ALIZY - Allianz: I Will Stay On The Side Of Caution

2023-10-24 08:36:40 ET

Summary

• Allianz is reporting solid results for the first half of fiscal 2023 and the insurance business is performing well.
• Asset management declined in the last few quarters, but stabilized again in the recent past.
• The stock seems to be undervalued at this point and the technical picture is also hinting towards a possible bullish breakout.
• But the risk of a looming recession and bear market should make us cautious, as Allianz performed horrible - especially the stock - in past recessions.

My last article about the German insurance company and asset manager Allianz (ALIZF) (ALIZY) was published half a year ago and in the article, I argued that caution is advised in the case of Allianz. Since my last article, Allianz declined about 2.5% (the S&P 500 could increase about 4% in the same timeframe). While we could argue that Allianz is basically trading for the same price level as half a year ago, it makes sense to look at the business from time to time as a lot can change in six months - for the business as well as the economy.

Reporting Half-Year Results

We start once again by looking at the half-year results and Allianz is actually reporting great results. This is in line with many other financial institutions that are still reporting solid results so far and show little signs of trouble.

Total business volume increased from €81.7 billion in H1/22 to €85.6 billion in H1/23 - resulting in a 4.8% year-over-year increase. Operating profit in the first six months of 2023 increased 14.9% year-over-year from €6,536 million in the same timeframe last year to €7,513 million in the first half of 2023. And core earnings per share increased 97.7% year-over-year from €5.77 in the same timeframe last year to €11.40 this year. However, we must point out that in the prior year results were impacted by a provision related to the AllianzGI US Structured Alpha matter. Two years ago - in H1/21 - Allianz could generate similar earnings per share as right now (€11.42 in diluted earnings per share).

When looking at the different business segments, we can see that Property-Casualty as well as Life/Health could increase revenue as well as operating profit in the first half of fiscal 2023. On the other hand, Asset Management had to report a declining business volume as well as a declining operating profit. The Property-Casualty business segment benefited from higher prices and volumes while the growth of the Life/Health business segment was primarily linked to strong single-premium volumes in the United States.

Asset Management

Let's look at asset management in more detail as I think asset management could be the segment generating problems for Allianz in the quarters to come. In my last article, I wrote for the full-year 2022:

When looking at investments under management, we see a decline of 17.9% year-over-year from €2,609 billion in AUM to only €2,141 billion right now. And third-party assets under management declined from €1,966 billion in fiscal 2021 to €1,635 million in fiscal 2022. The biggest part of this decline stems from lower prices for most assets, but Allianz also had to report €81 billion in third party net outflows.

For the first half of fiscal 2023, we see a stabilization of the situation. Assets under management increased in the last six months from €2,141 million (December 31, 2022) to €2,163 million (June 30, 2023). And when looking at the third-party assets under management we see a slight decline in the last three months with minimal inflows of €2.7 billion.

When looking at the different asset classes the big majority (76%) of assets is still fixed income with equities accounting for 9% and multi-asset investments accounting for 10% of the investment portfolio. For the full year 2023, management is still very optimistic and CFO Giulio Terzariol stated during the last earnings call :

Our outlook for the year is EUR3 billion. So we are confident that we can get to the outlook. And the reason for that is, a) we see some momentum building up. From -- also from a flows point of view, we saw stability in the assets under management in Q2 versus Q1. And also, as you know, usually, the majority of the performance fees or higher proportional performance fees is coming in Q4 compared to Q3 compared to what you have in Q1, Q2.

So when you put all this together, we should be able to achieve our outlook of EUR3 billion starting from the EUR1.4 billion that we have right now.

Despite Allianz being slightly optimistic, we should be rather cautious as operating income from the asset management business could decline rather quickly. In case of an economic slowdown or bear market, asset prices will decline, and customers might start pulling funds - leading quickly to lower fees for Allianz.

Looking At The Market

Since my article about Allianz in October 2022 - despite rating the stock as a "Buy" at this point - I am talking about the looming recession. In the article I wrote:

But similar to many banks and asset managers, I see Allianz also at a higher risk of performing horribly during a recession. Especially asset management is at a high risk to perform badly during bear markets and economic downturns.

