About two years ago, I recommended purchasing Old Republic International (NYSE:ORI) for its exceptionally cheap valuation as well as its generous and reliable dividend. Since my article, the stock has offered a total return of 42% and thus it has outperformed the S&P 500 (+10%) by an impressive margin. It is thus natural that most investors may be wondering whether it is time to take their profits. However, this high-quality insurance company remains attractive. Therefore, while the stock may take a breather in the short run, investors with a long-term horizon should refrain from taking their profits.
Business overview
Old Republic International is focused on insurance underwriting, primarily in the U.S. and Canada. The company offers general insurance to several organizations and companies as well as title insurance to real estate purchasers and investors.
Before purchasing an insurance stock, it is paramount for investors to examine carefully the long-term performance of the insurer. If they focus on just a few years, they run the risk of drawing wrong conclusions due to an abnormally low number of claims in these years. Old Republic International certainly passes this test, as it has a history of 100 years and has offered a total return of 16% per year on average over the last decade.
Old Republic International Overview (Investor Presentation)
Source: Investor Presentation
It also has an impressive dividend record for an insurance company. It has paid a dividend for 82 consecutive years and has grown its dividend for 42 consecutive years. Old Republic International is the third-largest title insurer in the U.S., which is characterized by a concentrated title insurance industry, with relatively weak competitive forces. The company generates 65% of its operating income from General Insurance and 29% of its operating income from Title Insurance.
As volatility is inevitable in the insurance business, Old Republic International has exhibited some volatility in its results but it has exhibited a superior performance record when compared to most of its peers. To be sure, the insurer has grown its book value per share at a 12.2% average annual rate over the last 50 years and at a 4.1% average annual rate over the last decade.
The 10-year figure is much lower primarily due to the impact of the surge of inflation to a 40-year high on the results of the company last year. Nevertheless, the long-term performance of Old Republic International remains above average thanks to the engagement of the company in niche insurance lines, i.e., insurance lines that are characterized by weak competition.
Old Republic International has had a positive start this year. In the first quarter, the Title Insurance segment experienced a 42% decrease in net premiums over the prior year’s quarter due to the impact of higher mortgage interest rates on this business but the General Insurance segment grew its net premiums 6%. Overall, the underwriting results of the company were positive, with a consolidated combined ratio of 92.7%, much lower than 100%.
Despite the extraordinary adverse environment in the Title Insurance segment, which was caused by multi-year high interest rates, Old Republic International incurred just a 3% decrease in its earnings per share, from $0.63 to $0.61. In addition, the company emphasized its commitment to reduce its costs in this division and hence it expects to improve its results in the upcoming quarters.
Moreover, it is unreasonable to expect interest rates to remain at multi-year high levels for years. Thanks to the aggressive policy of the Fed, inflation has declined every single month since it peaked 12 months ago. As the central bank has made it clear that it will exhaust its means to restore inflation to 2.0%-2.5%, it will almost certainly achieve its goal sooner or later. Whenever inflation reverts to the target range of the Fed, the latter is likely to begin lowering interest rates. Such a development is likely to reinvigorate the housing market and hence it will probably provide a strong tailwind to the Title Insurance business of Old Republic International.
Overall, Old Republic International is facing an exceptionally adverse business landscape in the one of its two segments but its strong performance in the other segment has almost offset the effect of the negative business factors. In addition, the company is likely to recover when its Title Insurance division recovers from its current downturn. Analysts seem to agree, as they expect the insurer to grow its earnings per share 4% next year, from an expected $2.42 in 2023 to $2.52 in 2024.
It is also worth noting that Old Republic International has exceeded the analysts’ earnings-per-share estimates in 13 of the last 14 quarters. This is a testament to the strength of the business model of the insurer and the solid execution of management in my view.
Dividend
Old Republic International has paid uninterrupted dividends for 82 consecutive years and has grown its dividend for 42 consecutive years. It thus belongs to the best-of-breed group of Dividend Aristocrats.
Old Republic International Dividend Growth (Investor Presentation)
Source: Investor Presentation
The 42-year period of uninterrupted dividend growth includes the Great Recession, which was the worst financial crisis of the last 90 years, and the fierce recession caused by the pandemic in 2020. Therefore, the exceptional dividend growth streak of Old Republic International is a testament to the resilience of this insurer to downturns.
Old Republic is currently offering a 3.9% dividend yield, which is more than double the 1.5% yield of the S&P 500. Even better, as shown in the above chart, Old Republic has offered a special dividend of $1.00-$1.50 per share in five of the last six years. Even at the current nearly all-time high stock price of $25, a special dividend of $1.00 corresponds to an additional 4.0% dividend yield. In other words, the stock is offering a 3.9% regular dividend and is also likely to distribute an additional dividend of about 4.0%. The dividend of the stock is a key factor behind its vast outperformance vs. the S&P 500 (+42% vs. +10%) since my article about two years ago.
It is also important to note that the regular dividend is well covered, with a payout ratio of only 34%. Moreover, Old Republic International has a rock-solid credit rating of A+ in its General Insurance division and A in its Title Insurance division. Furthermore, it has no debt maturities until the end of next year and its investment portfolio consists of 80% bonds with A+ credit rating and 20% equities, which are Blue Chips, value stocks and utilities. Overall, it is safe to conclude that the regular dividend of the company is safe.
Valuation
Although the stock of Old Republic International is trading near its all-time highs, it remains cheaply valued. It is currently trading at 10.5 times its expected earnings this year and only 10.0 times its expected earnings in 2024. These earnings multiples are much lower than the 10-year average price-to-earnings ratio of 13.0 of the stock.
The exceptionally cheap valuation of the stock should be attributed, at least in part, to the multi-year high interest rates prevailing right now, as such high rates greatly reduce the present value of future earnings. However, as mentioned above, I think the Fed is likely to begin lowering interest rates when inflation approaches its normal range. When that happens, the stock of Old Republic International is likely to revert to its historical valuation level. It thus has significant appreciation potential merely thanks to a normalization of its valuation level.
Risk
The main risk factor is the adverse scenario of persistently high inflation for years. In such a case, interest rates will remain high and thus they will probably keep weighing on the results of the Title Insurance division of Old Republic International. However, this scenario is unlikely, given the determination of the Fed to drive inflation down to normal levels. Even if this adverse scenario materializes, the shareholders are being offered an exceptionally generous dividend while waiting for interest rates to normalize.
Final thoughts
When a stock outperforms the broad market by a wide margin and trades near its all-time highs, it is only natural that some investors are tempted to take their profits. However, this is not the case for Old Republic International. The stock remains cheaply valued and is offering an exceptionally generous dividend. Therefore, investors should remain invested in this high-quality insurer.
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