Challenger (ASX: CGF) saw a 4% increase in product sales for the first quarter of fiscal 2026 to $2.5 billion, from $2.4 billion a year ago. Funds under management in its funds management business fell 8% over the same period to $110 billion.

Why it matters: Solid volumes and a favourable mix shift in Challenger’s Life (annuities) business—its main earnings contributor with around 90% of normalized net profit after tax—will likely support future earnings growth, offsetting weakness in funds management.

  • Both product sales and annuity maturity rates were better than expected, underpinned by continuous demand from the aging population. An expanded distribution footprint beyond advisers—most recently with Insignia Financial—is likely to help grow absolute sales volumes.
  • However, the commoditized nature of annuities is evident, with Challenger alluding to competition in shorter-term products despite its market leadership, leading it to prioritize longer-term product sales. We already forecast competition with Challenger to intensify, resulting in market share losses.

The bottom line: We raise our fair value estimate for no-moat Challenger to $8.00 per share from $7.60. This reflects upgrades to our absolute dollar sales projections and slower annuity maturity rates due to a mix shift toward longer-term products. However, shares remain overvalued.

  • We see constraints to market share gains due to competition and the expected reduction in interest rates, which may diminish product appeal. Challenger is endorsing the regulator’s proposal to lower capital requirements for annuity companies, but this also encourages new competition.
  • We also suspect the market is too bullish on the firm’s margin expansion potential. A growing proportion of institutional sales in place of retail sales could lower margins. The market may also be underestimating the operating investments needed to support growing volumes.

Business process and outlook

Challenger is a major annuity provider in Australia, and its products are represented on platforms used by the majority of Australia’s financial advisors.

Challenger is focused on increasing sales via independent advisors, specialty platforms, industry funds, and institutional clients that seek guaranteed returns. The partnership with MS Primary allows the firm to sell Australian- and US-dollar-denominated annuities into Japan.

The firm’s long-term aim is to sell more annuities with longer tenures. Reduced maturity rates will increase the funding for its investment asset book, generate higher liquidity premium, and help deliver higher earnings growth and ROE.

Challenger’s funds management business consists of Fidante and Challenger Investment Management. The majority of funds under management are sourced from Fidante, which provides administration and distribution services to a network of boutique managers, while holding a minority interest in them. Meanwhile, CIM is a real estate and fixed-income manager that manages money for Challenger’s life business and third-party client mandates. Ongoing priorities include adding new boutiques/strategies to the Fidante network and broadening its distribution reach.

Challenger’s diversification strategy is bearing fruit. Challenger’s sales volumes are now more consistent, having recovered from past disruptions to Australia’s financial advice industry around 2018 as well as disruptions from covid-19. Product sales are increasingly diversified across the advisor, institutional, and retail channels.

Earnings prospects are strong. Challenger is positioned to benefit from Australian baby boomers transitioning to retirement. Notably, approximately AUD 87 billion in funds are shifting annually into the Australian postretirement segment, and we expect Challenger to command a meaningful share of these funds. Australia’s new retirement legislation, particularly the new covenant requiring superannuation trustees to offer a comprehensive income product for retirement, is expected to help increase Challenger’s annuity sales.

Bulls say

  • Challenger’s annuities business is in a growth industry. We expect Challenger to capture an increasing share of funds moving from the accumulation phase into retirement phase within Australia’s superannuation system.
  • The government’s Retirement Income Covenant should lead to wider adoption of annuities in retirement portfolios. This should underpin stronger annuity sales over the medium to long term.
  • Challenger has a track record of positioning the company over many years to continue benefiting from growth in both annuities and funds under management in its funds business.

Bears say

  • Challenger is exposed to potential major value destruction if investment markets suffer a steep and prolonged fall.
  • We expect future margins in Challenger’s annuities business to be lower than historically due to increased competition, change in product mix, and lower investment returns. The latter is a result of structurally lower rates relative to pre-GFC period.
  • The retirement industry is subject to heightened scrutiny and media attention. A compliance breach or other action that hurts Challenger’s reputation could have a significant negative impact on its earnings.

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Terms used in this article

Star Rating: Our one- to five-star ratings are guideposts to a broad audience and individuals must consider their own specific investment goals, risk tolerance, and several other factors. A five-star rating means our analysts think the current market price likely represents an excessively pessimistic outlook and that beyond fair risk-adjusted returns are likely over a long timeframe. A one-star rating means our analysts think the market is pricing in an excessively optimistic outlook, limiting upside potential and leaving the investor exposed to capital loss.

Fair Value: Morningstar’s Fair Value estimate results from a detailed projection of a company’s future cash flows, resulting from our analysts’ independent primary research. Price To Fair Value measures the current market price against estimated Fair Value. If a company’s stock trades at $100 and our analysts believe it is worth $200, the price to fair value ratio would be 0.5. A Price to Fair Value over 1 suggests the share is overvalued.

Moat Rating: An economic moat is a structural feature that allows a firm to sustain excess profits over a long period. Companies with a narrow moat are those we believe are more likely than not to sustain excess returns for at least a decade. For wide-moat companies, we have high confidence that excess returns will persist for 10 years and are likely to persist at least 20 years. To learn about finding different sources of moat, read this article by Mark LaMonica.