(…)

And when the bear market is getting worse (and in my opinion, it will get worse over the next few quarters), assets are probably withdrawn for different reasons (i.e., panic, liquidity) and declining asset prices will also lead to shrinking total AuM for Allianz.

And in several articles during 2023 I expressed my rather bearish opinion about the global economy and the stock market (see here , here and here ).

But so far, the economy is performing quite well in most countries around the world, and we must ask the question if the recession will actually occur. I discussed this question in an article published about two months ago titled " Am I wrong?" in which I made arguments for both sides - the bullish side and the bearish side. In a recent article I also discussed the question if Novo Nordisk ( NVO ) and Ozempic is saving the economy as this was the thesis in a podcast, I found interesting.

And we can read constant discussion about the economy avoiding a recession or aiming for a soft landing and as the chart above indicates the FED seems not to expect a recession anymore. When looking at most economic data, the economy seems to perform quite well. However, we are seeing the regional banks as well as asset managers underperforming the broader market once again. In the last three months, stocks in these sectors declined almost 20% and I still think problems could arise - especially for regional banks, but also for major banking institutions.

Market Leader in Germany

And not only the asset management business of Allianz could be problematic - as this business is usually hit hard during a recession. The dominant position of Allianz in Germany could also be a problem. For starters, having a dominant position in a market is good thing. And Allianz has almost twice the market share of its closest competitor in the German property and casualty insurance market.

But the dominant position in Germany could be a problem as Allianz is generating a huge part of its revenue in Germany - and my home country seems to be struggling. Allianz is writing in its half-year report :

In Europe, the picture is mixed. The weakness in industry hit Germany particularly hard and resulted in a recession in the first half of 2023. Southern Europe, in contrast, was able to benefit from the still strong demand for services.

In fiscal 2022, Allianz generated €37.4 billion in revenue in Germany (not including asset management, only the insurance business) and therefore almost one fourth of total revenue. The same is true for operating profit in 2022 - Germany was responsible for 25% of the operating income Allianz could generate.

This is underlining, that Germany is an important market for Allianz and if Germany is struggling Allianz will also struggle.

German press (see here and here ) is talking again about Germany becoming " der kranke Mann Europas " (the sick man of Europe). And when looking at GDP growth data from IMF for different European countries we can see that Germany - which was the European growth engine before - is clearly struggling right now and is actually one of the weakest economies in Europe - together with Sweden, Finland and a few other countries.

Share Buyback And Dividend

Allianz is also continuing to buy back shares, which is rather untypical for a European business but a good idea as the stock is certainly not overvalued at this point. In November 2022, Allianz announced a new share buyback program with a volume of up to €1 billion and the share buyback program will be finalized by December 31, 2023, at the latest.

In the last few years, Allianz announced several share buyback programs and as a result the company decreased the number of outstanding shares from about 455 million before to only 402 million right now. Allianz will also redeem all repurchased shares. In my opinion, Allianz should continue to buy back shares as this seems like a reasonable way to use the generated cash.

And while Allianz began to use share buybacks as a capital allocation tool a few years ago, the dividend has always played an important role for the business. Similar to most other German businesses, the company is paying an annual dividend and for fiscal 2022 Allianz distributed €11.40 to its shareholders per share (paid in the spring of 2023) and with a share price of €217 at the time of writing this results in a dividend yield of 5.3% right now.

According to its dividend policy, Allianz will either pay out 50% of earnings in any year or it will hike the dividend by at least 5% compared to the previous year. As Allianz is right now paying out more than 50% of earnings, I would assume we will see a 5% hike for fiscal 2023 - resulting in a dividend yield of €12.00 per share paid to investors next year.

And it is not that I think the dividend is a horrible idea, but with the stock still being undervalued, Allianz should maybe focus on share buybacks (I know it won't happen as Germany is quite focused on dividends, and the dividend has always played an important role for Allianz).

