Just Share Discussion Threads

[undervaluedassets] 20/11/2020 12:08

I think that the notion that those that write annuities are set to do well out of the pandemic is finding traction here.

Just Group and Legal and General are obvious picks.

[eumaeus] 20/11/2020 10:23

"Accounting profit - i.e. IFRS" Changes to IFRS (via IFRS 17) may also impact the book value of life companies. A recurring theme of the comments on this board is that the company is grossly undervalued if one compares the market value to the book value (about 25% the last time I looked). This presumes that the book value is correct, as measured by modern accounting standards.

[18bt] 20/11/2020 09:47

On IFRS 17, my view is that it will cause changes and that the industry will need carefully to explain those to investors. Running a life company is complex because of the need effectively to "run" 3 different sets of books, being
- Accounting profit - i.e. IFRS
- The regulators view of capital and how it unwinds
- The economic effect, which can be different from either of the above, especially as most companies don't run their expected results to a 99.5% confidence.
In practice, most companies do not pay much attention to IFRS except as it affects their ability to pay legal dividends. There is a bit of concern over the dividend effect, but there are a couple of reviews of this going on and I would be confident that they will get to an acceptable answer in the end - they always have in the past when accounting rules have changed.

[18bt] 20/11/2020 09:40

I'm not sure it's a wager with respect - the odds and distribution of deaths are based on hundreds of years of mortality data and millions of lives and minute analysis of causes of death by individual diseases and co-morbidities. But sure, small changes in those assumptions could cause big gains or losses in accounting terms. I suppose like a wager the terms are stacked in favour of the bookies meaning that some will "win" as an outsider, but those are offset by the "losers" who die well before the median. However, it is a very efficient form of risk sharing which society would do well not to lose sight of.

[battyliveson] 20/11/2020 09:35

I have taken a starter position. There seems to be inherent prudence in the industry (even post sol II) which should unwind in cashflow. They have a good niche. At some point will be a takeover target for larger UK player or post brexit a US firm looking to reinvest in UK assets. Chart looks promising. I have not studied impacts of IFRS 17, but unless it really causes a fundamental change in cashflows, capital levels and ability to take risk, then I can't see that being fundamental to valuation, although a lot of work for the companies themselves.

I will do a bit more homework but currently looks a good risk reward.

B

[undervaluedassets] 20/11/2020 09:22

I think that in investors' minds there exists the idea that this company has to be a beneficiary of it's annuity policies. And that this thought alone will see JUST shares gain ground.

The writers of annuities are surely winners given the amount of excess deaths that we are witnessing across the UK.

Grim thought but an annuity is nothing more than a wager on longevity.

[rapier686] 19/11/2020 17:05

<<But if HP grows at their projected rate (currently just under 4%), there is longevity risk>>

To flesh out some numbers, with 29.2% LTV, 70 year old customer, 4.5% interest rate (figures taken from recent presentation) and 3.8% house price growth the longevity risk mentioned kicks in at 246 years old. And even with the customer breaking the current age-record by a factor of two, the loan continues to be profitable - just earning 3.8% instead of 4.5%.

Even I consider that is an over-optimistic perspective which overlooks some genuine risks.

[18bt] 19/11/2020 15:29

Of course eumaeus is only giving one side of the equity release equation - which depends on house prices as well as longevity:
If people live longer and house prices rise, the company makes more money because the mortgage rolls up for longer
And actually house prices are more likely to rise if people live longer because demand for houses increases (all other things being equal).
You cannot look at mortality/longevity in isolation for equity release in the way you can for annuities.
The CMI view is going to be important in setting year end assumptions, but it is the long term rather than the short term effect which is most material. If COVID is a one off, then there might be a one off benefit equal to the mortality reserve releases of those who have sadly died. But if COVID or possibly more importantly the non-COVID effects (like missed cancer appointments)are long term so that long term mortality improvements decrease by x%, then you have c20 years of x% of reserve releases (discounted back).

[weemonkey] 19/11/2020 13:37

really appreciate your answers.

I might now do something really irrational like buy the stock because of the quality of the response I have received to my questions.

I guess that the largest uk issuer of annuities LGEN would benefit too.

I found myself here due to cheapness (or perceived cheapness) of stock only

[eumaeus] 19/11/2020 13:29

The company is the same way round on both asset and liability side. (1) If people start living longer and more healthily, the borrowers remain in their homes longer, the NNEG bites and the company loses. On the liability side, which is impaired annuities, people in care homes live longer while supported by the annuities, and the company loses. On the other hand (2) if everyone over the age of 65 dies of covid, then the NNEG is unlikely to bite, and if the annuities are cancelled there is less future payment, so the company benefits.

In the present case, hard to say. Note that by definition the ERM borrowers are not in care homes, and probably are shielding, whereas the annuitants are likely to be in care. There were some clues in the last financial report, but don't have them to hand.

[salver2] 19/11/2020 13:18

I would say early death might be of benefit to the company but the true answer I am in your camp really - we need an actuary or life insurance specialist for this one ! Sometimes it can be good for one part of the business and bad for the other - but again I’m guessing

[weemonkey] 19/11/2020 12:45

Please assume I am an idiot.

Does decreasing longevity (whether caused by COVID deaths or non-COVID deaths) benefit this company?

