Structural themes benefit real assets

IMAP Specialist Webinar Series Serving HNW June 2023

Mary Power (JANA Investment Advisers) and Shane Hurst (ClearBridge Investments) provide their thoughts on property and infrastructure, including the opportunities these assets provide for investors.

 

As an asset class, listed infrastructure offers many of the benefits advisers are looking for when constructing a diversified portfolio — stable cash flows and dividends, a hedge against inflation, and the ability to capitalise on significant long-term structural growth drivers happening in the economy.

Presenting at an IMAP Specialist Webinar Series on physical assets and infrastructure, Shane Hurst — Managing Director, Senior Portfolio Manager at ClearBridge Investments — believes that in order to take advantage of the benefits infrastructure provides, advisers first need to understand the difference between the two types of infrastructure assets: regulated and contracted utilities, and user pays assets.

1. Regulated and contracted utilities: These utilities include water, electricity, gas, and renewables. They are regulated, which means they have regulated asset bases and regulated returns. This typically leads to a relatively stable cash flow over time, resulting in a steady demand for these types of assets.

According to Shane, something that is unique to regulated utilities is they are essentially monopolies. As regulated businesses, these utilities receive periodic adjustments of their gearing and cost of equity — a weighted average cost of capital adjustment for current economic conditions. This is unique and very specific to regulated assets, which effectively provides these assets with an inflation hedge. These utilities are generally defensive in nature, but offer investors higher income.

2. User pays assets: Examples of user pays infrastructure include railways, tollways, airports, and ports. Pricing of these assets is generally set by negotiated contracts. As these physical assets are needed to transport people, goods and services as a result of economic activity, as an economy grows, demand for these assets also typically increases. These types of assets provide growth, but generally lower income.

By Jayson Forrest

Mary Power is Principal Consultant at JANA Investment Advisers
Mary Power - JANA Investment Advisers
Shane Hurst is Managing Director, Senior Portfolio Manager at ClearBridge Investments
Shane Hurst - ClearBridge Investments
Brad Creighton - Portfolio Manager, AMP North
Brad Creighton - AMP North

Electricity already takes up about 20 per cent of energy usage and that’s going to move up to 50 per cent by 2050, as the appetite for electric vehicles increases. And with five times the amount of wind and solar needing to be built over the coming years, regulated and contracted renewable companies will benefit from this demand

Shane Hurst

Data growth has been explosive. Recently, we have seen carriers in the U.S. spending over US$80 billion on new capacity. The primary beneficiaries of this theme are listed tower companies. Tower companies have long agreements in place and analysts see mobile data usage as potentially quadrupling from 2021-2025, meaning more capacity is required

Shane Hurst

Themes and opportunities ahead

According to Shane, listed infrastructure is a secular growth story, which offers investors opportunities across a number of investment themes. Three themes that excite him are: decarbonisation; fracturing of the global economy; and the 5G technology evolution.

Decarbonisation: Infrastructure remains at the forefront of decarbonisation and the move to clean energy. According to Shane, as the world moves to net zero carbon emissions, US$36 trillion is expected to be spent on clean energy over the next 25 years. Decarbonisation includes the deployment of renewables, the retirement of hydrocarbon emitting generation, and a move towards cleaner fuel sources, like hydrogen, wind and solar. Selected energy infrastructure will benefit from this theme, including listed regulated utilities in the gas and electric sectors.

“Electricity already takes up about 20 per cent of energy usage and that’s going to move up to 50 per cent by 2050, as the appetite for electric vehicles increases. And with five times the amount of wind and solar needing to be built over the coming years, regulated and contracted renewable companies will benefit from this demand,” says Shane.

He adds that energy infrastructure — like pipeline companies — will also benefit from this theme, as they begin moving cleaner forms of fuel, while hydrogen projects continue to be funded all over the world. Essential service companies like these, which are not leveraged to business and economic cycles, will benefit from this structural growth trend.

Fracturing of the global economy: A recent trend has been the move to global alliances, where the U.S. and its allies seek to de-risk from China, and Beijing and its partners look to decouple from Washington. These alliances will require a realignment of supply chains and the establishment of new or expanded trade routes that require supporting infrastructure.

Shane believes climate legislation introduced in the U.S. in August 2022 — the Inflation Reduction Act (IRA) — will have global ramifications, as the U.S. seeks to ‘onshore’ and ‘friendshore’ its manufacturing capabilities, while reducing its reliance on global supply chains.

The IRA contains A$520 billion worth of programs and funding to accelerate the transition to net zero in the United States. Since the IRA was announced, 20 new clean energy manufacturing facilities or expansions have been announced in the U.S., adding 13 gigawatts of new clean energy capacity to its local capacity.

Subsequently, other countries and regions, like the U.K. and Europe, have announced similar incentives for manufacturing. Localised and regional businesses will benefit from this new structural growth.

“We believe that implemented or proposed public policy, like the IRA, across major global regions, will continue to provide structural growth for infrastructure,” says Shane.

The 5G evolution: 5G is the fifth-generation technology standard for broadband cellular networks, and is the planned successor to the 4G network, which provides connectivity to most current mobile phones. 5G companies require significant capex to upgrade and improve cellular networks.

“Data growth has been explosive,” says Shane. “Recently, we have seen carriers in the U.S. spending over US$80 billion on new capacity. The primary beneficiaries of this theme are listed tower companies. Tower companies have long agreements in place and analysts see mobile data usage as potentially quadrupling from 2021-2025, meaning more capacity is required.