Intrinsic Value Calculation

I have made the argument in several articles already that Allianz is undervalued at this point. And although I would still be rather cautious for several reasons about an investment in Allianz, concerns about the valuation are not part of that list.

When looking at the price-earnings ratio, Allianz is trading for 9.95 times earnings right now and this is not only slightly below the 10-year average of 10.50 but a single digit valuation multiple must be seen as too low for a quality business.

Many investors (including me) are arguing that a stable business (a company that is not able to grow but also not declining) seems to be fairly valued at a price-earnings ratio (or price-free-cash-flow ratio) of 10. And it sounds reasonable to pay 10 times earnings as this results in an annual return on my investment of 10% (the discount rate I also use for my discount cash flow calculations). And as Allianz is still a growing business (even if growth rates might only be in the low single digits) we can still argue that Allianz should trade for a higher valuation multiple than 10.

In the last ten years, Allianz was struggling a bit and could grow earnings per share only with a CAGR of 3.65%, but when looking at the performance since 1987 (the oldest data I have), the company could grow earnings per share with a CAGR of 8.74% in the last 35 years.

During the Capital Markets Day 2021 , Allianz had an EPS growth target between 5% and 7% and I don't know what growth targets Allianz has for the years following 2024, but I would argue that the combination of share buybacks, top line growth and also improving margins a little bit should be enough for low-to-mid single digit growth for Allianz. And when assuming a growth rate of at least 3% in the years to come, the stock should trade at least for a multiple of 12 or 13 in my opinion.

Technical Picture

At this point it is also interesting to look at the chart for Allianz - especially the monthly chart to get the bigger picture. Around €230 we have a strong resistance level for Allianz. The stock tried to break above that level several times in the last few years (in 2020, in 2022 and in 2023) and so far, it failed every time. However, if the stock should manage to break out it might be able to continue its bullish path and reach the previous all-time high of around €350 once again (the peak it set during the Dotcom bubble 23 years ago).

And it seems like the stock is forming an ascending triangle right now that is hinting at a bullish breakout. But right now, the stock price is declining again, and it also seems not unlikely that we will hit the lower line of the ascending triangle again (right now around €170) and the stock might find a strong support level there. And if that support level should not hold, we could argue for a steeper sell-off. However, we have the former lows and 200-month simple moving average around €150 which could be the next support level. And we always must keep in mind that Allianz would be trading for only 6.5 times earnings at €150 (assuming about €23 in earnings per share for fiscal 2023).

Bottom Line: Two Perspectives

On the one side, we have a stock that is undervalued and seems to be close to a big-picture breakout - indicating higher stock prices in the years to come. On the other hand, we are faced with the potential risk of a global recession and bear market that usually has a huge negative impact on Allianz - the business as well as the stock.

When looking at earnings per share, we can see that Allianz had to report a loss in two out of the last three recessions (only 2020 was an exception). And following the recession of 2000 as well as 2007/2008 Allianz was also struggling to reach pre-crisis levels again. Following the recession in 2000 it took six years before Allianz was reporting a higher EPS than before the recession and following the recession in 2007 it took even 12 years (until 2019) to report a higher EPS again.

Additionally, when looking at the stock price performance we see steep drops in all three recessions. In 2020, the stock declined about 50% from €230 to €115, between 2007 and 2008 the stock declined 75% from about €180 to about €45 and following the year 2000, the stock declined almost 90% from €355 to about €40. When looking at these steep declines, it is difficult to argue that it will be different this time - why should Allianz not decline at least 50% again? One counterargument we can make is the valuation: In 2000, Allianz was trading for almost 30 times earnings and in 2020 it was trading for 14 times earnings. In 2007 however, the stock was trading for similar valuation multiples as right now and the stock nevertheless declined 75% as earnings per share crashed from €18.00 in 2007 to a negative amount of €5.43 in 2008.

I personally am waiting for Allianz to trade for lower stock prices again if I am buying the stock. On the other hand, I also understand completely if you are investing right now in Allianz based on the theory of undervalued and the chart looking rather bullish. And should the stock decline to €170 again, I might take a really close look and maybe buy this time.

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