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Sector Review – New 2010 Targets for Insurance Stocks (UNH, WLP, AET, CI, HUM)


The White House is ratcheting up the rhetoric on health care reform. And insurers Aetna (AET), Cigna (CI), Humana (HUM), Wellpoint (WLP) and Unitedhealth Group (UNH) are listening closely to see how their industries will be affected if legislation finds its way to Barack Obama’s desk and gets signed into law.

In a speech today in Philadelphia, President Obama made his final argument to lawmakers that they should pass the massive bill in the midst of a hard-fought election year that could cost some Democrats their seat in Congress.

“Every year, insurance companies deny more people coverage because they have a pre-existing condition. Every year, they drop more people’s coverage when they’re sick and need it most. Every year, they raise premiums higher and higher,” Obama said today. Though the president singled out Anthem Blue Cross in California, which has announced rate increases of up to 39%, he is clearly looking for widespread reforms that will change how all insurers do business.

Even if the finished product doesn’t live up to these expectations, costing the government much more and providing less change in the healthcare system, there is a seismic shift in the works for insurers. Just look at the big drops leading companies saw in the middle of last week on fears of sweeping new regulations limiting premiums, and then the dramatic recovery on Friday as Wall Street started feeling the bill’s bark was worse than its bite.

Cigna (CI) dropped 2% Thursday, and gained all that back and then some in the next trading session. Aetna (AET) did the same.

So what’s the outlook for each of these companies in 2010 as the health care industry enters a new era?

Judging by recent upgrades, leading insurer (AET) Aetna appears to have a bright future in the months ahead. The company was upgraded from “sell” to “hold” on Feb. 8 by Collins Stewart, and now has an average price target of over $35 among nine Wall Street brokers – that’s a 12% premium above the current level of about $31 a share. What’s more, the lowest price target of $32 is still above current levels. Aetna saw disappointing Q4 results at the end of February, with operating earnings cut to less than half of the previous year’s total thanks to lower margins and increased costs. But the company appears to have adjusted to current political outcry over premiums and coverage and is lean enough to adjust to reforms without trouble.

Cigna (CI) is another insurer that reported poor earnings recently, but is still showing signs of strength. The first week of February, Cigna reported that its fourth-quarter earnings were down in most of its lines of business, including its bread-and-butter health insurance segment. But earnings have been growing steadily since last year. CI’s Q1 2009 numbers were abysmal, missing analyst estimates by almost 25% and really brutalizing shares last spring. But the stock is up about 175% from its low a year ago and is projecting year-over-year earnings growth of about 30% for the current quarter. The stock was downgraded to “perform” from “outperform” by Credit Suisse in January, but most analysts have a price target of around $39 a share – 13% above current pricing of around $34.50.

Humana (HUM) hasn’t had any trouble with its bottom line, exceeding or meeting expectations for the last four quarters, however it is seeing a steady erosion in earnings per share. The slumping profits have prompted a recent layoff announcement, with HUM planning a 5% workforce cut, or about 1,400 employees. The reason for the layoffs is the same as the reason for slumping profits: A decline in membership for its insurance groups. The company reaffirmed its guidance for 2010 earnings per share of $5.15 to $5.35 after the cuts were announced, but you can’t get rid of workers forever to pad your bottom line. While several analysts have positive price targets for HUM above its current levels of about $48 a share, a number are looking at a downside move — with the lowest price target bottoming out at a mere $36 a share or 25% below current levels.

Wellpoint (WLP) is a bit of an anomaly above the five biggest insurers, posting dramatic earnings surprises in each of the last four quarters – including topping expectations by as much as 30%. That’s because WLP has a greater reliance on big corporate accounts while trimming its Medicare and Medicaid managed care involvement. This is a very smart move to make as health care reform debates rage in Washington. As a result, all 12 major Wall Street analysts have positive price targets for Wellpoint. WLP is trading at around $62, with the lowest target at $66 and the highest target at $78. Those would be increases of 6% to 25% above current levels.

Unitedhealth Group (UNH) has a similar record of earnings surprises, topping expectations in each of the last four quarters – including an 11% surprise in its latest report back in January. Trading at 10 times next year’s earnings, UNH shares appear to be reasonably priced considering this strong record of growth. Unitedhealth was recently upgraded from “hold” to “buy” by Citi analysts in January, and most experts have a price target of around $40 for shares. That’s about 20% above the current pricing of $33 for UNH shares.

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