By Jayson Forrest
Infrastructure — both listed and unlisted — is well positioned to tap into emerging investment themes and opportunities, says Justin Lannen (Maple-Brown Abbott) and Mark Murray (Mercer).
When considering infrastructure as part of a portfolio allocation, the key is to identify assets that provide essential services to society. This can include: toll roads, airports, water/waste utilities, communication (cell towers), electric grids, renewable energy, and social infrastructure (schools and hospitals).
Speaking in an ‘infrastructure update’ webinar as part of an IMAP Specialist Webinar Series on ‘Property and infrastructure: Defensive assets or troubled outlook?’, Justin Lannen, CFA — Co-Founder and Portfolio Manager, Global Listed Infrastructure at Maple-Brown Abbott — says the defensive qualities of infrastructure comes from providing essential services, which people rely on and continue to use, regardless of prevailing economic conditions.
“This also helps explain infrastructure’s relatively low correlation to other asset classes when constructing a portfolio,” says Justin. “The assets we look for in the infrastructure space have similar characteristics, even though they provide very different services. Those characteristics include: strategic positions in the economy; monopolistic type behaviour; and a lack of risk from technology supplanting them.”
The types of infrastructure businesses Justin likes have stable cashflows and also relatively predicable growth. He adds that a feature of predictable growth is that the cashflows tend to grow in real terms, which makes inflation protection of this asset class a real feature.
“Our investors are attracted to infrastructure because of its lower volatility, income stability, and the inflation protection these assets offer. That’s because with regulated infrastructure assets, inflation is passed through to users,” says Justin. “Investors also like the portfolio diversification that comes from adding an infrastructure exposure to their other asset classes.”
However, from a portfolio construction perspective, when allocating to infrastructure, Justin believes it’s important to differentiate between those companies that are able to deliver those favourable characteristics, like stable cashflows and predicable growth, and those that are less likely to do so.
As such, Maple-Brown Abbott screens out assets linked to more uncertain sectors, like stevedoring companies, satellites, ‘above rail’ railways (which compete directly against road freight), and integrated utilities that are subjected to market-based pricing and not long-term contracts or regulated pricing. According to Justin, these types of sectors are too volatile for Maple-Brown Abbott to invest in.
Justin Lannen, CFA - Maple-Brown Abbott
Mark Murray, CFA
Our investors are attracted to infrastructure because of its lower volatility, income stability, and the inflation protection these assets offer. That’s because with regulated infrastructure assets, inflation is passed through to users. Investors also like the portfolio diversification that comes from adding an infrastructure exposure to their other asset classes.”
Investment themes and opportunities
What gets Justin most excited about infrastructure are the different mega themes that investors can access. As the world is currently short of the infrastructure required to advance society’s overall quality of life, a few of the investment themes that resonate with Maple-Brown Abbott include:
US regulated electric utilities — which are benefitting from clean energy and decarbonisation trends, supportive government policy and tax incentives, and have resilient earnings in weaker macro-economic environments.
UK water infrastructure — as monopoly water networks, this ESG thematic benefits from regulation, earnings certainty, and inflation pass-through.
Transport mobility — infrastructure like airports, toll roads, and Channel Tunnel concessions are benefiting from increasing traffic and pricing growth.
Renewable energy developers — as the world decarbonises, companies working in this thematic tend to have government policy support and large capital expenditure opportunities.
Digitalisation — ongoing growth in digital network infrastructure, like cell towers, with data usage in society increasing by over 20 per cent per annum.
“We’re seeing a big investment taking place into infrastructure, which is a long-term trend,” says Justin. “In terms of the companies we look at in the infrastructure space, about 10 per cent of their market capitalisation is being invested into new infrastructure enhancements. So, that’s a lot of investment going into monopolistic assets for what we think are attractive rates of return.”
Justin confirms that Maple-Brown Abbott sees a long pathway of growth and attractive rates of return in both renewables and electricity grids. It also recognises significant opportunities in communication infrastructure, with cell towers having low levels of competition.
“We see a good growth pathway in cell towers, particularly in listed markets, where over the last 12-18 months, many of the cell tower companies are off by 25-30 per cent. That’s where we’re seeing opportunities and it also explains why about 15 per cent of our portfolio is currently in cell tower companies.”
To this mix of opportunities, Justin also includes toll roads, which are seeing traffic use increasing globally, as well as toll increases — and not just CPI-linked increases, but also discretionary tolling that occurs in Canada and the U.S., which is expected to come through next year.
“And we also like water as an investment theme,” says Justin. “With water being a scarce resource, from an investment perspective, it’s extremely defensive and impossible to substitute in the real world. There are some good investment opportunities in water networks, and we currently have exposure to water companies in Chile and the United Kingdom.”
Mark Murray, CFA — Portfolio Manager at Mercer — also believes there are considerable opportunities in infrastructure, particularly linked to the growth in communications, resulting from the demand in artificial intelligence and the rollout of 5G technology.
“These types of themes are generating enormous growth in data transmission needs. That growth demands considerably more investment in assets like cell towers, satellites, and data centres,” he says.
Energy transition is another broad investment theme that Mark likes. This includes investments in assets like renewable energy generation (wind and solar farms), as well as opportunities to reduce emissions and help decarbonise economies.
