Prudential Financial Stocks Are Trading Above Fair Value

[Updated 12/04/2020] Prudential Financial Update

Having gained more than 100% since the March low and at its current price just below $79 per share, Prudential Financial (NYSE:PRU) stock is 10% above its fair value of $72 – the Trefis estimate for Prudential Financial valuation. In its recently released third quarter results, PRU beat consensus earnings estimates, while revenue underperformed. It recorded total revenues of $15.42 billion, up 2% from the third quarter of 2019. This could be attributed to a 5% growth in international insurance business coupled with an increase of 12 % of US Workforce Solutions division. Notably, net realized investment gains (losses) decreased from $853 million in Q3 2019 to -$79 million last quarter.

We expect the company to report revenue of $60.9 billion for 2020, about 6% lower than a year ago. Our guidance is based on our belief that the economy should show some improvement over the last quarter, which will benefit total premiums and net investment income. Net income for the year is expected to be reduced by 12% due to higher operating expenses, reducing the EPS figure to $9.11 for fiscal 2020. Thereafter, Prudential Financial revenue is expected to reach $62.7 billion in fiscal 2021, primarily driven by growth in the international insurance business. Additionally, net income is expected to see some improvement, leading to FY2021 EPS of $10.12. This, coupled with a P/E multiple just above 7x, will lead to a valuation of $72. .

[Updated 9/01/2020] Prudential financial actions have limited benefit

Prudential Financial (NYSE:PRU) stock has fallen nearly 59% – from $95 at the end of 2019 to around $39 at the end of March – then is up 73% to around $68 now. But that means it’s still 28% lower than it was at the start of the year!

There were 2 clear reasons for this: the Covid-19 epidemic and the economic downturn caused market expectations for 2020 and consumer demand to plummet in the short term. This is likely to impact insurance premiums and net investment income, which are Prudential Financial’s two main sources of income. However, the Fed’s multi-billion dollar stimulus in late March helped halt negative market sentiment, which is also evident in the rally in equities after that point.

But we think Prudential Financial’s stock has already reached its growth potential and has limited its further upside.

Trefis estimates Prudential Financial valuation at around $71 per share – slightly above the current market price – based on a future trigger explained below and a risk factor.

The trigger is an improvement in Prudential Financial’s revenue trajectory in the second half of the year. We expect the company to report 2020 revenue of $60.4 billion, approximately 7% lower than the 2019 figure. Our forecast stems from our belief that the economic scenario should show some improvement in the third quarter. The recently released US consumer spending data, which shows monthly growth of 8.5% in May, followed by monthly growth of 5.6% in June, lends further weight to our expectations. If the trend continues in the coming months, it should improve both the net premium figure and the investment income from insurance premiums. The latter is very critical for the profitability of an insurance company and has improved due to the recent improvement in the securities market. This, in turn, would benefit the revenue trajectory over the coming months. Net income for the year is expected to fall to $3.6 billion – down 14% year-on-year, reducing the EPS figure to $9.14 for fiscal 2020.

After that, Prudential Financial’s revenue is expected to improve to $62.1 billion in fiscal 2021, driven primarily by growth in the U.S. retirement solutions and international insurance segments. This should see the EPS figure touch $10.09 for fiscal 2021, up 10% year-over-year.

Finally, how much should the market pay for every dollar of profit from Prudential Financial? Well, to earn nearly $10.09 a year from a bank, you would need to deposit about $1,110 in a savings account today, or about 110 times your desired earnings. At the current Prudential Financial stock price of around $68, we’re talking about a P/E multiple of around 7x, which we think is appropriate.

That said, insurance is a risky business right now. Growth looks less promising and the short-term outlook is far from rosy. What’s behind that?

Prudential Financial is a global insurance company with approximately $768 billion in identifiable assets between its U.S. and international insurance segments (based on fiscal year 2019 data). The company derives approximately 22% of its total revenue from income generated by the investment of insurance premiums. Consequently, its business model is very sensitive to changes in investment returns. While the broader markets have been on a growth trajectory (up 55%) since the March low, any further deterioration in the economic situation or an unforeseen increase in the number of Covid-19 cases can reverse the momentum and have a negative impact on PRU revenue.

The same trend is visible among the peers of Prudential Financial – American International Group. Its revenue is also expected to be reduced in fiscal 2020 due to lower premiums and lower investment income. Additionally, shares of American International Group currently trade at a price of around $30, but are expected to reach EPS of around $3.53 for fiscal 2021.

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