Phoenix lowers longevity forecast

Buried within full-year results for savings and pensions provider Phoenix (PHNX) is a detail more startling than the revelation that pre-tax profits were 14 per cent ahead of consensus forecasts.

Although cash generation of £1.7bn exceeded management’s initial hopes, the real salvo to future cash flows – now at £13.4bn, despite another year of returns and rising capital buffers – came from a £369m positive revision to so-called ‘longevity assumptions’.

In a purely financial sense, this means the group has reduced the discount rate applied to the expected future expected cash flows from its assets. In real-world terms, Phoenix has consulted actuaries’ mortality tables and concluded that life insurance policyholders aren’t going to live as long as once thought.

Understandably, the group does not want to crow about this, even though the implications of stalling or falling life expectancies act as a boost to both the life insurer and the broader sector.

Neither will the change seem like much in the context of the myriad sensitivities that affect an insurer’s asset-liability matching exercise. A 100 basis point rise in the yield curve, for example, would decrease the value of Phoenix’s largely bond-based asset portfolio by £351m.

But the FTSE 100 group’s investment case is all about the incremental improvements it can find or make to the value of the unloved back books of life insurance policies it buys. The compounding effect of this is probably underappreciated: since March 2016, Phoenix has provided a total return of 9 per cent a year, versus 6 per cent from the FTSE All-Share.

Hopes of further gains in 2021 – for which consensus forecasts currently sit at earnings per share of 87.4p – will rest on the ability to meet management expectations for cash generation of between £1.5bn and £1.6bn, helped on by a £250m uptick in synergy expectations from the 2020 acquisition of ReAssure to £1.05bn.

The prospect of new deals, a well-covered dividend and good track record provide three further reasons for optimism. Buy.

Last IC View: Buy, 694p, 3 Sep 2020