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Why 10% of my portfolio is made up of Challenger Ltd shares

If an investor or a fund has 10% or more of a portfolio invested in one stock, it’s fair to say that they’re confident about that business.

One of my favourite shares is Challenger Ltd (ASX: CGF), which is why I write about it so often.

Challenger is by far the largest annuity provider in Australia and it’s taking around 90% of all new annuity business as well.

It’s such a clear leader because of two main reasons. It’s wisely built up its recognition and reputation with advisers and clients, they’re happy to go with a known brand. It has also ramped up its distribution network. Two of the latest platforms it is sold on belong to AMP Limited (ASX: AMP) and BT Financial Group.

Challenger’s main source of funds comes from annuities that it sells to retirees who are looking for a secure source of guaranteed income from their capital. This flow of money into annuities is steadily growing because of Australia’s ageing population and large superannuation pool.

In-fact, the number of people over 65 is predicted to grow by 75% over the next two decades, which could be a strong boost to Challenger’s funds under management.

I like how conservative Challenger is with its financials. A majority of its underlying funds for the annuities are invested in safe assets like fixed interest. It also has a low dividend payout ratio of only 50%, saving the rest of the profit to re-invest for more growth.

Challenger has recently started working with Mitsui Sumitomo Primary Life Insurance, which is the biggest provider of foreign currency annuities in Japan. Challenger is providing 20-year Australian dollar fixed rate annuities. In FY17 Japanese annuity-related sales delivered 15% of sales for Challenger.

In its quarterly update to 30 September 2017 the business revealed group assets under management (AUM) was up 5%, total life sales had grown by 45% and annuity sales were up 6% compared to the prior corresponding period.

Foolish takeaway

Challenger is currently trading at 21x FY18’s estimated earnings with a grossed-up dividend of 3.55%.

It’s not a bargain at today’s prices, but I think it’s still good value for the slow-and-steady growth it should produce over the coming years.

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Motley Fool contributor Tristan Harrison owns shares of Challenger Limited. The Motley Fool Australia owns shares of and has recommended Challenger Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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