Prudential Financial

Prudential Financial reported solid results, with adjusted aftertax operating income up 12% year-over-year. The firm's results translated into an adjusted return on equity of 16.4%, above its medium-term target range of 13%-15%.

Why it matters: PGIM, the firm's investment management business, saw strong earnings growth of 28%, aided by market appreciation that lifted assets under management. International business also delivered strong growth of 12.4%, impressive given the headwinds in Japan's new business sales. We were struck by the margin expansion at PGIM, where the adjusted operating margin widened 470 basis points year over year to 28.2%. This met the segment's 25%-30% medium-term target for the first time since the firm consolidated its investment management platform in 2025. We continue to expect the Japan segment to weigh on 2026 and 2027 earnings, and note that productivity will take time to recover even after the sales halt ends.

The bottom line: As we incorporate second-quarter earnings, we expect to raise our $105 fair value estimate for no-moat-rated Prudential Financial by a mid- to high-single-digit percentage. We assess shares as slightly overvalued after our contemplated valuation update. The increase is mostly driven by a 50 basis-point reduction in our cost of equity assumption to 10.5%, as we take a more granular view about Prudential's business mix and cyclicality. We also plan to modestly raise our 2026 fee income projection for the PGIM segment.

Key stats: Japan's sales declined by 48% from the prior-year quarter on a constant-dollar basis, as Prudential of Japan halted new business since Feb. 9. Life planner headcount in Japan also fell 5% year over year as the firm tightened risk controls and overhauled the life planner compensation plan.

We think the firm is on the right track to remediate its Japan employee misconduct issues. The new-sales suspension at Prudential of Japan is expected to end in November 2026, though the firm could extend it further should other significant issues surface. So far, persistency has held up: the international segment's individual life 13-month persistency rate looks fairly stable, and the 25-month rate improved somewhat, although this metric does not break out Japan from other countries. Separately, Japan's individual life policies in force declined 2% year over year, which contributes to 92% of its total international business's individual life insurance policies in force.

We are increasing our fair value estimate for Prudential Financial to $112 from $105, mostly driven by lowering our cost of equity assumption to 10.5% from 11% as we recalibrate our cost of capital assumptions across our coverage universe. We've also decreased our forecast for international premium growth CAGR to 0.8% from 1.8% in the next five years as the firm wants to exit some international footprint. On the other hand, we've also increased our forecast for PGIM's fee income growth 5-year CAGR to 3.1%, versus our prior forecast of 2.2%. Our fair value estimate equates to 1.1 times second-quarter 2026 adjusted book value, excluding accumulated other comprehensive income.

Prudential Financial generated 33% of its 2025 premium and policy fees from its US institutional retirement business, and it has a particularly large exposure to US PRT jumbo deals (insurance liabilities over $1 billion), which is a very lumpy business. For some perspective, the firm’s total revenue and policy fees declined by 22% in 2023 and rebounded by 48% in 2024 and declined by 25% in 2025, mostly driven by its US institutional retirement business.

Looking through a rough 2025, we expect 1.9% average annual growth in premium and policy fee income between 2026 and 2030, which aligns with the mature profile of the US and Japanese life insurance industry. We forecast international premiums to decline by 2% in 2026 and stay relatively flat in 2027, driven by headwinds in the Japan business and its decision to exit some emerging markets. Turning to expenses, we forecast a combined ratio (total expenses over premiums and policy fee income) of 164% between 2026 and 2030, compared with the average of 145% from 2011 to 2025. When investment income is included, the average combined ratio over the next five years is 101%, versus 101% (average from 2011 to 2025).

For the firm’s investment management business, PGIM, we expect asset management fee revenues to grow at an average rate of 3.1% over the next five years. On the investment side of the ledger, we forecast a mid-cycle investment yield of 4.25% on the company's portfolio.

Altogether, we project that Prudential’s adjusted return on equity excluding AOCI will be around 11.7%, suggesting that the firm’s adjusted ROE target of 13% to 15% is too ambitious.

Due to the highly competitive, undifferentiated nature of the life insurance industry, we don't believe Prudential Financial has an economic moat. We project Prudential to earn around 11.7% normalized adjusted ROE (excluding accumulated other comprehensive income and realized gains or losses), a thin spread above our 10.5% cost of equity. We calculate adjusted ROE by excluding realized investment and derivative gains and losses from net income and adjusting the equity to exclude accumulated other comprehensive income.

There are two major sources of earnings for life insurers: underwriting profit (earned premiums minus claims and operating costs) and investment income (yield on the investment portfolio). We view underwriting profit as the ultimate source of any economic moat since investment income tends to reflect higher risk-taking or luck rather than durable advantage, and investment losses can erode underwriting earnings. Most life insurance policies are long-duration and are backed by long-duration assets, making life insurers more exposed to the capital markets than property and casualty insurers.

