For readers who think that the United States government bends over backwards to accommodate the financial industry, MetLife's (NYSE:MET) discussion of guidance for the remainder of 2012 and 2013 is a must-read. While the troubled asset relief program and a variety of other government programs clearly allowed financial companies to shore up their capital, the reality is that the zero interest rate policy and "QE infinity" are taking a toll on companies that earn their living on interest rate spreads.

Guide To Oil And Gas Plays: We've got your comprehensive guide to oil and gas shales in North America.

A Tough 2013 Is Coming
MetLife announced guidance for 2013 that was well below prior analyst estimates. Against the prior average estimate of $5.51 in 2013 earnings per share (EPS), MetLife management announced that they expect operating earnings to be more on the order $5.15 (with a range of $4.95 to $5.35).

A key factor in this lower guidance was the outlook for interest rates, not to mention substantially lower variable annuity sales. Although MetLife was already in solid shape relative to other insurance companies like Prudential (NYSE:PRU) and Lincoln National (NYSE:LNC) in terms of variable annuity exposure, management is nevertheless pulling back and expects significantly lower sales in 2013. While this will have a negative near-term earnings impact, it may actually be better for longer term returns on equity.

Perhaps more troubling is that it would seem that MetLife won't be generating much, if any, excess capital in 2013. Not only does that mitigate the potential for dividend hikes and share buybacks, but it may also reflect the overall higher levels of capital that the company will have to maintain in the future.

SEE: How Buyback Warp The Price-To-Book Ratio

Maybe 2013 Won't Be so Bad, After All ...
Investors should note that MetLife is, by and large, an "under-promise and over-deliver" sort of company, so there is at least a reasonable chance that actual results will not be as bad as forecasted. In particular, it's worth noting that about a third of the company's business comes from overseas markets that are not as sensitive to U.S. interest rate policies. It's also worth noting that the company's 5% target for the S&P 500 could prove to be conservative, and my math suggests a roughly 3 cents to six cents EPS impact for every 1% deviation.

That said, there are some significant risks here. If rates stay as low as they are now, for an extended period of time (say for or five years), MetLife will likely be hard-pressed to grow much beyond the low-single digits. Like as not, though, ongoing low rates in the U.S. will spur the company to make additional acquisitions overseas, particularly in emerging markets.

It's also worth noting that MetLife's regulatory situation may not improve as quickly (or as much) as hoped. The company's sale of banking assets to General Electric (NYSE:GE) is basically done, and the company should be able to drop its bank status in the first half of 2013. Even still, though, the company is likely going to remain a systematically important financial institution and subject to more serious regulations. If the regulatory burden gets too high, though, I wouldn't be surprised to see the company pursue a breakup strategy.

SEE: Use Breakup Value To Find Undervalued Companies

Not Just a MetLife Problem
I don't mean to suggest that every financial company has the same interest rate risk or exposures as MetLife, but the reality is that there are a host of financial companies that make a sizable percentage of their earnings from healthy interest rate spreads. Although banks like U.S. Bancorp (NYSE:USB) have extensive fee-based business interests that are much less rate-sensitive, banks like Zions Bancorp (Nasdaq:ZION) are much more dependent on net interest income.

Likewise, it's not just life insurance companies that depend upon healthy rates. Most property and casualty insurers subsist on thin underwriting ratios, making the interest they earn on their portfolios an important factor in their overall earnings. Consequently, companies like Allstate (NYSE:ALL) and Progressive (NYSE:PGR) are also going to see ongoing pressure from the low rates.

The Bottom Line
These are not easy days for MetLife, but I continue to believe that the market underestimates this company's long-term earnings power. Even if low rates and new regulations put the company's former returns on equity out of reach, I believe the company is fundamentally undervalued on the basis of what I believe it can earn off its capital. Trading at just about half of its book value, I'd be a buyer of MetLife, even if low rates are going to crimp growth for the next year or two.

At the time of writing, Stephen D. Simpson did not own any shares in any company mentioned in this article.

Related Articles
  1. Stock Analysis

    Starbucks: Profiting One Cup at a Time (SBUX)

    Starbucks is everywhere. But is it a worthwhile business? Ask the shareholders who've made it one of the world's most successful companies.
  2. Stock Analysis

    How Medtronic Makes Money (MDT)

    Here's the story of an American medical device firm that covers almost every segment in medicine and recently moved to Ireland to pay less in taxes.
  3. Investing News

    Latest Labor Numbers: Good News for the Market?

    Some economic numbers are indicating that the labor market is outperforming the stock market. Should investors be bullish?
  4. Investing News

    Stocks with Big Dividend Yields: 'It's a Trap!'

    Should you seek high yielding-dividend stocks in the current investment environment?
  5. Investing News

    Should You Be Betting with Buffett Right Now?

    Following Warren Buffett's stock picks has historically been a good strategy. Is considering his biggest holdings in 2016 a good idea?
  6. Products and Investments

    Cash vs. Stocks: How to Decide Which is Best

    Is it better to keep your money in cash or is a down market a good time to buy stocks at a lower cost?
  7. Investing News

    Who Does Cheap Oil Benefit? See This Stock (DG)

    Cheap oil won't benefit most companies, but this retailer might buck that trend.
  8. Investing

    How to Ballast a Portfolio with Bonds

    If January and early February performance is any guide, there’s a new normal in financial markets today: Heightened volatility.
  9. Stock Analysis

    Performance Review: Emerging Markets Equities in 2015

    Find out why emerging markets struggled in 2015 and why a half-decade long trend of poor returns is proving optimistic growth investors wrong.
  10. Investing News

    Today's Sell-off: Are We in a Margin Liquidation?

    If we're in market liquidation, is it good news or bad news? That party depends on your timeframe.
RELATED FAQS
  1. How can insurance companies find out about DUIs and DWIs?

    An insurance company can find out about driving under the influence (DUI) or driving while intoxicated (DWI) charges against ... Read Full Answer >>
  2. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  3. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  4. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  5. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  6. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>
COMPANIES IN THIS ARTICLE
Trading Center