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Strong third quarter results from early reporting Q3 US P&C insurers have fuelled a surge in share prices in the sector.

It comes as US primary giant insurer Travelers fuelled optimism that the industry would be able to generate "rate on rate" increases.

Travelers kicked off the Q3 earnings season for the P&C carriers last week by smashing Wall Street consensus estimates with reporting operating income of $867mn, up 161 percent from Q3 2011.

The result was driven by improved underwriting profitability, with the combined ratio dropping to 90.3 percent from 104.5 percent a year earlier. Click to enlarge

While lower catastrophe losses accounted for 9.2 percentage points of improvement, the remaining 4.9 percentage points was ascribed to lower non-cat weather losses and rate improvements working through the profit and loss account in excess of loss cost trends.

Travelers said that momentum on rates had continued, with commercial insurance prices rising 8 percent in the quarter - up from 7 percent in Q2. This represents a significant step for the sector, with analysts scrutinising results for signs of companies compounding rate gains in late 2011 - the so-called pursuit of "rate on rate".

Despite the improvement in the company's underlying underwriting performance, CEO Jay Fishman said it would continue to push for rate improvements on the assumption that increased cat and non-cat weather losses and low investment yields were here to stay.

"We continue to assume that our operating environment has changed. Notwithstanding the benign weather we saw in the third quarter, Mother Nature seems to be increasingly unpredictable, and we believe the low interest rate environment will continue to impact our business for the foreseeable future," he told analysts on Travelers' conference call.

"Therefore, we will continue to seek improved pricing and take those underwriting steps necessary to improve profits and produce higher returns on capital. This remains business as usual for us," he explained.

Josh Stirling, analyst at Bernstein Research, said Travelers' commitment to seeking rate rises should be read as more than just one data point among many, describing the company as "among the clearest fathers of this hardening market".

"Travelers' guidance is a statement of this market leader's intent to raise pricing at least through 2013-and we believe the market will follow Travelers' lead," he said.

Stirling added: "With a pricing umbrella from many of the largest companies, most carriers will likely push for rate, and investors should expect continued re-pricing at least through 2013. As a result, we remain bullish on our group [of P&C stocks] - for nearly all are benefitting from this rising tide."

Optimism on third quarter results had fuelled a strong surge in US P&C stocks over the past several weeks, yet Travelers' strong performance was enough to give the sector another shot in the arm.

The group has strongly outperformed during October, with The Hartford and American International Group (AIG) up more than 10 percent during the period, while Allstate, Chubb and Travelers are all up at least 6 percent (see graph).

This compares to a 1.2 percent increase in the S&P 500, as of market opening on 19 October.

Despite the strong results from Travelers, Stirling advised against the obvious lateral investments of Travelers peers Ace and Chubb, which usually instantly react to Travelers' outperformance.

Instead, he recommended playing the sector by investing in "turnaround" stocks that will benefit from the rising tide but have company specific action they can take to meaningfully improve performance - such as AIG and XL.

He explained that the discounts to book that these companies trade at leave plenty of room for improvement to be reflected in valuations and that they have had less of the renewed optimism "baked in" thus far.

Bullish sentiment on rates has also been supported by fellow early reporters RLI and Brown & Brown. Illinois-based RLI said pricing is slowly improving, while retail broker Brown & Brown said both pricing and the economy were getting better.