Aflac stock ahead of rivals, but share value still falling

The adage “misery loves company” is an apt description for Wall Street’s current woes.

Problem is some companies are miserable mostly — if not entirely — through no fault of their own.

Case in point: Aflac’s sluggish stock performance of the past year.

Despite outperforming its peers in the life insurance sector thanks partly to a cautious investment strategy, Columbus-based Aflac has seen its shares lose 28 percent in the last 12 months. Analysts said the company is being dragged down by dismal results by its competitors and the general economic slowdown.

Someone who bought Aflac shares Dec. 31, 2003, would have seen a total return of more than 35 percent by the end of last year.

In comparison, had that investor purchased shares of Lincoln National, Prudential Financial or an index fund pegged to the Standard & Poor’s 500, he would have had losses of 45 percent, 22 percent and 10 percent, respectively.

Even insurers that ended up in positive territory for the same five-year period didn’t match Aflac’s performance. Unum Group came close, with a total return of 27.6 percent, while MetLife Inc. gave a total return of 10.8 percent.

“Nobody is immune to the current environment,” said John M. Nadel, who follows the life insurance sector for Sterne, Agee & Leach. “The stock is down because everything is down; the market has been revalued so everything has to be revalued.”

Though to some degree guilt by sector association was to blame, investors were also a little spooked by Aflac’s short-term sales outlook. Just operating in two countries — Japan, which accounts for 75 percent of revenue, and the United States — Aflac is facing the specter of slowing product sales with both nations mired in recession, Nadel said.

And Aflac, like other insurers, takes customer premiums and invests them in corporate and sovereign debt obligations. But its $60.5 billion investment portfolio took a hit after last year’s market tumult and collapse of several financial services firms whose debt Aflac owned. Third quarter profits plunged.

The company — taking investment losses of $389 million because of holdings in Ford Motor and the now-failed Lehman Bros. and Washington Mutual — reported profit of $100 million in last year’s third quarter, down 76 percent from the $420 million reported for the comparable period in 2007.

Aflac also warned it will take a charge of $110 million to cover the losses it incurred from the collapse of Iceland’s three-largest banks.

“The problem for Aflac and every other life insurance company is the overhang of doubt,” said Donald Light, an insurance analyst at Celent, a financial services research and consulting firm. “The unfortunate part of the Iceland bonds is Iceland, while small, is one of the more spectacular liquidity failures.”

And Steven D. Schwartz, an analyst with Raymond James, says Aflac has between $100 million and $850 million in additional securities that could be considered troubled — the biggest being a $337 million stake in Citigroup Inc.

All told, portfolio losses last year will be among Aflac’s worst since 2003, when Italian dairy company Parmalat collapsed under a massive auditing fraud scheme. That year, Aflac’s portfolio loss also exceeded $100 million.

While last year’s losses were severe, the company has largely avoided its competitors’ missteps such as directly investing in mortgage-backed securities, analysts say.

“They were able to avoid a lot of investments related to mortgages; that’s the biggest reason,” said Troy Harmon, senior research analyst at the Henssler Financial Group in Atlanta. The other was Aflac’s less-than-1-percent exposure to annuities, or regular payments insurance firms make to people who purchase them. Other insurance firms, as way to compete for customer dollars, began adding guaranteed investment clauses to annuity policies, effectively promising a set return.

But as bond yields have fallen and several investment categories have been battered, competitors who offered those guarantees, including MetLife and Genworth Financial, have had to continue to pay the promised returns, Harmon said.

Aflac executives credit the firm’s long-standing investment strategy of staying away from speculative securities such as junk bonds and debt issues that are below investment grade as helping its portfolio performance.

It’s conservative, but not too conservative.

“If we were to be ultra-conservative we wouldn’t be able to generate the returns we need [to pay out obligations]. You can only do so much in the risk-reward equation,” Kenneth S. Janke Jr., Aflac’s senior vice president of investor relations, said during a recent interview.

“We’re pretty comfortable in the way we’ve approached the market and I don’t think we would have done anything differently.”

That includes what sectors it invests in and how it invests in them.

Though most of its business comes from Japan, 42 percent of Aflac’s investment portfolio was in banks and financials at the end of September. Japan’s government bonds form the next largest holdings chunk — 15 percent.

“We really don’t have a lot of investment exposure to Japan, because Japan doesn’t really have a developed corporate bond market,” Janke said.

The company owns corporate and sovereign debt securities in 42 different countries all denominated in Japanese yen.

Even though banks worldwide have been beaten down in the fall of the world economy, Janke said a 42 percent weighting in financials shouldn’t be too alarming because the portfolio has historically been overweight in the sector.

“It’s partly been by design and it’s partly been by necessity because that’s where the securities are issued,” he said, explaining that on average, the company had $18 million to invest on a daily basis from January to September of last year.

There’s also an underlying belief — and the bailouts of banks and insurance companies by the governments of the U.S., France, Ireland and Germany among others support it — that banking is too important to a nation’s economy to let fail.

“It’s almost Orwellian, but in a sick way I guess it’s true,” said Schwartz, the Raymond James analyst. “It’s financials that consistently issue debt; it’s these very large banks that not only issue debt, but they’re willing to issue debt in yen.”