How much more room for growth does Challenger have?
In this week’s video insight Andreas takes a look at Challenger, a core holding in our funds. With currently around 90% market share in the annuity market place in Australia we believe there is even more opportunity for Challenger’s growth.
The Montgomery Funds own shares in Challenger. This video was prepared 09 October 2018 with the information we have today, and our view may change. It does not constitute formal advice or professional investment advice. If you wish to trade Challenger you should seek financial advice.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
INVEST WITH MONTGOMERY
Andreas Lundberg
:
Hi Michael, Joseph and Max,
Please have a look at the new blog post that goes through our view on Challenger. Apologies for taking time to answer but hopefully that post gives a good view on what we think.
Michael Brydon
:
Hi Andreas, do you have any further insights into CGF. Does the recent SP pull back affect you view of the company. Thank you.
M
Roger Montgomery
:
We are looking at it closely. We reduced the position in both of our domestic funds ahead of the recent weakness and are now reassessing.
Joseph Sofaer
:
What are the thoughts of the team on today’s trading update?
Max Zan
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Hi Andreas
The Challenger share price took a big tumble today following a half yearly undate – statutory profit being impacted from large “investment experience” losses mainly from a fall in Equity prices.
You did point out that volatility would increase going forward – The market did not like the numbers and the share price reflects that.
Challenger is not an easy business to assess as there are lots of moving parts and difficult to know how well they cover the downside. A rising market works in their favour but a falling market causes havoc. I don’t own shares in Challenger but interested to know if the team at Montgomery is still positive about their Business Model.
Max Zan
:
Hi Andreas
I sort of understand the overall Business model of Challenger but don’t fully understand how they protect the downside of Assets they hold to deliver the returns they promise. Lets say I roll up with $100K and purchase an annuity – those Funds become a Liability on their Balance Sheet and they in turn invest those Funds (Assets on Balance Sheet) to generate the Returns they promise me . What happens if the Assets they hold such as Bonds or Property fall in value ? – Do they mark down those Assets to the prevailing Market Value or do they sit on the Balance Sheet at Cost ? If they are marked down do the Shareholders or the Annuity Investors wear the Loss? It’s an important issue to know about as I suspect Challenger is likely to be heavily invested in Bonds and rising Bond yields means Capital losses on existing Bond held “if” Assets are marked down to Market value on Balance Sheet.
Andreas Lundberg
:
Hi Max,
For a fixed annuity Challenger takes on the complete asset risk and they have a line in their P&L called “investment experience” which is the difference between the assumed long term return on their assets and the actual experience in the period. In this way, as long as Challenger continues to be a going concern, annuity holders are guaranteed to get their return.
Challenger invests in a variety of assets (fixed income, equity, property, infrastructure etc.). The majority of their balance sheet is though invested in investment grade bonds. The key is that they as far as possible try to match the duration of their portfolio of investments with their annuity liabilities and generally hold their fixed income securities to maturity meaning that movements in the price of those securities will revert over time as they approach maturity. We are likely to see earnings volatility for Challenger through the “investment experience” line but as long as the securities they own does not default, it has no real economic impact on Challenger. It is first when we see a significant upturn in default rates that Challenger is in trouble. Higher bond yields is also generally good for the front book (new annuities written) as it is easier for Challenger to “clip the ticket” in an environment with overall high yields than in the recent very low yield environment.
When Challenger reported their full year results a while ago, they said that they are moving towards higher rated fixed income securities and are taking down the allocation to property in the portfolio which is something we very much like.
There are also variable annuities where the annuity holder shares some of the asset price risk with the annuity seller (in return for a higher return for the annuity holder) but these products are not widespread in Australia.