Manulife (TSX: MFC) is a very interesting stock. The market doesn’t love it. At $25.78 per share at writing, it trades at about 8.1 times blended earnings, which is still cheap for a solid life and health insurance company that is expected to increase its earnings per share (EPS) by about 7% per year over the next three to five years. It offers a competitive dividend yield of close to 5.7% versus the best one-year riskless GIC (Guaranteed Investment Certificate) rate of about 4.75% currently.
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An undervalued stock
How undervalued is Manulife stock? Versus its long-term normal valuation, the stock trades at a discount of roughly 20%. It also trades at a similar discount to its close competitor, Sun Life (TSX: SLF), which trades at a discount of almost 10% from its long-term normal valuation.
Why does Manulife stock trade at a discount to Sun Life? First, investors should note that Manulife’s S&P credit rating of A is one notch lower than Sun Life’s A+ credit rating. Second, Manulife’s business mix is different. Compared to Sun Life, it has greater exposure to Asia and (as a percentage of its earnings, not in absolute dollar value) has a smaller component in wealth management.
In the first quarter, Manulife made 37% of its net income from Asia, 22% from Canada, 21% from global wealth and asset management, and 13% from the United States. It has the top sales rank in Hong Kong retirement and Canada retirement. It also has leading positions in group benefits and retail segregated funds in Canada as well as leading positions in insurance in Vietnam, Cambodia, and Singapore. Investors could see its Asian exposure as higher risk that could lead to higher returns. For the quarter, Sun Life made only 15% of its net income from Asia, 29% from asset management, 32% in Canada, and 24% in the United States.
The overhang for Manulife right now may be the slower economic growth in China and a larger percentage of Hong Kong citizens leaving the city to recent history. Manulife stock’s lower valuation is one reason why it offers a higher dividend yield versus Sun Life’s yield of about 4.5%.
Is Manulife stock’s 5.7% dividend safe?
Manulife’s trailing 12-month (TTM) payout ratio was 40% of net income available for common shareholders. This payout ratio aligns with its historical payout ratio range. Additionally, it last increased its dividend by 10.6% in February. Certainly, it was welcoming especially when compared to Sun Life’s dividend increase this month of 8.7% year over year.
Given Manulife’s relatively low payout ratio versus Sun Life’s TTM payout ratio of about 55%, the insurance company should be able to keep its dividend safe. In fact, it should be able to align its dividend growth more or less with its earnings growth.
Investor takeaway
Manulife stock’s relatively lower valuation allowed it to outperform Sun Life stock in the one- and three-year periods by 73% and 40%, respectively, by delivering total returns of about 22% and 90%. Today, Manulife stock still trades at a good discount of roughly 20% to Sun Life stock.
Their estimated EPS growth rates of about 7% are similar over the next three to five years. If Manulife is able to achieve this growth rate, it has a chance of outperforming Sun Life because of its stronger valuation expansion potential and juicier dividend. Therefore, higher-risk investors can take a closer look at Manulife for a potential purchase.
