There are few stocks that an investor can tuck away and not have to worry about too much. Berkshire Hathaway (BRK.A)(BRK.B) may be one of them. A problem for Berkshire Hathaway, however, is that its large size makes it difficult to source enough attractive deals to move the needle.
This brings me to the comparatively smaller Markel Corporation (NYSE:MKL) which operates with a similar business model. MKL has vastly outperformed the market since my last bullish take on it towards the end of 2020, giving investors a 40% return, and far outpacing the 11% return of the S&P 500 (SPY). In this article, I highlight whether the stock is currently a buy or hold, so let’s get started.
Why MKL?
Markel is a financial holding company that markets and underwrites specialty insurance products that cover a wide range of risks, including property and casualty, workers’ compensation, and specialty lines such as medical malpractice and cyber risks.
Markel differentiates itself from other insurance companies in the way that it allocates its capital. Unlike most insurance companies, which return most of their free cash flow to shareholders through dividends and share buybacks, Markel retains its free cash flow and invests it through its Markel Ventures arm.
This strategy has worked out well for the company and shareholders, resulting in market-beating returns over the long run. As shown below, MKL has produced a 195% total return over the past decade, far surpassing the 168% return of the S&P 500.
MKL has a long history of underwriting profitability and a conservative investment strategy that has helped it weather market downturns while maintaining a strong financial position. Plus, its diversified portfolio of businesses helps to reduce risk and provide a stable source of income.
This continued in the first three reported quarters of last year, during which its multi-cylinder business model generated double-digit revenue growth and underwriting profits of $490 million, providing additional fuel for its capital ventures.
Moreover, investment opportunities are favorable in the current market as MKL was able to layer capital in to higher yielding securities than what it was accustomed to in prior years. Management exemplifies the mantra of being greedy when the market is fearful, as the CEO noted during the last conference call:
On the surface, the well-known decline to both equity and bond markets are penalizing current reported returns. That’s true. But what does that mean? The answer is it depends. If markets were going down, and we had to sell our investments at the same time, that would be awful. If markets were going down and we just stood past, that would probably be okay but not wonderful.
If markets were going down and we were steadily buying more equity securities and bonds with higher interest income and our own stock at lower prices. That would be fantastic. I’m delighted to report to you that our circumstances today are exactly that. We’re buying. That adds to the overall earning power of Markel over time.
Importantly, management’s underwriting discipline helped MKL to achieve a healthy combined ratio in the low 90s, despite the impact of Hurricane Ian during the third quarter. For reference, the combined ratio is calculated by the sum of incurred losses and expenses divided by earned premiums, so a lower ratio implies a higher level of profitability.
It appears, however, that the market has also picked up on the quality of Markel’s investment strategy of being able to buy high yielding equities on the cheap. This is reflected by the current price of $1,409 with a forward PE of 21. As such, it appears that the strong 23.6% EPS growth rate that analysts expect this year is already priced into the stock.
While I don’t view the current price as being a bad entry point, value-minded investors may want to wait for a pullback in price to a PE below 20x, especially considering that plenty of bargains currently remain on the market.
Investor Takeaway
Markel Corporation is a unique insurance company in that it operates like a mini-Berkshire Hathaway. The company has managed to outperform the market over the long run thanks to its conservative underwriting philosophy and strong investment returns.
While current prices may be slightly on the expensive side for value investors, Markel remains an attractive option for those looking for exposure to a well-run insurance company with strong cash flow and long-term potential. With that said, value investors should keep a close eye on the stock for entry on a potential pullback in price.
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