Sector Watchers See A Rebound in Prices; Consolidation Likely

ZURICH -- Europe's long-underperforming insurance stocks are primed for a summer rally, investors and analysts say, as the continent's major players continue to show they have put the woes of recent years behind them.

In the first years of the millennium, company profits and balance sheets crumbled under the weight of melting stock markets. Stock prices plunged too.

More recently, insurers have weathered low interest rates and storm seasons by keeping a tight grip on costs and by sticking to their vows of strict underwriting discipline, shunning growth for growth's sake. That has helped their stock prices rebound.

Now investors and analysts say share prices could rise further on a mix of rising demand for pensions, the opening of new markets in Asia and thriving capital markets that could spur steady, if not spectacular, growth. Merger speculation could give the sector an extra kick.

"Insurance stocks are still cheap compared to other sectors," said Robert Scholl, fund manager at Aargauische Pensionskasse, which manages assets of about six billion Swiss francs ($4.89 billion).

This year, European insurance stocks have kept pace with the broader stock market. The Dow Jones Stoxx 600 Index, which tracks companies across Europe, is up 10.4% so far this year, including a 1.5% gain in May. The insurance subindex has risen 10.6%, including a 1.1% rise so far this month.

To be sure, share prices could be hit by huge damages linked to either man-made disasters or spiraling claims from natural catastrophes, hurting profits and denting balance sheets. Several insurers have already warned that this year's hurricane season could be as fierce as last year's, which saw insured losses of about $60 billion.

Behemoths such as Germany's Allianz AG and Dutch bancassurance company ING Groep NV are among the top picks of analysts and investors.

Both offer a wide range of insurance and banking products, have strong market positions and are well-placed to capitalize on buoyant demand for pension products in Europe, where fast-aging populations look to build private savings to balance wobbly state-sponsored pension plans.

"These firms have strong potential to produce surprise earnings because of their strong market position and asset base," said Michael Huttner, an analyst at J.P. Morgan Chase in London.

J.P. Morgan rates Allianz and ING at "overweight" and forecasts rises of 20% and 7%, respectively, for the shares during the next 12 months. Year to date, Allianz shares are up 7.2% and ING is up 13.2%.

Another sector darling is Switzerland-based Zurich Financial Services AG, which J.P. Morgan forecasts to rise about 11% over the next year. Zurich shares are up 12.5% year to date.

"This stock is a must and I will continue buying it," said Beat Stuber, partner at privately held asset manager Johnson & Stuber in Zurich, which controls funds valued at one billion Swiss francs ($815.6 million). "The management is doing an excellent job and the company is set for good growth."

Under Chief Executive James Schiro, Zurich Financial posted a record net profit in 2005 despite huge claims related to last year's U.S. hurricane season. As recently as 2002, the company needed to raise capital to prop up its battered balance sheet.

Life insurers are at their best when interest rates are rising. High rates allow them to entice more people into long-term savings products, such as annuities, with better rates of return. They also receive higher yields on bond investments, their main source of income, as they invest the bulk of their assets in safe bonds.

"Life insurance stocks also have some very good upside potential as interest rates in Europe are expected to rise further, giving these companies more investment clout," Aargauische Pensionskasse's Mr. Scholl said.

Among Mr. Scholl's top picks is Swiss Life Holding and Italy's Fondiaria-SAI SpA.

J.P. Morgan said it sees a 16% increase for Swiss Life, while Fondiaria's stock could surge 28% during the next 12 months.

Smaller players -- such as the U.K.'s Legal & General Group, Aegon NV of the Netherlands and Switzerland's Helvetia Patria Holding AG -- also may offer sharp upside potential. Although more speculative, they could become the acquisition targets of larger competitors, analysts say.

"The sector is in for a consolidation, and the top global life insurers are likely to drive this movement," said Rene Locher, analyst at Kepler Equities in Zurich. "Coupled with higher interest rates, the sector is very attractive again."

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By GORAN MIJUK

Write to Goran Mijuk at goran.mijuk@dowjones.com

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