unimpressed by the margin guidance, as it’s primarily due to greater than expected release of insurance reserves (i.e. the money held by the company to cover claim payments) and better returns from fixed-income investments. These once-off events are not considered to greatly increase the investment case for IAG, so much of the focus was on the disappointing GWP downgrade.

Now’s the time to buy

Despite that, the Bell Potter team believe that the price dip represents a good time to jump in for long-term growth. The broker notes that IAG has strong fundamentals, consistently delivering a return on equity around 20%, healthy margins expected to be around 13.5% going forward, and benefits to be seen from the acquisition of Wesfarmers’ insurance business in coming years.

Bell Potter’s 2013-14 earnings and dividend forecast put IAG on a price-earnings multiple of 12.2 and a yield of 5.4%, while Morningstar has a brighter outlook which puts the company on a price-earnings multiple of 11 and a yield of 6%. This compares favourably with peers such as QBE Insurance Group Limited  (ASX: QBE), which trades on a higher price-earnings ratio and a lower yield.

Foolish takeaway

IAG has been in the news recently due to its purchase of Wesfarmers’ insurance business and associated capital raising. Some negative publicity about the purchase and raising has resulted in the share price underperforming the broader market over the past month by around 3%. The team at Bell Potter consider the market’s reaction to be unwarranted and believe that now’s a good time to jump in for long-term returns.

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Motley Fool contributor Andrew Mudie owns shares in QBE

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