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Why this financial stock is one to watch

Glenn Freeman  |  30 Mar 2017Text size  Decrease  Increase  |  
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Australia's federal government will hand down a new plan for retirement income products later in 2017, and this financial services company is poised to take full advantage.


At the end of next month, submissions to the government's proposed framework for Comprehensive Income Products For Retirement (CIPR) will close. These products, which are largely unknown and widely misunderstood within the broader Australian population--even more so than superannuation--are becoming increasingly important for a couple of reasons.

Australia's ageing demographics will see the number of Australians aged 65 and over increase 25 per cent over the next 40 years, according to Treasury's Intergenerational Report.

To help address this, the Australian government has for some time been searching for ways to minimise the impact on the publicly-funded pension. The plan to facilitate the creation of more efficient retirement income products is a key part of these efforts, and has led the government to ask the financial industry for its input--Morningstar is among those to respond.

Challenger Limited (ASX: CGF) is an active investment manager that provides retirement-income products via its regulated, wholly-owned subsidiary Challenger Life. According to Morningstar's senior banking analyst David Ellis: "Attractive long-term industry dynamics are supported by an ageing demographic seeking financial security in retirement."

Annuities are a key product within Challenger's offering--an annuity is an investment product that provides an investor with guaranteed regular payments over an agreed term, in return for making an up-front lump sum investment.

The attributes of stability, regularity, and reliability are the main reasons annuities appeal to retirees, or individuals transitioning toward retirement, who seek a reliable income stream that enables them to replace their salaries and maintain their pre-retirement lifestyle.

"The opportunities for further growth of the annuities market are strong and come from the relatively low usage of annuities in Australia and the growing compulsory retirement savings pool. Challenger is well positioned to capture this growth given its wide and growing distribution reach," says Ellis.

In addition to the demographic trends and government regulatory changes that are driving demand for annuity, Challenger also benefits from a strong network of distribution channels, via several high-profile platforms operated by banks and financial groups.

The largest of these, Panorama, is operated by Westpac-owned BT Financial Group, which is adding Challenger annuities to its product suite, as is AMP.

"Once new distribution agreements are on stream, the company expects to have its annuities on platforms used by around two-thirds of advisers in Australia and to have access to a third of super industry funds under management," says Ellis.

Challenger is also expanding its operations outside Australia, having partnered with Mitsui Sumitomo Primary Life Insurance Company in November 2016 to distribute Australian dollar annuity and life products in Japan, "a relationship that further highlights the attraction of annuities to an ageing population".

The company's share price has had a stellar run, with a 32 per cent average shareholder return over the last five years.

Challenger's 2017 cash operating earnings of between $620 million and $640 million were slightly above guidance, and shares are trading around 7 per cent above Morningstar's $11.50 fair value estimate.

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Glenn Freeman is Morningstar's senior editor.

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