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Morningstar | Allstate’s Results Are Still Strong in 3Q, but Tailwinds Are Fading

We think Allstate has been operating in something of a sweet spot in terms of the pricing cycle, and that recent underwriting margins are unsustainable. While performance remains strong in an absolute sense, with the company generating an impressive annualized adjusted ROE of 16% year-to-date, third-quarter results suggest that mean reversion might be starting to kick in, supporting our longer term view. We will maintain our $84 fair value estimate and no moat rating.

Auto lines have been the key source of strength recently, as strong pricing increases have more than offset a previous rise in claims. However, we see this as a cyclical phenomenon rather than an improvement in the company’s competitive position, and expect to see the impact fade over time. Allstate brand auto continues to see decent pricing increases, with a 3% increase in average premium during the quarter. However, underwriting margins deteriorated a bit with the underlying combined ratio (which excludes catastrophes and reserve development) increasing to 92.5% during the third quarter from 91.1% during the same period last year. We expect further mean reversion over time as the impact of pricing increases fades.

Homeowner lines saw a similar trend in profitability, with the underlying combined ratio for the Allstate brand ticking up to 65.4% during the third quarter from 61.2% in the year-ago period. While management attributed this primarily to a higher level of noncatastrophe weather events, we would note that this marks a continuing trend toward lower underlying underwriting profitability in this line of business.

Our other concern with Allstate is its long-term growth prospects, as market share is shifting away from the captive agent channel. This is Allstate’s core market, with the company having shown little ability to grow profitably in other channels. On this front, the quarter was decent when compared with recent results, with the company reporting 2% and 1% year-over-year increases in Allstate-branded auto and homeowners policies in force, respectively. Still, we think these levels highlight how difficult it will be for Allstate to achieve meaningful growth absent pricing increases. Further, we have concerns that management’s push for growth will lead to further acquisitions in areas that lack a strategic connection with the core business.