I am thinking about annuities and equity release schemes in particular.

Please feel free to shoot down my 2 line rationale for maybe looking to buy this stock.

[salver2] 17/11/2020 00:18

I bought 88k shares today on the basis of its cheapness and possibly a takeover target -it appears to be hugely undervalued

[bobbybullet] 16/11/2020 23:40

Volume over the last 3 days very high, yesterday was the highest volume for the last 5 years, anyone any ideas what is behind this frenzied activity?

[eumaeus] 15/11/2020 20:54

Hi Anactuary. You have the link to the contact form. If you want to debate the logic and the mathematics, I am happy to do so either anonymously or not. (If the former, just use a made up email address.

[anactuary] 15/11/2020 19:40

Eumaeus. Please show some respect. Most actuaries have degrees in mathematics/ statistics and then put themselves through countless hours of additional studying to ensure they are well placed to make these judgements. I have read your articles where you make us out to be misleading shareholders and jeopardising customers for profit and it’s frankly offensive. I’ve also repeatedly seen you mocking actuaries such as with your title and picture caption in the article just linked. As an actuary I follow your work out of professional curiosity; if someone thinks we are making miscalculations then I’m listening. My request is just this: keep it to the maths please.

[eumaeus] 15/11/2020 14:39

I understand your central point to be that "an NNEG is self evidently a bunch of put options which we know how to price and turn out to be a lot more expensive than industry members pretend with their flawed methodologies. Consequently the offenders are putting policyholders at risk by underreserving and deceiving shareholders by reporting inflated profit and assets values".

That's about right.

Your other points I disagree with. As this is probably the worst place to have a discussion (the software keeps trying to make me join the site), our contact form is here hxxp://eumaeus.org/wordp/index.php/contact/. Confidentiality assured, if you want it, otherwise you can put a fake email address, so long as it's an amusing one.

[rapier686] 15/11/2020 13:12

I understand your central point to be that "an NNEG is self evidently a bunch of put options which we know how to price and turn out to be a lot more expensive than industry members pretend with their flawed methodologies. Consequently the offenders are putting policyholders at risk by underreserving and deceiving shareholders by reporting inflated profit and assets values".

Having given the matter some thought, I have concluded that I disagree. And the disagreement is not (by and large) with the option pricing but with the applicability to the issues at hand.

This is illustrated by my thought experiment above. Thor's choice of mu will not change your option pricing because, as you say, that does not involve predictions of the future. (Not directional ones anyway, you want a volatility).

But if Thor were to choose mu=+10%, then in that imaginary world NNEG are valueless. There is no need to account for or reserve anything significant against the promise, because it is as safe a bet as they come.

However if Thor chose mu=-10%, then the NNEG are crushing. The burdened loans are practically worthless and policyholders are going to be sadly out of luck relying on any other long term promises the entity made.

Any methodology that would ignore Thor's pronouncement on mu is saying "I have a hammer, hence the problem in front of me must be a nail".

[eumaeus] 15/11/2020 12:47

OK, but you say our "I believe your [i.e. our] central point is wrong." What do you take our central point to be?

[rapier686] 15/11/2020 12:29

I can agree with your concluding statement "Option pricing has absolutely nothing to do with predicting the future."

The corollary to which that it does not address the question of giving a best estimate of economic outcomes. Which is my point.

[eumaeus] 15/11/2020 12:01

Rapier: fallacious reasoning I am afraid. I discuss it here hxxp://eumaeus.org/wordp/index.php/2020/11/15/actuarial-fallacy-again/

[rapier686] 15/11/2020 11:17

Thanks eumaeus, you have very satisfactorily answered my question of why sensible people are avoiding the apparently attractive investment metrics here. You believe they're bunkum, and clearly explain why you think so.

I have found your paper a very interesting and educational read, and it has exposed that I had sloppily considered two different things to be the same. Many of your chapters make very good points. But I believe your central point is wrong.

I think we would agree that if we had the probability density function of (the NPV of) ERM economic outcomes, we'd be done. We'd want their expected value for profit purposes, and drop ourselves a couple of std deviations away for reserving purposes to protect policyholders from the possibility of an unlucky future.

I claim your Black Scholes priced put option gives you that expected value if and only if the expected value of house price inflation equals the risk free rate*.

Let us imagine that in a clap of thunder, Thor announces that the future will be radically simplified.
a) Everyone will expire on their 85th birthday
b) The risk free rate is zero (this one's just a convenience)
c) All house prices will alter in lockstep, the return for each year being independently sampled by Thor from N(mu, sigma).

We'd then be in no doubt about the pdf, but where does your option pricing stand? How do you use Thor's choice for mu, which is clearly very significant to the economic outcomes?

Your paper is clear that you'd ignore mu, and further anyone who paid attention to it lies somewhere on the scale between deluded and fraudulent. I disagree.

And I'm pretty confident that the historical evidence can soundly reject the hypothesis that the expected rate of house price inflation is equal to the risk free rate.

You point out that there's public harm in underreserving. But there's also public harm in regulators requiring overreserving - it makes the afflicted products poor value to consumers.


* The resolution is that the option is delta neutral in conjunction with an associated hedge. If the underlying's expected return differs from the risk free rate, then the hedge is expected to make/lose money. And consequently the option starts off under/over priced compared to the economic outcome.