Insurers Wilt in US Drought
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In a recent article, some of the winners and losers thanks to the worst drought in the United States in a half century were discussed. Since then the news has gotten worse as the U.S. Meteorological Service recently stated that drought had now engulfed in excess of 85% of the country's acreage devoted to both corn and soybeans. So it should come as no shock that there will be another big loser due to the drought: insurance companies who provided farmers crop insurance.
Crop insurance is a big business. According to the trade association National Crop Insurance Services, in 2012 farmers invested $3.9 billion to purchase more than 1.1 million crop insurance policies. For the past decade up to 2011, this business had been a big money winner for insurance companies, as benign weather meant they raked in money while never having to take a loss writing crop insurance. Losses began last year, but the drought this year has changed that benign scenario drastically.
Recent reports from the ratings agencies, Standard & Poor's and Moody's pointed to the companies who will be most affected by the drought. Some of the financial companies most at risk include Wells Fargo (NYSE: WFC), Ace Limited (NYSE: ACE), American Financial Group (NYSE: AFG), the insurance subsidiary of Deere (NYSE: DE), and Australian insurance firm QBE Insurance Group (NASDAQOTH: QBIEY.PK). Many of these firms have high exposure to the drought-stricken states of Kansas, Illinois, Indiana, Missouri, Kentucky, and Tennessee, where crops are the worst. The two largest U.S. crop insurers with the most policy sales are Wells Fargo ($1.79 billion) and Ace ($1.67 billion).
It is estimated that this year's devastating drought will trigger gross indemnities in the range of $30 billion, with an underwriting loss by the insurance companies of about $14 billion. Of course, the U.S. government backstops the insurance companies with payments and reinsurance. In addition, some crop insurers such as Wells Fargo have protected themselves with reinsurance through companies like Everest Re Group and Munich Re. So the actual loss to the industry will be only in the $4-$5 billion range, but still making it the largest crop insurance loss in history. Already, the industry has paid more than $1 billion in claims this year.
Of course, at the moment the estimates on crop losses are only guesswork. The actual results of this crop year will only be known in the fourth quarter of this year after farmers complete their harvests and insurance claim adjusters have visited every farm and field in the affected regions. But already some of the firms mentioned by Moody's and Standard & Poor's have warned their shareholders about earnings results going forward. These include Ace, American Financial Group and reinsurers Everest Re and Munich Re.
Estimates for the crop damage from the ongoing drought are likely still being underestimated. This should make sharp investors think about initiating short positions in some of the crop insurance companies, particularly those still near their 52-week highs.
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