QBE to keep on going strong?

Well, we're not so certain that the future will be as good as the past. Here's why. Insurance companies collect premiums from customers in return for promises to pay out money if disaster strikes. In the meantime that money gets invested. That means smart policy pricing and strong investment performance are the keys to success.

Tailwind

Over the last decade insurers have been helped by a tailwind in investment markets, although the last few years haven't been so brilliant. For most of the last 10 years QBE has recorded a combined operating ratio (COR) of more than 100%. Essentially, that means that its expenses and payments on policies written have been greater than the premiums the company has collected. The shortfall has been made up by its investment earnings.

Now, having a COR of greater than 100% is not necessarily a bad or uncommon thing. If you can consistently raise money for, say, 1-4% and invest it in equities or bonds at a higher rate, good profits will be made. But that's the hardest bit, working out how much that money raised through premiums is going to cost.

Insurance is generally an unpredictable business often showing good results one year and poor the next. What's more, reinsurance, which makes up a reasonable chunk of QBE's business, is much more unpredictable than personal insurance. The estimated $252m QBE lost in the Wold Trade Centre attacks is testament to that.

On the investment side QBE is running into a headwind. Unlike most Australian insurance companies QBE invests mainly in debt securities. Just 10% of its investments are in equities - a blessing over the last few years.

Historic lows

But now, with interest rates near historic lows, the money QBE invests is not earning as much as it once did. So it won't be as helpful in turning an underwriting loss into an overall profit.

To top it off, QBE now has a larger capital base thanks to the issue of more shares in 2001. As we've said before, the company needs to find a lot more additional topping (profits) to cover the expanded pizza base (shares on issue). That involves taking on new insurance risks. With over 80% of QBE's business offshore, most new business is likely to come from there.

Now, we hate to compare apples with oranges but investors in New Cap reinsurance and Reinsurance Australia know what can happen when Aussie insurers try to expand overseas too quickly. And what about AMP and its disastrous UK foray?

We're not saying QBE is destined for that fate and given its historic performance it's in far superior shape. But we'd rather not chance it, especially when there's more certain, less risky opportunities like Suncorp Metway .

Given Suncorp's domestic-focused business and banking operations we're just more comfortable with it. And its long-term results, averaging over 20% a year (including capital growth and dividends) for the last decade are great. SELL and SWITCH to Suncorp.