Motley Fool Australia

My top 2014 financial services stock

Challenger (ASX: CGF) is a stock that I believe will reward investors for a long time to come. Let me explain why it’s my top financial services stock right now — and at what price you should buy.

Challenger is an investment firm managing more than $46.1 billion in assets (as at September 2013). It operates two core investment businesses, an APRA Regulated Life Division and a Funds Management Division.

The two divisions are aligned to changes in the financial industry and are well positioned to take advantage of their small positions in a large market that continues to grow. There is strong long-term demand for lower-risk, lower-cost income stream products, with a focus on new products and expanded distribution.

The company is committed to providing Australians with financial security in retirement. In the saving phase of superannuation their investments build wealth. In the spending phase of retirement, they convert this wealth into safe and reliable income streams. Challenger serves its customers during their saving and spending phases.

Challenger sees itself competing successfully in the expanding funds management market with many of Australia’s top banks and wealth management companies. Combined funds invested for superannuation alone are worth $1.6 trillion today, and are projected to grow to over $6 trillion by 2030.

Annuities are in demand by retail investors moving into retirement and Challenger is well placed to take advantage of this trend. Changing demographics clearly complement the business model with an increasing population wanting the services offered.

With the exception of 2008, Challenger has increased earnings per share each year for the last 10 years. After the Global Financial Crisis of 2008, the company switched out of mortgage backed securities. Return on equity has consistently been above 12% each year for the past eight years. Debt as a ratio of debt to equity is very high, however it has been coming down annually for the past four years. Dividends have grown steadily from 5 cents per share in 2005 to 20 cents per share last year.

Foolish takeaway

Challenger is one stock that is going to be around for a very long time and whose earnings and dividends have had a solid history of growth. I would buy Challenger around $5.00, where it would present excellent value to be held for the long term.

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Motley Fool contributor Chris Koenig does not have shares in any of the companies mentioned.

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