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Axis Capital Holdings (AXS)Stock (Financial Services Industry, Property & Casualty Insurance Industry, Property & Casualty Reinsurance Industry)
 Since its founding, the company has entered a variety of niche markets, such as catastrophe, terrorism, or political insurance, that it believes are under-served and which offer attractive returns. Competitors often steer clear of these areas due to inherent uncertainties in evaluating risks. AXS has demonstrated an ability to practice solid and disciplined underwriting while pursuing this strategy. Disciplined underwriting allows the company to remain profitable throughout the insurance cycle while protecting against the unnecessary buildup of risk in cyclical upswings in capacity. For instance, as insurance rates fell over 2006-2007, the company took on less business ($2,070 million FY 2006 vs. $2039 million FY 2007) but actually slightly increased its underwriting profitability.[2] The importance of conservatism and long-term risk management is especially noteworthy for AXS, which insures many risks that are high in severity but low in frequency (e.g. political & terrorism insurance, etc.). Such fat tail risks can be very difficult to assess, and the ultimate day of reckoning can be far in the future. [edit] Company Overview[edit] Business SegmentsThe Insurance (56.8% of total premiums) segment provides coverage for primary general and products liability as well as excess liability property, directors and officers (D&O) liability, employment practices liability (EPL), and fiduciary liability insurance. This segment also provides specialty risk (which includes terrorism, marine and aviation war risk, and political risk), Onshore & Offshore Energy, Aviation & Aerospace, Commercial Property, and Marine coverage for institutional clients. The Reinsurance (43.1%) segment provides catastrophe reinsurance across the globe, and underwrites risks that are more frequent and readily predictable in severity (also known as short and medium-tail) treaty reinsurance, general liability, specialty liability, motor liability, and credit and bond lines of business in Europe. In addition, the company provides a full range of specialty property-casualty coverage in the US on a treaty basis, including longer-tail D&O, medical malpractice, casualty clash, workers' compensation, personal accident, and marine. [edit] Business & Financial MetricsBelow is the total premium revenue breakdown for the insurance and reinsurance segments as well as a breakdown of net income, by both underwriting profit and investment income. In FY 2006 and 2007, it is worth noting that the company did not pursue premium volume growth while it simultaneously increased underwriting gains, indicative of AXS' focus on bottom rather than top-line growth.
[edit] Trends & Forces[edit] AXS growth strategy is one of entering niche markets at opportune timesWhile the strategy has led to nearly 10% compounded premium growth for the company since 2003, it can present occasional challenges. For instance, specialty areas like terrorism have seen increasing competition and eroding industry prices over the last several years, forcing the company to cut back $30 million, or some 37%, on writing new business in FY 2007.[5] On the other hand, as more lines are added, the company benefits by diversifying geographic and characteristic risk and improves its ability to "pick its spots" in terms of adding to new business lines. Also, many of these niche markets are specialized to the extent that other insurers are not equipped with the underwriting ability or risk management systems to properly evaluate and price the risks associated with them (e.g. terrorism, again, is an area in which the company uses proprietary technology and modeling not widely available commercially),[6] giving AXS a slight competitive advantage in some of its areas. [edit] AXS insures many low-frequency, high-severity risksMore than one-third of the company's policies (both insurance and reinsurance) cover risks that are low in frequency but high in severity. For example, companies' directors and officers are seldom sued successfully in major tort cases, but when they are, damages awarded in court can be large (take Enron, for instance: though AXS was not directly involved, directors and officers settled certain claims for some $170 million).[7] Directors and Officers insurance protects against these unlikely events. Similarly, major political events leading to severe losses are rare, but when they do occur can put a big dent in the company's results. AXS' strategy of insuring these types of risks has advantages and disadvantages. Because modeling the risks associated with these policies is inherently difficult (for example, due to the probability distributions of such events often having fat-tails or due to the lack of adequate data on occurrences),[8] the company can often take on business that competitors shy away from. This leads to attractive premium prices and substantial float from policies. However, for these same reasons, it is also exposed it to greater uncertainty than competitors as well as greater fluctuations in its year-to-year results. Furthermore, because such risks are often realized at later dates than traditional “short-tail” policies, AXS may enjoy investment returns from float on a given policy for long periods even though the eventual cost of such insurance may not be known for years. [edit] Terrorism, War, and Geopolitical RiskWhile many competing insurers balk at writing policies to protect against terrorism, war and geopolitical risk due to the uncertainty surrounding evaluating such risks, about 15% of AXS insurance premiums come these niche areas.