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Some Insurance for Your Stock Portfolio

NEW YORK (TheStreet) -- After the mugging Hurricane Sandy delivered to a huge swath of the U.S., many investors became turned off to insurance stocks. It has led to a buying opportunity. Let's dig a little deeper.

All insurance companies are not created equal and their exposure to the devastation of Sandy isn't equal either. That's why the analyst at Morgan Stanley who covers insurance companies recently predicted many companies will take an earnings hit in the fourth quarter to cover the losses they'll be paying.

Earnings estimates for insurers like Dow 30 member Travelers Insurance (TRV) and "good hands" insurance star Allstate (ALL) have been cut by as much as 50% due to the Sandy-related payout costs.

Yet, according to an editorial in the Wall Street Journal by Brett Arends, "...[T]he industry has more than $500 billion in capital to pay claims, and the final bill will be a tiny fraction of that." He claims the real issue for shareholders is the insurance industry has too much money, and that the results have been "...a price war, as underwriters have cut fees, especially on commercial policies, in order to keep market share."

As we all know, no matter what industry we're focused on, a price war can often make all the players suffer. That's why, according to Meyer Shields, an insurance analyst at financial services firm Stifel, Nicolaus, "[Insurance] prices fell 50% to 60% from 2004 to 2011. Insurers were not earning their cost of capital. There was too much competition."

The result, according to industry analysts, is that insurers now pay out more in claims and expenses than they collect in premiums. They try to make up for the shortfall by investing those premiums, but that hasn't worked too well. Their average return on capital has been a paltry 3% to 5%.

The Journal article claimed the major publicly traded insurance companies have averaged share price gains of around 16% so far this year. Finding that hard to believe, I looked for an ETF that trades mainly insurance-related companies. Much to my surprise I found one.

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