Megatrend investing: ASX players to capitalise on an ageing population
Find out how you can benefit from global megatrends.
Mentioned: Challenger Ltd (CGF), Lifestyle Communities Ltd (LIC), Medibank Pvt Ltd (MPL), Regis Healthcare Ltd (REG)
Investors often spend significant time analyzing market movements in the context of the 24-hour news cycle and checking their portfolio exposures accordingly.
Admittedly I am also privy to this pattern. Contrary to my investing history, I no longer actively adjust my portfolio with aggressive frequency. However, it is easy to get bogged down in the day-to-day headlines, whether it be the Chinese stimulus or the US election results, we tend to lose sight of the bigger picture.
With this sentiment in mind, I begin this miniseries on identifying investing megatrends for 2025 and beyond, and which ASX players provide opportunity in each of these realms.
Classifying a megatrend
Before we make investment decisions, it is crucial to set parameters over how we identify a megatrend as opposed to a passing fad that triggers market momentum.
Megatrend or thematic investing refers to making investment decisions based on gaining exposure to companies who may service perceived themes or global megatrends.
For the purpose of this series, we consider a megatrend as an emerging social, economic, political, environmental or technological change that is characterized by an extended duration (10+ years) with ubiquitous implications that have impact on the general population.
Trend 1: Global ageing population
Improvements in modern medicine, improved living conditions and declining fertility rates have led to an expansion in the ageing population. The graph below visualizes the demographic reshaping between generations with older groups accounting for a higher portion of the population and the inverse applying for the younger counterparts.
Studies find that by 2026 more than 22% of Australians will be over 65 – this figure already up from 16% in 2020. This is likely to trigger a drastic change in the pattern of demand and supply of goods/services allocated to this growing demographic, as well as Federal budget initiatives.
The implications of this trend may materialize in increased demand for: financial services that assist with retirement incomes, healthcare, aged care / senior living homes and private health insurance.
Since the Government’s 2022–23 Budget, investment in aged care has increased by 30% and continues to reinforce the importance of the growing demographic.
Key Risks
It is important to note that there are several risks when it comes to basing your investment decisions on perceived megatrends.
Identifying a megatrend
Having the ability to spot a megatrend before the wider market requires an informational or analytical edge. Furthermore, being correct in that assumption requires an extra element of luck.
The megatrend must be profitable
Simply identifying an overarching trend and investing in it does not guarantee returns. Attempting to time the market by jumping in early or just as the market frenzy begins can lead to greater losses if identified improperly. Anecdotally, I made a similar mistake diving into the lithium frenzy of 2022 as the growing electrification trend seemed promising. By the time I invested, the entire market had their hands full with lithium picks. This led to oversaturation as companies moved to take advantage of lithium prices, which have since suffered a long bear cycle. It is crucial to have sound reasoning behind why the company is a valuable addition to your portfolio and the long-term thesis must hold.
Selecting the right companies
When the market perceives momentum and the barriers to entry are reasonable, new entrants are backed by significant capital and rush to service the megatrend. This leaves the market flooded with investment options, many of which can be highly experimental. An example of this is the demise of the buy-now-pay-later hype that saw several companies expand into the space with hopes to exploit the megatrend.
Ultimately, only 1 or 2 of these may became successful whilst the majority struggled. Megatrends can quickly snowball into a ‘winner-takes-all’ situation where only a handful of companies attract significant returns and the majority fall into an abyss. Buy-now-pay-later operators offering credit with minimal fees were seen as a threat to traditional financial institutions, however banks were quick to adapt their own BNPL schemes and it’s had an immaterial impact on returns since.
Paradoxically, consumers hate optionality. An abundance of choice with minimal company differentiation makes it anyone’s game. There is not always a clear or rational way to predict which companies may benefit from a megatrend. Even if a company appears promising, it must be purchased with a reasonable margin of safety should the megatrend not eventuate. Furthermore, exhibiting sound fundamentals helps avoid it being a purely speculative pick.
ASX players primed to benefit
At the right price, the below companies provide the value proposition to capture the trend of ageing population.
Challenger Limited CGF ★★★★
- Fair Value Estimate: $7.50
- Share Price: $6.30 (as at 3/12/24)
- Moat Rating: None
- Uncertainty Rating: High
- Price to Fair Value: 0.84 (Undervalued)
Challenger Limited (“Challenger”) is an investment management firm focused on providing Australians with financial security in retirement. Challenger operates in two segments: ‘Life’ (annuity and life insurance) and Funds Management. The company’s core annuities business continues to grow as it reaps the benefits from Australia’s growing superannuation field and an ageing demographic.
Morningstar expects earnings growth for all asset managers within our coverage to likely improve through to fiscal 2025, driven by better fund flowers compared with previous years. We anticipate this growth will moderate beginning of fiscal 2026, but Challenger is unlikely to experience net outflows like some of its peers.
Annuities play an important role in the portfolio of retirees and we expect Challenger to capture a larger share of the flows moving from accumulation to pension phase each year. The business should grow in line with the retirement market but may not gain meaningful share over other industry players.
The company is not moat worthy due to its earnings prospects being privy to external factors beyond its control such as interest rates. It is restrained by the type of assets it can invest in (and by extension the returns it generates) and additionally its products are commoditized in nature and therefore replicable by competitors.
