Legal & General (LON:LGEN), a Brexit-bellwether for the financial services industry, will release its first interim earnings since the referendum on Wednesday.
After the Brexit bounce
As the most UK-exposed large insurance company in Britain, and also the second-biggest institutional investment management firm in Europe (measured by assets under management) Legal & General has remained under close scrutiny since Britain voted to leave the European Union. Its stock was a focal point for stock market sell-offs in the wake of the June 2016 vote due to its larger-than-average exposure to UK revenues than rivals. Like stocks of most peers though, L&G’s appeared to quickly recover. Relatively stable earnings and yields helped. The unexpectedly resilient reaction of Britain’s economy which continued into the end of last year did too. Now though, with unmistakable signs of a slowdown in at least parts of the UK economy, investors are keen to see whether there has been any impact on Britain’s insurance sector.
Credit queries
Credit rating agency S&P downgraded its outlook rating on L&G in July, from ‘stable’ to ‘negative’, indicating a higher risk of a rating downgrade and, in turn, a potential rise in the group’s long-term financing costs. S&P’s query was over L&G’s ability to adhere to regulatory rules around capital to a degree that merited the agency’s top ‘AA’ credit grade. The agency cited rapid growth in L&G’s investment and bulk annuities businesses. Investment revenues increase variability of returns and bulk annuities, which can be of uneven quality, can also hit capital strength. There’s no question that L&G can meet all strict regulatory capital requirements. It is how much of an additional buffer the group can achieve on top that is in question. The latter is often a point of differentiation among investors.
‘Stable’ earnings
It has to be said however that another major ratings agency, Moody’s, in June changed outlook ratings on a number of British insurance groups, including L&G, to a more favourable ‘stable’. Additionally, consensus forecasts of Legal & General’s net income for this year, whilst downgraded in the wake of the referendum outcome have risen slightly since it reported interim results last August, pointing to the return of confidence among investors. L&G’s net income for the 2017 financial year is currently foreseen at £1.403bn. Wednesday’s results and commentary will demonstrate if the group remains on track to meet such expectations and its stock—up 46% since the Brexit vote—will react accordingly.
Passport
A further area of concern for all financial services providers including insurers is that they require ‘passporting’ rights to sell policies throughout the European Union. Most British insurers have said they need to set up EU subsidiaries if (or even just in case) Britain loses access to the single market after Brexit. L&G’s plans are well in hand, with a move to Dublin on the cards. There, it will be joined by many domestic rivals which are planning the same thing.
Conclusion
In short, L&G faces challenges from its evolving business mix and the impact of Brexit on revenues generated in the UK. It has met those challenges well to date. Investors will use tomorrow’s H1 results as a test of how well the group has continued to do so since its 2016 full-year results in March.
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