Allstate

Allstate continues to benefit from strong industry pricing and better investment income, but we see signs that results could start to come back down to earth.

Why it matters: In the second quarter, we estimate that the company generated an adjusted annualized return on equity of 28%, well above its historical average. In personal auto, Allstate saw a solid year-over-year improvement in its combined ratio, due mainly to higher favorable reserve development. On an underlying basis, underwriting margins held basically level with recent results. While underwriting margins remain very attractive, we think they could be difficult to maintain with pricing deteriorating. Homeowners benefited from relatively low catastrophe losses in the second quarter, but the underlying combined ratio ticked up to 61.5% from 60.5% in the previous quarter and 58.6% last year. We think pricing increases in homeowners have moderated, which could pressure results going forward.

The bottom line: We maintain our $176 fair value estimate for no-moat Allstate and see the shares as materially overvalued. Allstate is still seeing some benefit from higher interest rates, with investment income up 34% year over year. While that is largely due to an easy comparison and higher investment balances, fixed-income yield ticked up a bit sequentially. While we appreciate current industry tailwinds, we think the market is overly focused on the strong returns that Allstate and the industry are generating at the moment, resulting in industry valuations that are stretched from a long-term perspective. We believe weaker pricing will be the primary catalyst for a move back to more normalized returns and see signs that this is starting to occur in the company's core lines.

We are increasing our fair value estimate for Allstate to $191 per share from $176 due to time value since our last update, some adjustments to our near-term assumptions based on the company's recent performance, and a change in our cost of equity assumption. Our fair value estimate is equivalent to 1.7 times 2025 year-end book value and 1.9 times book value excluding goodwill and accumulated other comprehensive income.

We think the market shift away from the captive agent channel and Allstate's leading position in a mature industry limit its long-term growth prospects. We also think a weaker pricing picture in personal auto will be a headwind for premium growth. We assume earned premiums for the P&C segment to increase at a fairly modest 3% compound annual growth rate, with somewhat higher growth in the near term.

Allstate produced very strong underwriting results in the early part of the pandemic, but results deteriorated significantly in the following years, and the company endured significant underwriting losses in 2022 and 2023. Underwriting results improved markedly starting in 2024, and we think that underwriting results will remain strong in the near term as recent pricing increases boost underwriting margins. We expect higher interest rates to boost near-term results and produce stronger investment income.

In the back half of our projection period, we expect the combined ratio to start to creep up, as higher interest rates and improved investment income reduce the need for underwriting income and industry results start to normalize. Our projections include one large catastrophe loss year to reflect the volatility of the company's operations. Overall, this leads to our assumption of an average combined ratio of 96% in its P&C operations during our forecast horizon, a bit below the company's average over the past five years.

Our projections result in an average adjusted return on equity of 17%, with much stronger results in the near term. We use a cost of equity of 8.9% in our valuation.

We assign Allstate a no moat rating.

In general, property-casualty insurers do not benefit from favorable competitive positions. Industry competition is fierce, and the products are essentially commodities. Furthermore, participants do not know their cost of goods sold for a number of years, allowing them to underprice policies without knowing it. Firms have a large incentive to chase growth without regard for profitability, a cycle that repeats itself as competitors are forced to match artificially low prices or risk losing business.

In our view, Allstate has historically had a differentiated model through its use of captive agents and its bundling strategy. That said, the company’s historical returns suggest the advantage it gains through this strategy is fairly meager. Further, while the captive agent channel still dominates results, the company has expanded into both the independent agent and direct channels in recent years. We don’t believe it has a meaningful advantage in these channels, and results have been generally disappointing.

We continue to believe that Allstate has a defensible position in its core captive agent channel. As customers add policies, they are more likely to rely on an agent who can help them customize their policies and save them money through bundling. Each additional policy will allow the customer to save money, as actuarial evidence shows these policyholders are lower risk, and each incremental policy creates stickier customers. Because these customers have multiple policies for a car (or two), a home, and possibly a boat, price shopping becomes more burdensome, making them less likely to switch companies to save a small amount on premiums. Whereas many of its competitors use independent agents to source sales, Allstate's captive agents sell only company policies. This allows Allstate to benefit from the stickiness of the customer relationship, rather than an independent agent.

Allstate has historically had a differentiated approach through its use of captive agents and its bundling strategy.

The company has been increasing prices on many of its policies, which should lead to improved underlying profitability.

Allstate is benefiting from higher interest rates.

Allstate's growth prospects are quite limited, given its dependence on the declining captive agent channel and the maturity of the insurance industry.

Despite reducing its exposure to some coastal areas, Allstate may experience large loss years caused by Midwestern catastrophes.

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