Is It Safe? Mortgages Cloud Allstate's Future

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Despite its slogan, "you're in good hands with Allstate(ALL Quote)," Dow Jones picked rival Travelers(TRV Quote) to replace Citigroup(C Quote) on its closely watched industrial index.

The snub makes sense: Travelers has been generating profits consistently as Allstate racks up losses. Still, Allstate's stock is attractively cheap, trading at 6.7 times its forecast earnings compared with the industry average of 8.9. Is it safe to buy?

Allstate shares might be undervalued, but they're unlikely to generate big returns. The Northbrook, Illinois-based company has been trying to recover from its forays into mortgage-backed securities. While the insurer has successfully raised capital and increased its cash, it lost $274 million in the first quarter after losing $1.7 billion last year.

The stock seems like a bargain. The shares are down 22% this year, while the SNL Insurance Underwriters Index has lost 6.1%. The stock is trading at a price-to-book value of 116%, higher than 105% for Chubb (CB Quote) and Ameriprise Financial(AMP Quote), or 95% for Travelers.

However, the future of Allstate's commercial mortgage-backed security portfolio remains a question. As of March 31, the company had $6.9 billion in asset- and commercial mortgage-backed securities and another $9.7 billion in commercial mortgages. Some analysts predict these investments to deteriorate in the next 18 months. Allstate is in a bad position with a significantly reduced equity base, down 44% since 2007.

That said, Allstate easily raised capital through two debt offering last month. The $1 billion in offerings was oversubscribed by three times, generating an additional $250 million on top of the $750 million it needed to repay senior debt in December.