“Within the energy transition space, there are great opportunities to invest in areas like transmission networks, which will be necessary to handle the volumes of renewable energy that will be generated going forward.”
Poor ESG performance is often associated with poor investment performance. Therefore, ESG related factors need to be fully integrated into due diligence and asset management processes, because an asset’s type does not make it ESG-friendly
ESG matters
Mark believes that ESG and sustainability issues — as you get with renewable energy — are important thematics in the overall performance of infrastructure, as well as being an integral component of successful investment outcomes.
“Infrastructure assets are critical and touch many people’s lives on a daily basis,” says Mark. “However, they require continuing support from a wide range of stakeholders to operate, such as consumers, regulators, and politicians.
“Poor ESG performance is often associated with poor investment performance. Therefore, ESG related factors need to be fully integrated into due diligence and asset management processes, because an asset’s type does not make it ESG-friendly.”
For example, Mark cites a wind farm where construction has been delivered late and over budget, or where on-site health and safety has been poor, or where the local community has not been consulted. These examples would not be viewed favourably from an ESG perspective.
We’re seeing a big investment taking place into infrastructure, which is a long-term trend. In terms of the companies we look at in the infrastructure space, about 10 per cent of their market capitalisation is being invested into new infrastructure enhancements. So, that’s a lot of investment going into monopolistic assets for what we think are attractive rates of return
Global unlisted infrastructure
Mark believes unlisted infrastructure is an important investment opportunity for investors who are able to accept levels of illiquidity within their portfolios. However, unlike listed infrastructure, he acknowledges there are barriers to entry for investors wanting to access unlisted infrastructure, including locking their money away and minimum investible capital upward of $10-$20 million — making unlisted infrastructure more appealing to wholesale or high-net-worth investors.
“An investment in unlisted infrastructure will generally not be able to be liquidated without penalty within, for example, two to three years. So, for a retail investor who would expect to be able to exit their investments at relatively short notice, it would be difficult or impossible to do that with their unlisted infrastructure investments,” says Mark.
However, he concedes this is an evolving space, and acknowledges there have been some fund managers that have designed products to accommodate slightly enhanced liquidity terms for individual investors.
He also adds some fund managers may potentially allow an aggregator of retail investors (like a financial adviser) to collectively provide (or pool) the $10-$20 million minimum investment, but still under the caveat that the investment would either not be able to be liquidated within a set period, or if it could be wound up within that timeframe, it could only be liquidated at a discount to the prevailing net asset value.
According to Mark, unlisted infrastructure also differs from listed infrastructure in that it is characterised by capital fundraising periods. He explains that at any given time, there are fund managers looking to raise closed-end funds during a defined period that may, for example, extend from one to two years before that fundraising period closes. He also adds there are open-ended funds that have the potential to seek new investor capital on a continuous basis.
These funds are commonly restricted to investors who can commit upwards of $10-$20 million to a fund. Funds raised will then be gradually invested in a portfolio of infrastructure when the fund manager requires its investors to contribute their capital. “So, compared to listed infrastructure, there is a more gradual process for an investor to become invested in unlisted infrastructure,” says Mark.
An investment in unlisted infrastructure will generally not be able to be liquidated without penalty within, for example, two to three years. So, for a retail investor who would expect to be able to exit their investments at relatively short notice, it would be difficult or impossible to do that with their unlisted infrastructure investments
Australia versus international opportunities
Justin accepts that compared to 5-10 years ago, there are now only a limited number of listed infrastructure companies in Australia, with Maple-Brown Abbott investing in only one — Transurban.
“Up until recently, there was a good range of infrastructure companies you could buy on the ASX. However, over the years, these companies have been taken over. So, nowadays, it’s relatively slim pickings in the listed infrastructure market here in Australia,” he says.
“That’s concerning because Australia is a good country to own infrastructure. We have very strong property rights, both state and federal governments are quite transparent and fair in the way they manage these long-term assets, and regulation is also strong and robust. Whilst I’d love to have more of these infrastructure companies listed in Australia, unfortunately, they’ve been swallowed up over the years.”
This means investors wanting to build an infrastructure portfolio today have to essentially turn to overseas in order to get the diversity of companies they’re after. According to Justin, there are many opportunities overseas to invest in infrastructure assets, with 28 of the 29 companies in Maple-Brown Abbott’s portfolio being domiciled overseas.
Mark agrees. He says an important part of generating a sufficiently well-diversified infrastructure portfolio is to be invested much more broadly than just Australia.
“We believe a defensively positioned portfolio is best achieved by investing primarily in major developed markets. At Mercer, we’re focused on factors like economic growth and the role of law, which are best found in major developed markets — like Australia, New Zealand, North America, and Western Europe,” he says. “That type of diversification is an important part in delivering the infrastructure return we’re seeking to achieve, along with the appropriate level of risk.”
About
Justin Lannen, CFA is Co-Founder and Portfolio Manager, Global Listed Infrastructure at Maple-Brown Abbott; and
Mark Murray, CFA is Portfolio Manager at Mercer.
They delivered an ‘Infrastructure Update’ as part of an IMAP Specialist Webinar Series on ‘Property and infrastructure: Defensive assets or troubled outlook?’.
The session was moderated by Toby Potter — Chair of IMAP.