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Morning Update

Tomorrow after the close Allstate Corp will report 4th quarter earnings and option traders are betting they will be good. Yesterday one trader bought 10,000 February 45 calls for $0.60 with the stock trading at 43.93. This is a bullish bet that Allstate will be above 45.60, 3.8% higher, at February expiration which is in 8 trading days.

There are a few reasons to be optimistic heading into Allstate’s earnings announcement tomorrow. The first is that, because of Superstorm Sandy, the bar has been set low. The company estimated that it suffered $1.08 billion in catastrophic losses in October, but peers Chubb and Travelers, who have both reported, seemed to make out better than was originally expected. A big part of this is because flood damage is coved by the National Flood Insurance program, not homeowner’s insurance. Other than losses from Sandy, investors will be closely watching for a change in net premiums written. The company increased rates in several states last year and instituted a new policy in Oklahoma and Kansas that limits their liability in some circumstances. These should help to company’s profitability, and hints of further rate hikes are not out of the question in the heels of Superstorm Sandy.

All in all, if Allstate’s losses from October are less than they originally estimated and there is growth in net premiums written, this stock, which is already up 8.6% year to date, could climb higher. As of yesterday’s close the stock yielded 2% a year and management has a strong track record of effective share buybacks. Allstate has been repositioning itself away from catastrophe insurance and into more profitable, steady businesses like auto insurance. With extreme weather on the rise this could prove to be a great decision for the long haul and demonstrates management’s ability to adapt to changing market conditions.

Allstate looks to be a good long term hold if it can deliver a solid fourth quarter report tomorrow. But considering the risk on the line, I prefer to own a call into the announcement. That keeps risk limited and keeps my portfolio safe from any mayhem that could come out of the 4th quarter report.

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