🔎ROOT 2Q26: Back to hibernation?
The company is throttling down their underwriting to respond to continued softness in the insurance industry. Some investors are scared by that. I believe there is more opportunity than risk.
TLDR Summary
When you assess Root’s fundamentals and its valuation, the most important aspect to understand is that it’s a cyclical story just as much as it’s a structural one. The cyclical aspect is notoriously underappreciated in the investor community which drives the stock’s dizzying volatility.
Root management will always protect their profitability under all circumstances. Underwriting happens opportunistically. Single quarters with aggressive growth or significant slowdown are not indicative of the long-term growth trajectory.
2Q26 is such an opportunistic slowdown. The company will likely print negative topline growth in the coming quarters. I’m not as concerned about that anymore as I have been in the past because the fundamentals remains strong regardless. Root can generate about $100m in net profit annually which would comfortably keep them at an RoE north of 20% and hence support the company’s current P/B multiple.
Setting the stage for this quarter (a bit more context this time)
If you are a long time reader of Fallacy Alarm, you know that I started covering this company with great excitement in early 2024 after their blow-out 4Q23 performance.
At that time, the stock had jumped from under $10 to $25 and it would go on to pump beyond $100 later that year.
It was a perfect moment for the company. They were able to show that their business model and their technology were working just at the time when the insurance cycle turned sweet after the 2022 inflation shock. Insurance is one of the most vulnerable sectors when unexpected inflation occurs because their claims expenses react near instantly to price shocks while premium collection is stale at first.
The massive run of the stock was in part because investors had misread the operating weakness in 2022/23 as structural (‘their tech doesn’t work’) instead of cyclical (‘the insurance cycle is at a low’). When cyclical headwinds turned into tailwinds, the market was caught wrongfooted and the stock exploded.
Root has always been both a structural and a cyclical story, the latter of which is notoriously underappreciated by the investor community.
Over time, this made me increasingly worried about what would happen to the stock once the insurance market inevitably turns sour again. I voiced these concerns for the first time after the 2Q25 earnings release when the stock was trading at $126. And I repeated those concerns in subsequent quarters.
I felt that the stock had to post a few poor quarterly results to flush out investors that were unaware of this cyclical component. There were tons of such investors engaged in the insurance technology space as evidenced by the ridiculous valuation of fraudulent competitor Lemonade.
Root management is very disciplined about the company’s bottom line. They would throttle back underwriting when insurance industry fundamentals didn’t justify deploying capital. I expected that to trigger a growth scare that should do the job of fixing the shareholder mix.
(Don’t get me wrong, I have never advocated trading in out of what I consider a unique company with an exceptional management and a very strong long term investment case. I view it as a cornerstone of a growth stock portfolio. But what’s the point of quarterly updates if I tell you every time that the company is awesome and I expect an infinity candle tomorrow?)
Then 1Q26 happened and the company posted very strong results, inflecting positively once again on growth and profitability. It made me conclude that I might have been too worried about the cyclical danger. I turned bullish again with the share price at about $55.
Let’s see if 2Q26 justified that bullishness.
