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Benjamin Morton, Cohen & Steers
Benjamin Morton, Cohen & Steers

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Essential assets: The case for listed infrastructure

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Benjamin Morton, head of global infrastructure at Cohen & Steers writesthat investors’ search for diversification and inflation protection has put a spotlight on infrastructure, made brighter by massive public investment programs and the accelerating transition to a digitised, decarbonised economy.

Demand for infrastructure investments, both listed and private, is at its highest level on record. Assets in dedicated listed infrastructure products have reached USD111 billion globally, while managers of private infrastructure funds have raised capital. In fact, private managers are now sitting on nearly USD350 billion in dry powder—cash on the sidelines, looking for suitable investments.

While historic public infrastructure spending programs have raised the public profile of infrastructure as an asset class, we see several fundamental factors driving demand for listed infrastructure allocations, including: 

·       Appetite for infrastructure’s attractive historical investment attributes, including the potential for strong total returns, reduced volatility and inflation protection 

·       Access to critical forces driving economic change, including infrastructure modernisation, digital transformation of economies, decarbonization, and investments in logistics assets 

·       Acceptance that listed infrastructure may be an effective complement to private infrastructure investments, offering diversified exposure with access to assets and industries that may be less available to private investors

A historically attractive return profile 

Listed infrastructure has little overlap with broad equity allocations, accounting for just 4 per cent of the MSCI World Index, and provides access to subsectors and investment themes that are typically under-represented in broad equity market allocations. 

Performance data over the past 17 years indicates that listed infrastructure offers the potential for: 

•      Competitive performance relative to global equities, with total returns averaging 7.2 per cent per year 

•      Lower volatility, supported by the relatively predictable cash flows of infrastructure businesses 

•      Improved risk-adjusted returns, as measured by a higher Sharpe ratio 

•      Resilience in down markets, with infrastructure historically experiencing 74 per cent of the market’s decline, on average, in periods when global equities retreat 

In 2022, in an environment characterized by slowing growth, rising interest rates and high inflation, infrastructure substantially outperformed broader stocks. This was consistent with infrastructure’s history of resilience and relative outperformance in most equity market declines.

Beneficial inflation characteristics 

Infrastructure has historically delivered strong relative returns during periods of higher-than-expected inflation, compared with modest or negative relative performance for stocks and bonds. This positive sensitivity has resulted from inflation-linked pricing mechanisms in many infrastructure revenue models, which provide for contractual adjustments to user fees. These adjustments may be based on fixed increases approximating inflation or on variable increases linked to consumer or producer price changes. Furthermore, certain subsectors—particularly in transportation infrastructure—may benefit from rising throughput in a strengthening economy.

Interest-rate reactions historically followed by strong relative returns 

Rising interest rates can pose a near-term risk to infrastructure performance, as sharp increases in Treasury yields may cause an initial negative reaction. However, following rate-driven pullbacks, infrastructure has historically outperformed global equities over the ensuing three, six and 12-month periods, as the benefits of stronger economic growth and inflation were eventually reflected in revenues.

Providing essential services 

The return profile noted above is the result of fundamental characteristics of infrastructure businesses: Through listed infrastructure companies, investors can gain access to a globally diversified portfolio of infrastructure assets valued at about USUSD4.5 trillion, spread across the Americas, Europe and Asia Pacific. The investment universe contains a broad range of subsectors spanning four main categories:

Active management opportunities 

Each infrastructure subsector has distinct supply and demand drivers, resulting in a wide dispersion in returns in a given period. Since 2017, the difference between the best and worst subsector calendar-year returns were mostly between 30 per cent and 40 per cent. Differences in returns are typically even greater at the security level. This wide range in outcomes offers active listed infrastructure investment managers an opportunity to take subsector-level positions with high conviction—which may enhance the performance of portfolios.

A diverse universe supported by structural growth trends

We believe this asset class is positioned to benefit from four distinct long term investment themes: 

1.     Decarbonization driving a global transition to renewable energy 

2.     Digital transformation affecting nearly every industry 

3.     Logistics assets that facilitate global movement of goods 

4.     Infrastructure modernization in both developed and emerging economies

Decarbonisation 

Renewable energy has strong political and regulatory backing, while declining production costs for solar and wind have allowed these technologies to become cost-competitive with coal, gas and nuclear generation. We believe increased reliance on green power should create opportunities for owners of solar and wind assets, as society maintains a balance of traditional and renewable energy sources, with a “more of everything” approach having become more accepted. 

Wind, solar and biomass’s current share of global power generation is only slightly more than 10 per cent today, but it is expected to rise to 29 per cent by 2040 under current policies. The International Energy Agency estimates that figure could reach 49 per cent by 2040 if additional sustainable policies are adopted. Increased government support could improve potential returns for developers and investors while likely accelerating the pace of the transition.

Digital transformation 

Virtually every industry is moving to build out digital platforms, and the expansion of artificial intelligence (AI), in its early innings, appears poised to be the next key long-term driver of this trend, on top of 5G demand. AI automation and broader enterprise and consumer adoption will likely require greater investment in wireless networks. 

The rapid expansion in data usage in the late-4G environment, coupled with the expected urgent demands of the approaching 5G era, will likely require massive investments to expand communications infrastructure capacity over the next decade. Industry estimates show potential for a nearly fourfold increase in global mobile data traffic by 2028, with 5G networks expected to carry more than half of all traffic. This growth will likely support demand for cell tower and data centre services and assets for years to come. 

Access to logistics assets 

The infrastructure universe is well-represented by companies with assets that help move people and goods around the globe—most specifically, railways, marine ports, airports and toll roads operators. They form a critical part of the global supply chain, facilitating the flow of products ranging from semiconductor chips and medical supplies to everyday household items. 

Logistics operators stand to benefit over time from factors such as increased operational efficiencies, e-commerce trends, and the strategic onshoring of industrial activity. Freight railway owners, for example, appear poised to continue to see improvements in operations and higher capital returns, potentially increasing company free-cash-flow generation over the next several years.

Infrastructure modernization and urbanisation 

The need for and provision of critical, essential services can create potential return-generating investment opportunities—and the necessity for infrastructure investment is both substantial and global. In developed markets, critical upgrades are urgently required to address deteriorating service quality, from dangerous lead levels in city water supplies to derailments of freight and passenger trains. Governments around the world have either proposed or enacted infrastructure investment programs approaching USD3 trillion, seeking to drive a sustainable economic recovery and reduce carbon emissions. 

In the US, we see several potential benefits from infrastructure spending: 

•      Direct benefits for renewable energy developers and electric utilities, primarily through tax incentives 

•      Potential for new revenue opportunities for cell tower and data centre companies due to a larger addressable market for wireless carriers 

•      Added boost to economic growth prospects, potentially supporting many segments of listed infrastructure (particularly logistics sectors) 

Meanwhile, emerging economies frequently need critical investment to support demographically fueled economic growth, expand urban capacity and meet the demand for higher standards of living. The UN projects that the world’s population will expand by roughly 10 per cent this decade and by more than 25 per cent by 2050, driving the need for additional infrastructure.

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