Why invest in Infrastructure?
With continually depressed fixed income yields, institutional investors are looking for new viable investments to match their long-dated liabilities. This drew investors’ attention to infrastructure assets due to their attractive financial characteristics and the socially responsible nature of the investments.
Whilst infrastructure investment was once typically the preserve of the state, fiscally constrained governments are now opening investments to the private sector to secure funding for infrastructure projects. This has created a global opportunity for infrastructure investment. In 2015 an estimated aggregate deal value of $349bn were completed globally.
Financial characteristics of infrastructure assets
Institutional investors are increasingly targeting infrastructure assets because there is empirical evidence that suggests that infrastructure assets offer stable, inflation-linked attractive returns with low correlation with traditional assets. The financial characteristics of infrastructure investments are very appealing to institutional investors such as pension funds that look to match the realised value of their assets with their long-term liabilities.
It’s easier to capture the performance of infrastructure assets when compared with other asset classes. Graph 1 compares the risk-return profile of both listed and unlisted infrastructure assets in comparison to other global asset classes based on a 6 year period ending in March 2015. From Graph 1, we can easily observe that investment in infrastructure assets delivers an appealing risk-adjusted return performance. For instance, when considering the unlisted investment space, for the period examined, investing in unlisted infrastructure instead of Bonds or Unlisted Real Estate would have provided a substantially higher return of 13.1%, while bearing less risk. Specifically, the volatility of unlisted infrastructure was 3.8%, which was slightly lower than the volatility of Bonds that illustrated a volatility of 3.9% and a lot lower than Unlisted Real Estate that delivered a volatility of 5.5%.
The benefits of infrastructure are clearly evident in the listed market as well. As we can see from table 1, on a risk-adjusted basis listed infrastructure outperforms both listed Real Estate as well as Shares. Furthermore, table 1 shows that on a risk-adjusted basis, the best asset to invest in is unlisted infrastructure.
Graph 1: Risk-return profile of selected global asset classes, 6 year
results to March 2015
Table 1: Return-to-Risk ratio of selected global asset classes, 6
year results to March 2015
The reason behind this good performance profile is that most infrastructure assets are essential services that benefit from barriers to entry, operate on long-term contracts with fixed revenues, or have revenues determine by regulation. All these give infrastructure assets the potential to secure certain investments against competition enabling them to offer stable, long-term cash flows that are robust during an economic downturn. Many infrastructure investments also contain a natural hedge against inflation as the inelasticity of demand of infrastructure assets allows for an increase in prices that can be passed down to the end customer. It is therefore possible to conclude that institutional investors are increasing their allocation into infrastructure because they are seeking a long-term yet higher yielding alternative to fixed rate investments to add diversity to their portfolios.
It’s important to bear in mind that these are average performances over a period of 6 years to March 2015, however, performances between managers will differ substantially and it’s important to obtain professional advice on selecting an asset manager whose policies are aligned with the pension funds strategic objectives.
In comparison to other asset classes, infrastructure investments provide lower risk than stock markets and other alternatives and higher yields than bonds. Bearing in mind the global needs for infrastructure investments as well as the available institutional capital, it’s easy to conclude that the infrastructure market is nowhere near saturation.
Stirling Infrastructure Partners provides institutional investors with independent analysis and advice using its own proprietary processes and its specialist sector knowledge to evaluate direct investments and shortlist suitable asset managers for pension fund. The firm also evaluates how the total portfolio of the pension fund maybe affected when making an allocation to an infrastructure manager. Stirling Infrastructure Partners is an originator for direct investments and builds and advices consortia on the acquisition of infrastructure assets.