Challenger: Favorable Sales Mix to Benefit Margins

We maintain our fair value estimate for no-moat Challenger CGF at AUD 7.30 per share, with shares mildly undervalued at current prices. The firm is effectively executing its strategy to grow higher-margin product sales in the early months of fiscal 2024. We anticipate earnings margins will continue expanding over fiscal 2024-2028—driven by a favorable shift in product mix and higher yields on investment assets, which should support further rerating of its shares. Continued expansion of institutional partnerships, such as its collaboration with Aware Super; and broader distribution efforts, including selling its products via platform operators like Netwealth, should help Challenger capture its fair share of the growth in the burgeoning annuities market.

While lifetime product sales were higher than expected, it was offset by reduced sales of shorter-dated products, underscoring our unchanged fair value. The 365% increase in lifetime sales from the previous corresponding period, or PCP, reflects the growing appeal of longer-term annuities in a higher interest rate environment. Reinvestment rates upon product maturity are also increasing. These factors are growing Challenger’s investment asset book and helping to generate higher investment returns, thus benefiting earnings and margins.

While we anticipate lifetime annuity sales to grow in the midteens over the next five years, our projected sales growth for shorter-dated products averages just 1% per year over the same period. The decline in sales of one-year fixed-term annuities and shorter-dated institutional products, relative to the PCP, suggests there’s potential for sales of longer-dated products to cannibalize sales of their shorter-dated alternatives.

We expect net inflows into Fidante Partners to increase in fiscal 2024, compared with fiscal 2023, partly due to an expected recovery of industry fund flows. Net inflows of AUD 4.3 billion for the quarter exceeded AUD 380 million for the entirety of fiscal 2023.