Challenger is in sound financial health although in June 2024 it exceeded APRA’s regulatory capital requirements sitting at the higher end of its target range of 1.3 - 1.7 times the prescribed minimum capital amount. Our fair value estimate of $7.50 per share implies a fiscal 2029 price/normalized earnings of 10x.
Despite a rocky few years for asset managers, current prices screen Challenger as undervalued.
Regis Healthcare Limited REG ★★★
- Fair Value Estimate: $7.00
- Share Price: $6.54 (as at 3/12/24)
- Moat Rating: None
- Uncertainty Rating: High
- Price to Fair Value: 0.94 (Undervalued)
Last month Morningstar initiated coverage of Regis Healthcare Limited (“Regis”), an aged care operator providing services to older Australians through residential aged care homes/villages, home care, day therapy and respite centres.
Morningstar forecasts strong five-year revenue compound annual growth rate of 10% with price increases and increasing occupancy rates as the key drivers. Given the ageing population and expected undersupply in the industry, we expect average price increases slightly above wage inflation.
The company lacks a moat given its reality small share of the fragmented raged care industry with a largely undifferentiated service offering. Further, Regis has little ability to dictate pricing with ~75% of revenue being government funded and the remaining 25% also largely regulated.
Regis is in strong financial health with a net cash position of $65 million at June 2024 and a free cash flow forecast of 153% net income over the next 10 years. Our fair value estimate of $7 per share implies a forward price/earnings ratio of 41x. Morningstar forecasts a five-year group revenue compound annual growth rate of 10% to fiscal 2029.
At current prices there is minor upside against our fair value estimate, however an aging population driving demand for aged care rooms, and an uplift in aged care government funding provide a favorable backdrop for Regis.
Lifestyle Communities Limited LIC ★★★
- Fair Value Estimate: $8.30
- Share Price: $9.03 (as at 3/12/24)
- Moat Rating: None
- Uncertainty Rating: Medium
- Price to Fair Value: 1.09 (Overvalued)
Lifestyle Communities Limited (“Lifestyle”) develops, owns and manages affordable independent living residential land lease communities for Australians over 50. This largely appeals to the older demographic who have most of their wealth tied up in their homes.
With a stacked development pipeline of ~2,500 land lease houses, the company is poised for a period of greater development than historically with its portfolio of rent-collecting properties expected to double over the next decade.
Lifestyle benefits from an ageing population and the rising cost of housing. Despite recent negative media coverage, Morningstar analyst Esther Holloway believes its fee-on-exit strategy appeals to cash-strapped retirees looking to free up capital for their retirement years and there is sufficient demand to support the company’s development pipeline through this strategy.
The company’s homes are priced around 75% of a stand-alone house with purchasers benefitting from the cash difference between the sale of their home and the purchase of a Lifestyle home. Additionally, land lease residents do not pay stamp duty or local council taxes.
The company lacks a moat due to the highly competitive nature of the land lease community and its return on properties being below the weighted average cost of capital. The ability to acquire land at the right price is key, the land lease business had a cap rate (net operating income / property value) of 5.2% as of June 2024, compared to 6.5% five years prior, indicating that higher prices are being paid for assets.
Lifestyle's balance sheet is currently in weak health having amassed a large land portfolio, increasing its debt profile. However, its 32% loan/value ratio at the end of June 2024 (below 65% covenant) is reasonable for REIT and provides a large asset portfolio that could be liquidated in the event of financial strain.
At current prices the company screens as slightly overvalued, however the aging population, increasing cost of living and government incentives provide a solid foundation for future growth.
Medibank Private Limited MPL ★★★
- Fair Value Estimate: $3.80
- Share Price: $3.81 (as at 3/12/24)
- Moat Rating: Narrow
- Uncertainty Rating: Medium
- Price to Fair Value: 1.0 (Fair Valued)
Privatized in 2014, Australia's largest private health insurer, Medibank’s core business is the underwriting and distribution of private health insurance policies through its two brands, Medibank and AHM.
Despite the ‘free’ universal public system in Australia, ~45% of the population has private hospital coverage due to taxation benefits and penalties, shorter waiting times and a choice of healthcare providers and facilities.
As Morningstar’s James Gruber highlights “with an ageing population, higher demand for healthcare will put pressure on the public health system. That makes private health insurers like Medibank a no-brainer in my opinion”. Gruber argues that despite being a heavily regulated industry, steady, growing profits seem assured if management can avoid missteps.
Industry regulations tend to cap margin expansion and returns; however, government policy settings are in place to promote the take up and retention of private health insurance products. In fiscal 2024, narrow-moat Medibank’s underlying net profit after tax rose 14%, illustrating the resilience of the private health insurance industry.
Affordability issues amid cost-of-living pressures negatively impact the insurance take up of younger age groups, however this will be partially offset by an ageing population
The company’s combined operating ratio (claim costs and other expenses / premiums) has averaged 92% over the past decade and has never exceeded 100%. This stable and solid performance has reaffirmed our view of Medibank’s durable competitive advantages.
Over the next 5 years, Morningstar expects 3% per year growth from the private health insurance segment and a groupwide growth of 5%, bolstered by significant capital investment in the health segment. We assume future dividends payouts to lie at the midpoint of management’s 75% - 85% target range.
Overall, the company is well placed to produce solid long-term earnings growth underpinned by an increasing and aging population. Our fair value estimate of $3.80 implies a fiscal price/earnings ratio of 16.5x and a dividend yield of 4.9%.
