Down 20% this week: Is the Challenger (ASX:CGF) share price cheap?

The Challenger Ltd (ASX:CGF) share price has fallen heavily this week after the release of a disappointing third quarter update…

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It certainly has been a disappointing week for the Challenger Ltd (ASX: CGF) share price.

As of yesterday’s close, the annuities company’s shares were down 21% week to date.

Why is the Challenger share price crashing this week?

Investors have been heading to the exits in their droves this week following the release of its third quarter update.

That update revealed that Challenger’s assets under management rose 8% for the quarter and now exceed $100 billion. This means it is now Australia’s third largest active asset manager.

While this was positive, an update on its guidance offset the good news and weighed heavily on the Challenger share price.

Although Challenger is on target to achieve its full year normalised net profit before tax guidance for FY 2021, it will only be the bottom of its wide range of $390 million to $440 million.

Management revealed that this has been driven by a sharp decline in credit spreads over the year, which were not fully reflected in customer pricing.

Is this a buying opportunity?

One broker that isn’t rushing to invest is Goldman Sachs. In response to the update, the broker has retained its neutral rating and cut its price target to $5.67. This compares to the current Challenger share price of $5.25.

Goldman said: “We expect margin pressure to emerge today has been a mix of both lower credit spreads, some lag in CGF’s pricing response plus the eventual impact from elevated growth over the past few periods in shorter duration / lower margin institutional product.”

The broker notes that Challenger is responding to this by significantly adjusting annuity pricing. However, it fears this could weigh on sales.

It explained: “While recent pricing initiatives should help to restore margin into FY22, this should theoretically weigh on sales growth, and ultimately relative to our estimates, issues raised in today’s update have more than offset the expected margin uplift associated with redeploying excess cash into credit.”

Though, with the Challenger share price falling heavily this week, the broker does appear to believe value is emerging. It may just need to fall a bit further before Goldman changes its stance.

“We downgrade FY21-FY23E normalised NPAT by -7.3%/-8.4%/-8.2%. As a result our 12m TP moves to A$5.67 and we note CGF is now trading at 1.0x book value, which relative to our forecast 8.6% normalised ROE in FY22 suggests it is trading slightly cheap relative to local peers. We maintain our Neutral rating,” it concluded.

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Motley Fool contributor James Mickleboro has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of and has recommended Challenger Limited. 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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