“So, from our perspective, the infrastructure utilities space looks very attractive now, and it has very strong growth drivers going forward.”

Housing is a very broad area to invest in. It ranges from single family rental through to student accommodation, seniors housing, and aged care. We believe this is a significant structural theme and one that we like to be invested in

Mary Power

Property adds portfolio diversification

In making the case for unlisted versus listed property, Mary Power — Principal Consultant at JANA Investment Advisers — says unlisted property provides investors with a range of benefits for a diversified portfolio. These include:

* A stable and secure income stream;

* Low volatility of returns and low correlation to other asset classes;

* A natural hedge against inflation;

* High quality assets with strong ESG credentials, and a focus on total return income and capital growth; and

* Modest gearing levels at about 16 per cent.

However, she cautions that liquidity for unlisted property is not as strong as listed property. Adding that: “An unlisted asset that isn’t good, is extremely difficult to move except at a very big discount.”

As for listed property, Mary cites the following advantages of this asset class:

  • Daily liquidity and efficient deployment of capital;
  • Stable yield and access to a wide range of asset types;
  • A small outlay is required to invest in listed property; and
  • Micro-level diversification to regions and sectors.

While Mary points to the attractive benefits of listed property, she concedes there are issues that investors need to be aware of when investing in this asset class. 

“Listed property is highly correlated to the broader equities market and is sensitive to interest rate rises,” she says. “The AREIT index is also concentrated, with Goodman Group (25 per cent) and Scentre Group (11 per cent) dominating 36 per cent of the index,” says Mary. “Gearing is also about 30 per cent, and there are high embedded fees and costs associated with listed property.

“So, investors really need to understand the pros and cons of unlisted and listed property before investing in this asset class.”

At JANA, we believe Australia is a highly desired market for investors. It’s well positioned in the Asia-Pacific region, and it has a very high level of transparency and reliability with its real estate, both at a transactional level and at an asset management level. Australia also has strong population growth as a result of high immigration, which underpins a lot of the supply and demand dynamics across our real estate sectors

Mary Power

Structural themes

When it comes to investing, JANA places a very strong focus on structural themes that impact real estate. These themes include: Demographics and urbanisation; Technology and innovation; Sustainability and decarbonisation; Infrastructure; and Globalisation.

Demographics and urbanisation

“There is an undersupply of housing globally, with housing affordability (both residential ownership and rental accommodation) under enormous pressure. Inequality and cost of living pressures are a recognised social problem that requires government intervention and partnerships,” says Mary.

These issues become exacerbated when including rapidly ageing populations and the old age dependency ratio (representing the proportion of the population that is over 65 to those of working age — 20-65) projected to be over 30 per cent for most developed countries by 2027 and over 50 per cent by 2075.

“Housing is a very broad area to invest in. It ranges from single family rental through to student accommodation, seniors housing, and aged care. We believe this is a significant structural theme and one that we like to be invested in,” says Mary.

Technology and innovation

JANA has identified opportunities in property as a result of the advancement in technology and the rise of e-commerce. Healthcare, technology, and research that has been driven by government healthcare funding, as well as onshoring of medical research and the production of pharmaceuticals, has all supported the demand for life science properties.

In addition, Mary believes the growth in ‘big data’ and artificial intelligence will provide investment opportunities for properties like data centres.

Sustainability and decarbonisation

JANA believes the global focus on net zero targets and decarbonisation, will see more properties (both retail and commercial) switch to renewable energy in order to power buildings. As such, JANA looks for assets with high levels of sustainability.

Infrastructure

With rising shipping costs and continuing supply chain issues, the move to ‘onshoring’ manufacturing and production capabilities is accelerating. According to Mary, government infrastructure investment, and enhancements to communication and transportation are improving connectivity between various assets — like manufacturing and distribution — in the supply chain.

“Australia’s e-commerce penetration rate is forecast to rise from 14 per cent to 29 per cent by 2026, moving Australia from 20th to 5th in the world,” says Mary. “Property is a definite beneficiary of the infrastructure theme.”

Global uncertainty

Increased geopolitical risk is creating global uncertainty, which is creating opportunities for property, as governments and companies seek to ‘onshore’ their production capabilities.

“At JANA, we believe Australia is a highly desired market for investors. It’s well positioned in the Asia-Pacific region, and it has a very high level of transparency and reliability with its real estate, both at a transactional level and at an asset management level,” says Mary. “Australia also has strong population growth as a result of high immigration, which underpins a lot of the supply and demand dynamics across our real estate sectors.”

A sector in its infancy

Looking ahead, Mary believes sectors like housing, age care, and healthcare/life science properties are all going to be very important. However, she concedes that unlike other jurisdictions, like the U.S., as a sector, housing is still in its infancy here in Australia.

“In Australia, it’s a little hard to work out how to do housing from an investment perspective, because it’s not an institutional sector like it is in the United States. That’s why we’re already invested heavily offshore,” she says. “So, it will be interesting to see how the Albanese Government’s big initiative around social and affordable housing actually plays out.”

About

Shane Hurst is Managing Director, Senior Portfolio Manager at ClearBridge Investments; and

Mary Power is Principal Consultant at JANA Investment Advisers.

They provided a ‘Physical assets and infrastructure update’ at an IMAP Specialist Webinar Series.

This webinar was moderated by Brad Creighton — Portfolio Manager, AMP North.

 

 

 

 

 

 

 

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