While insurance shares may not seem like the most exciting investment prospect, there’s plenty to unpack here. This often-overlooked, yet very important sector could be a solid dividend or retirement play for me.
That’s why I’m considering adding either Aviva (LSE: AV) or Direct Line Insurance Group (LSE: DLG) to my portfolio.
But which insurance stock is a better buy right now?
Aviva
This multinational British business boasts more than 30m customers across 16 countries. In the UK, its home market, it is the largest general insurer and a leading life and pensions provider.
The Aviva share price has had a strong 12 months. It has risen 64% from 243p to 400p today despite a tough 2020.
I really like this stock because of its reputation as a dividend hero. It pays out a 6% yield, which amounts to 14p on its 14 May payment date. Dividend payments are important for me when planning my portfolio for retirement.
The FTSE 100 firm is also taking steps to exit non-core foreign markets and focus on its UK, Irish, and Canadian operations. This drive saw it axe Polish and Italian operations last month. More such moves are expected to boost its balance sheet and create a leaner earnings-producing machine.
However, the insurance industry is an unforgiving one. As a life insurer, the company’s outlook is tied to interest rates. A sudden rise in rates could negatively impact its balance sheet, which would likely harm shareholder returns. This risk, and the general complexities of insurance, suggest this stock might not be suitable for all investors.
For me, however, despite it being difficult to value insurance shares accurately, Aviva seems cheap. With a low price-to-earnings ratio of just 8, I really like the look of this top UK share right now.
Direct Line Insurance
Among one of the UK’s largest insurers and a big competitor to Aviva, Direct Line Insurance is in my sights right now.
It has been a very rocky 12 months for Direct Line, with its share price fluctuating between highs of 346p and lows of 258p. However, it has jumped almost 15% from 265p a year ago to over 300p today.
My bullish sentiment for this FTSE 250 share is based on its impressive 7% dividend yield. I also believe that recent earnings growth will continue. Direct Line enjoys a substantial competitive advantage in the insurance market due to its size. Economies of scale allow it to serve customers at a lower cost than competitors can, increasing profit margins.
Likewise, I am excited by its plans to invest in new insurance software. This will allow it to follow similar business models employed by the likes of Lemonade in the US, which uses AI software to price insurance more accurately and profitably.
My main concern with this business is that it has struggled to grow in recent years. The motor insurance market is competitive, making it hard to hike prices. It risks getting caught in a pricing war as more insurance options become available, potentially hurting its bottom line. I believe Direct Line’s brands should provide a long-term advantage, but I could be wrong.
Overall, I believe that these are two great stocks to invest in. However, Direct Line CEO Penny James’ commitment to innovation excites me just enough to give Direct Line my full interest.
