Sun Life Financial stock: a top dividend pick for 2022 (NYSE: SLF)
The investment landscape is changing rapidly and it is imperative to keep pace with what is happening in the global economy to find stocks that could help us generate long-term alpha returns. The S&P 500 Index is down 7% in 2022 so far, so it would be fair to say that we are off to a tough start in this new year. The energy sector has largely outperformed the wider market this year, returning 12.58%, while the financials sector has lost 2.25% in value, which in itself is a good performance relative to the market. In what I believe will be a tough year for investors, the financial services industry has a lot to offer. Although investors – especially income investors – may focus on the big US banks, I believe there are good opportunities in Canadian financial services stocks, even if these stocks often remain under the radar. Just last month, we added a leading Canadian banking stock to our model dividend portfolio at Leads From Gurus, due to improving macro conditions in the global financial services sector. Today I will be discussing the outlook for Sun Life Financial Inc. (SLF), another Canadian financial sector company that I believe is poised to deliver handsome returns for income investors in 2022 and beyond.
A brief introduction to Sun Life
Sun Life Financial Inc. is a Canada-based financial services company that offers a variety of insurance, wealth and asset management products. The Company operates through five segments: Canada, United States, Asset Management, Asia and Corporate. Individual insurance and asset management, as well as group benefits and retirement services, are offered through the Canadian and US segments. MFS (asset management company) and SLC Management (institutional investment management) are part of the Asset Management division, and these companies offer investment products. The Asia segment, which includes operations in the Philippines, Hong Kong, Indonesia, Vietnam, Malaysia, India and China, offers life, health, wealth and asset management insurance solutions through the through two business units: Local Markets and International Hubs. The Corporates division includes run-off reinsurance operations and UK business.
Interest rates matter
Sun Life has done a commendable job of diversifying its business over the past decade. The asset management business has become the main driver of revenue and, in the third quarter of 2021, this segment accounted for nearly 30% of net income. In 2020, the wealth and asset management business accounted for 44% of underlying net income, a notable increase from just 35% in 2012.
Exhibit: Net Revenue by Product Type
The trend from a diversification standpoint is positive, but Sun Life still cannot escape the impact of interest rate fluctuations. In general, insurers tend to do well during periods of rising interest rates.
Many economic factors influence investment decisions, and one factor that worries many investors is rising interest rates. Interest rates are extremely important in the banking and insurance industries, as most financial services companies and insurers invest their profits in various income-generating securities to generate profits, as well as in stocks to generate capital gains for their policyholders. Fluctuations in interest rates therefore have a significant impact on the profitability of these companies. The Federal Reserve cut interest rates to offset the effects of slowing economic growth at the start of the pandemic, causing yields on US 10-year Treasury bonds to fall. With the economy recovering, the Fed plans to raise interest rates in 2022, and Treasury yields are finally starting to rise. It is therefore important for investors to assess the quality of their portfolios to weather any negative impact resulting from rate hikes, and the best course of action would be to gain some exposure to business sectors which are bound to perform well in a rising rate environment.
Rising interest rates and the performance of insurance companies
Interest rate risk is one of the key factors to watch for investors looking to find opportunities in the insurance industry. Now that the world is gearing up for interest rate hikes, it makes sense to understand how insurance companies have behaved in the past during rate hikes. Insurance companies typically benefit from interest rate increases because they typically reinvest policyholder premiums in bonds, and higher rates allow them to invest the funds in higher-yielding securities. Insurance companies are investing in fixed income instruments that pay interest – mainly bonds – and a low interest rate environment is becoming a major threat to profitability due to shrinking margins.
According to data compiled by CI Global Asset Management, over the past two decades, an increase in 10-year bond yields has almost always boosted the Canadian insurance industry.
Exhibit 2: Performance of Canadian life insurance companies in rising yield environments
Based on empirical evidence, it would be fair to assume that Sun Life is entering a phase of the business cycle where insurance companies are bound to perform well.
Asia brings new opportunities and new risks
Sun Life’s Asian operations have become an important part of the business in recent years, and Asia is likely to provide growth opportunities for the company’s insurance business relative to mature markets. such as the United States and Canada. That being said, the Asian insurance market is very competitive, which could force Sun Life to undervalue policies, which in turn would hurt the company’s profitability. The growing importance of the Asia business segment could also lead to earnings volatility in the future due to business momentum in this region. The wealth management business in Asia is very susceptible to volatile numbers due to market fluctuations.
So far, Sun Life has done a terrific job of winning new business in Asia while controlling earnings volatility, but I’m watching closely for new developments that could impact the company’s dividend policy. .
The dividend is what attracts attention
As often pointed out by company management, Sun Life aims to allocate 40-50% of its underlying earnings to dividend distributions. Last November, the Office of the Superintendent of Financial Institutions lifted the ban on dividends on companies in the financial sector, creating a platform for Sun Life to start raising dividends again. Shares of Sun Life today yield a healthy 3%, and the improving macroeconomic environment for the insurance industry suggests that the company is on track to reward investors generously this year via rate hikes. dividends.
To take with
Diversification is key when it comes to building an equity portfolio, and I believe that many income investors will benefit from some exposure to the Canadian financials sector this year. Sun Life Financial stands out as a good dividend pick with a strong track record of shareholder payouts, and the company is heading in the right direction to report slow and steady earnings growth.