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Prudential - US sell down gets underway

Nicholas Hyett, Equity Analyst | 18 June 2020 | A A A
Prudential - US sell down gets underway

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Prudential plc Ordinary 5p

Sell: 960.20 | Buy: 960.60 | Change 10.80 (1.14%)
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Prudential has announced the reinsurance of $27.6bn of its US fixed annuities liabilities by Athene Holdings. Alongside the reinsurance agreement Athene has bought a $500m stake in Prudential's US business.

The deal covers essentially all of Prudential's US fixed, and fixed indexed annuities. The deal will improve Jackson's capital position and is expected to give rise to a $1.2bn pre-tax profit.

Following the deal Athene will own 11.1% of Prudential's US business. Prudential continues to explore an IPO of Jackson as well as other options.

Prudential shares rose 7.8% following the announcement.

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Our view

The reinsurance, and accompanying equity investment, deal with Athene is step one in the process of splitting up Prudential's Asian and US businesses.

The current plan is for the company to spin-off the US Jackson business through a stock market listing. If successful Pru will retain a majority stake in the separately listed business, although alternatives are under consideration.

We can see the rational for the separation. There's little intrinsic benefit to tying the two businesses together, and a high growth Asian business and more mature US division in one package confuses the investment case. The US business is also arguably overexposed to the volatile variable annuity business and diversifying is expensive. Attracting extra third party capital through an IPO will help spread the risk.

Investors will retain a sizeable stake in Jackson even after the IPO however, and we see efforts to diversify the product offering as a major positive. The combination of rising stock markets and falling interest rates is a pretty toxic one for Prudential's variable annuities - extra cash is required to back the guarantee while the variable component is also paying out.

That said we think the US is attractive long term. Pru estimates that 4m Americans reach retirement age each year, creating significant opportunities for retirement income providers. Keeping exposure to that trend is no bad thing.

It's Asian expansion which is Prudential's major attraction though. A focus on regular premium products like life and health insurance should make profits reasonably dependable.

Coronavirus has the potential to see a spike in claims, but the fact premiums continue to roll in even when times are tough is reassuring. Economic gloom is hardly a sign to cut back on insurance after all. Long term, a growing and increasingly wealthy population means demographic trends are in the group's favour.

Overall we think Prudential is doing the right things. A divided business structure should improve focus, while digitisation efforts have the potential to deliver long term cost savings. The group's end markets mean it's almost certainly the UK life insurer with the most growth potential in our view. That explains the relatively modest prospective yield, by life insurer standards, of 2.9%. Major structural change isn't risk free though, and with the Jackson IPO still somewhat up in the air and coronavirus transforming economies in a matter of weeks the near term could be rocky.

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AGM Trading Statement (14/05/20)

Prudential reported improving sales in the first three months of the year for both the US and Africa. However, the key Asian region saw sales fall 24%, as Hong Kong and China were negatively impacted by the coronavirus outbreak.

Despite the coronavirus headwind the group's capital position improved quarter-on-quarter. However, more recent restrictions on advisers meeting customers is expected to reduce sales levels materially in the short term.

Excluding China and Hong Kong Asia sales grew 1% to $544m, with coronavirus related restrictions not in place until mid-March. Despite the difficult first quarter sales are normalising in China, with April's sales actually up year-on-year.

Asian asset manager Eastspring saw net outflows over the quarter as a whole, as inflows during January and February reversed in March. Together with market movements that meant overall assets under management fell 13%.

First quarter operating profits in Asia rose 14% thanks to a strong result from in-force policies.

In the US sales rose 25% in the first quarter to $631m, with retail sales up 30% year-on-year. However, underlying operating profits fell 52% as a result of negative stock market movements. Hedge payoffs offset increased capital requirements stemming from lower interest rates with the result that Jackson's capital position remained similar quarter-on-quarter.

Sales in Africa rose 43% to $30m.

The group's surplus available capital rose from $9.5bn at the start of the year to £11.1bn at the end of the first quarter. Increased regulatory capital requirements meant the group's regulatory coverage ratio declined slightly from 309% to 302%.

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Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.