We see little sign of brand-driven intangible assets in the life insurance industry, with consumers largely buying on price. Scale advantages are limited too, since variable commissions make up a material portion of operating costs. Additionally, underwriting advantages are hard to maintain, as morbidity rates, mortality rates, and lapse rates are highly predictable. Technology-driven data analysis offers only marginal claims improvements before being competed away or passed to consumers through lower pricing.

Poorly structured life insurance policies (products with generous guarantees) can expose life insurers to heavy losses in a severe market downturn, and poor underwriting can pressure companies for many years and even result in bankruptcy. Because insurers do not know their cost of goods sold for many years, they can underprice policies unknowingly, and managers chasing growth over profitability can force competitors to match low prices or lose business.

Prudential’s US operations consist of four main areas: institutional retirement strategies, individual retirement strategies (annuities), group insurance (disability and life), and individual life insurance, and we view neither business as moaty given the intense competition in each business.

The US life, health, and annuities market includes public, mutual, and private insurers. Within institutional retirement, Prudential offers pension risk transfer (using annuities to assume a defined-benefit plan's liabilities), international longevity reinsurance (mostly UK), and stable value products for defined contribution platforms. US pension risk transfer (PRT) grew rapidly in recent years, and Prudential leads the jumbo market (over $1 billion in liabilities). Life insurers compete aggressively on pricing for PRT deals. Jumbo PRT draws fewer bidders (under three, versus five for smaller deals), but Prudential, MetLife, and others compete head-to-head, and we don't view that business as moaty. In individual retirement, the firm has cut risk exposure via reinsurance and natural run-off over the past decade, though it retains material exposure to variable annuities and guaranteed living benefits products. These should keep running off the balance sheet, and further reinsurance deals remain possible. The firm is also selling more market-insensitive products to improve its risk profile. In group insurance (around 20% of US revenue), Prudential holds a strong position in national accounts (corporations with over 5,000 employees) but trails MetLife in share. Group insurance carries a better risk profile than individual life given its shorter duration and annual repricing, though pricing competition is fierce. Prudential's US individual life business contributed around 17% of US revenue in 2025.

Prudential derived around 39% of its earnings in 2025 from its international life insurance businesses. The firm has a strong presence in Japan. Prudential also has a smaller footprint in emerging markets like Brazil, China, and India and intends to exit some of these international footprint. Japanese life insurance market is very mature, and the growth potential is quite limited. The firm competes with Japanese life insurers like Nippon Life, Japan Post, Dai-Ichi Life, as well as US competitors like MetLife and Aflac. Prudential distributes its products with both captive agents (life planners and life consultants) as well as third-party channels like banks and other independent agencies. Similar to the US business, we view competitive pricing, anemic returns, and risks of material value destruction as precluding the firm from carving out an economic moat in its international life insurance segment.

Prudential’s investment management business contributed around 11% of the firm’s adjusted earnings in 2025, and we do not believe that this segment has an economic moat. PGIM's brand and investment capabilities help generate flows from insurers and pension plans outsourcing investment management, and its third-party flows have outpaced some independent asset managers we cover. Still, its operating margin trails theirs. Even if PGIM can meet its operating margin target of 25%-30%, PGIM would remain below the 35% average operating margin (over the next five years) of the US asset managers that we cover. On average, PGIM's adjusted operating margin was 22.4% from 2022 to 2025. Its adjusted operating margin averaged 22.4% from 2022 to 2025, and its scale also lags the largest managers like Vanguard, BlackRock, and Fidelity. Of its $1.49 trillion assets under management at the end of second quarter of 2026, around 44% comes from third-party institutional clients, 19% from retail third-party clients, and 37% from its affiliated business.

Overall, Prudential Financial lacks a competitive advantage in either its life insurance or investment management sectors.

Prudential has reduced exposure to riskier products like variable annuities with minimum guarantees and has increased investments in segments with steadier cash flows like the investment management and institutional retirement businesses.

The firm’s investment management business is set to be unified on a single platform from six independent businesses, which could unlock expense savings and meaningfully improve its return profile.

Prudential's lower-return US individual products should continue to roll off, which could improve its business profile and return profile.

Prudential could incur higher credit costs during the current private credit cycle, reducing the firm's profitability.

The advancement in AI and healthcare might significantly increase people’s life expectancy, leading to underpricing and destroying shareholder value.

The employee misconduct issues in the firm’s Japan business could lead to regulatory penalties and other business restrictions. It could also damage the firm's brand, which could slow new business growth for the overall Prudential company.