[9] Though this seems only a small fraction of its business (which can be potentially attractive due to limited competition), these policies, as mentioned above, can also exhibit risks with fat tails, which are low in frequency but high in severity, thus making it difficult to properly estimate eventual losses. With the potential for continued or heightened terrorism around the globe, the company might suffer major losses in the event of any occurrence comparable to 9/11. Similarly, AXS insures multi-national companies (like financial institutions, for example) from political and war-related risks that have fat-tails. For instance, while it may be unlikely that most foreign governments seize property or default on debt, if or when one does, AXS' may be on the hook for major payouts. [edit] Hurricane Season, Global Climate Change, and other catastrophesRoughly another third of AXS’s property and casualty insurance and reinsurance operations focus on underwriting property risks associated with natural disasters, such as hurricanes, earthquakes, storms, and more.[10] Risks related to such policies can be difficult to assess and model given the year-to-year variability of severe weather frequency and intensity as well as the potential for long-run shifts in patterns, in light of the effects of global warming. For instance, while many meteorologists do not immediately blame climate change for the impact and severity of hurricanes like Katrina and Rita, there is evidence that severe weather and climate change are linked.[11] AXS is especially exposed to this: Hurricanes Rita, Katrina, and Wilma cost the company over $1 billion in 2005 and led to a rare year of underwriting loss for the company. That said, the company's exposure to property and catastrophe risks is down from 60% in 2005[12] and the company attempts to mitigate such effects with third-party reinsurance and sensible underwriting to compensate for the risk, but large, unexpected weather events can still have a significant impact on the company’s bottom line and, perhaps worse, its financial strength. [edit] AXS earns leveraged returns with low cost of float on mostly investment grade securitiesInsurance companies can make money in two ways: 1) taking in more money in premiums than it pays out (i.e. "underwriting profit") and 2) investing the premiums taken in from customers and not yet paid out (i.e. "float"and earning interest on this. Many companies actually lose money on underwriting (often 1-2% of premiums) but make up for it with the investment income received on the float money. For example, if a company takes in $100 in premiums, invests it at 5% and eventually pays $101 in claims, it still earns $4 despite the underwriting loss. If, on the other hand, it pays out, say, $99 in claims, it earns $6. In this scenario, it effectively enjoys a negative interest rate loan (due to its underwriting success) which it is free to invest. This is exactly what AXS has been doing. In FY ’07, the company earned 4.9% on its mostly investment grade fixed-income assets while keeping its underwriting profit positive by practicing conservative underwriting. If an investor considers the underwriting profit or loss analogous to the interest rate of leverage (i.e. float) that is invested in securities, this means AXS continually reaps the rewards of a negative interest rate loan as it has been running an average underwriting profit since its inception in 2001, and every year except 2005. Furthermore, with nearly $8.9 billion in invested assets over an equity base of about $5.1 billion, the company has a leveraged portfolio of invested float. [edit] CompetitionBecause of AXS's diversified product base, the company competes with many types of other insurers. While the company attempts to differentiate itself by pursuing a strategy of insuring niche risks (like terrorism and politics) that others may not, the insurance industry at large is generally marked by low barriers to entry, significant price competition, and an alternating cycle of under- and over-capacity that can at times pressure pricing and returns. The industry is also highly fragmented: with $3.7 trillion in global life and non-life premiums written in 2006, AXS's share is a tiny 0.1%. Indeed, discussing market share as a competitive advantage in insurance can be largely misleading -- no insurer commanded any more than a 2.5% global market share.[13] While apples-to-apples comparisons of insurers as diversified as AXS can be difficult, the following is a table that includes comparable companies' net premiums,[14] most recent combined ratio,[15] and 5 year average return on equity. AXS's low combined ratio indicates that the company has operated with superior underwriting discipline as it is below industry average and has been for its history. Its high returns are indicative of a favorable combination of superior, low-cost underwriting combined with respectable 4-5% returns on its base of leveraged float.
Looking more specifically at AXS's different segments, though, the company's $2 billion of 2006 North American property & casualty premiums represented an insignificant 0.4% of that market, which wrote approximately $450 billion in premiums during the 2006 FY.[16] Its 2007 Global Reinsurance segment premiums represented some 0.89% of a total $170 billion in reinsurance premiums.[17] Below is a table of estimates of reinsurance company market shares. The industry is largely comprised of a few international firms who hold large market share positions in addition to a smaller, fragmented base of firms with more insignificant global market positions, which includes ACE. Firms compete on a mix of price, terms, and financial strength.
 Axis Capital Holdings2004 Data 2005 Data 2006 Data 2007 Data 2008 Data Most Recent Data Available [edit] References
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