Insurance Australia Group Ltd (ASX: IAG) hasn't exactly shot the lights out over the past 12 months.
IAG shares are down 11% since this time last year. By comparison the S&P/ASX 200 Index (ASX: XJO) is up 2% over the 12 months.
But things could be looking up for the insurance giant.
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Why IAG shares are looking compelling
Deputy portfolio manager at Yarra Capital Management Edward Waller admits insurance isn't perceived as a sexy industry.
Writing in Live Wire, he labels insurance as "complex, technical and mundane".
That aside, he adds, "For the first time in close to a decade we believe insurance is now compelling."
What's changing for the insurance sector?
Rising inflation and the near certainty of rising interest rates ahead could buoy the insurance sector and IAG shares in the year ahead.
According to Waller, "The sector is one amongst a handful that benefits from higher interest rates, with a 1% increase in rates equating to 10-20% earnings upside."
And insurance companies can match or top any broader increases in prices. Waller points out that home and car insurance premiums are rising by 5% or more per year with commercial insurance up 10% plus per annum.
Then there's the recent spate of natural hazards that have seen the insurance companies have to shell out big payments.
According to Waller, "After a surge in natural hazards, it 'probably can't get much worse'; the July to October 2021 period saw natural hazard costs at 8-times normal levels."
This, he said, has 2022 financial year earnings estimates for IAG coming in 20-30% below FY2019 earnings. But, "[u]nlike other sectors," Waller said, "we expect there will be no post-COVID earnings slump".
Why else are IAG shares appealing?
Atop currently low expectations and sentiment towards the insurance sector, Waller said the insurance companies' balance sheets look strong. "The sector raised billions in business interruption reserves, much of which of which we expect is surplus to requirements and will be returned to investors," he said.
IAG shares are also "attractively valued and trade in line with long run historic multiples". He said that's an "exception in the current market where 75% of Industrials are trading above long run average multiples".
Waller added (as quoted by Live Wire):
IAG, meanwhile, has been de-rated after experiencing 8-times normal losses in the first 4 months of FY22 – which we view as a genuine one off – and its $1.15bn in largely unnecessary business interruption provisions speaks to capital flexibility.
