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Macro factor sensitivities in listed infrastructure


Benjamin Morton, head of global infrastructure and John Muth, macro strategist at Cohen & Steers have examined performance across various market environments, trying to provide a framework for understanding how infrastructure may fit in an asset allocation strategy and offering insight into the role of macroeconomic research in the investment process.

The pair writes that the global economy has entered a new regime characterised by lower growth, higher inflation, higher interest rates and a movement away from significant oversupply and accommodative policies. “Though navigating a new landscape may be challenging, we have seen and traversed regime shifts before,” they say.

“We examined listed infrastructure’s performance relative to global equities in different macroeconomic environments since 1973, the earliest that reliable data is available. Based on these frameworks and our analysis of current economic conditions, we believe infrastructure is positioned to perform well versus broad global equities into 2023 as inflation persists and growth slows.”

Infrastructure has exhibited counter-cyclical behaviour, offering equity-like returns over full market cycles, but with the potential for meaningful downside protection in defensive environments. Such periods are characterised by business cycle slowdowns (late cycle/recession), stagflation (defined here as when growth misses and inflation beats expectations), and medium- and high-inflation environments.

By contrast, infrastructure generally lagged equities in positive economic environments, particularly in early- and mid-cycle recoveries, and when growth and inflation both surprised to the upside.

Infrastructure had positive absolute returns in virtually all environments, except during recessions. However, recessions have been the periods of infrastructure’s greatest outperformance relative to equities.

Subsector observations

The pair writes that while infrastructure subsectors frequently performed as expected in a given regime, they observed certain patterns stemming from idiosyncratic factors in particular subsectors (though they may not be repeated in the future).

“Utilities (electric, gas and water) exhibited clear defensive properties, typically outperforming equities during recessions, stagnation and high inflation environments.

Transportation services (airports, toll roads and marine ports) were often more economically sensitive than other infrastructure subsectors and were among the only subsectors not to outperform equities during recessions.

“Telecom infrastructure (cell towers), measured by a custom index starting in 1998, significantly outperformed the overall infrastructure universe and other subsectors, impacting the pattern and magnitude of results in this study. We believe this was due largely to secular industry drivers that at times superseded the effect of macro factors. Consequently, the results in this report may not reflect the more defensive characteristics that we would typically expect from these businesses going forward.”

Rails have historically been among the most economically sensitive subsectors in the infrastructure universe, the pair says. “We believe results showing outperformance in down cycles are likely uncharacteristic of typical behaviour due to structural changes to the group that have supported strong performance over the past two decades.

“Midstream energy (pipelines) exhibited counter-cyclical patterns, although we note that fast-rising shale production in North America has significantly influenced performance since the late 2000s. We believe midstream energy companies should generally be somewhat agnostic to external macroeconomic drivers.”

Business cycles

Amid an uncertain macroeconomic backdrop, the authors believe global listed infrastructure should attract increased investor interest as an alternative source of performance due to the asset class’s performance characteristics and historically attractive full-cycle returns.

Relative performance vs. equities

“In the period we studied, infrastructure generally outperformed equities in late-cycle phases, which often coincided with slowing growth and rising inflation pressures as capacity constraints took hold.

“Infrastructure also outperformed in recessionary periods, on average, with water utilities exhibiting particularly strong relative performance.”

Telecoms did better in early/mid-cycle periods.

Mid-cycle periods were modestly less favourable for infrastructure.

Absolute performance

Infrastructure had positive returns, on average, during all three expansion phases, the authors found.

“Unsurprisingly, infrastructure underperformed its long-run average during recessionary periods.

“Rails generated positive overall returns in recessions, an uncommon characteristic for assets with economic sensitivity.

The underperformance of telecoms in recessions was surprising, but outliers and a small sample set may be the reasons. We expect the subsector to display more defensive characteristics going forward.”

Growth and inflation surprises

There were few “safe havens” in the first half of 2022, the authors note, as most equities reacted to rapidly accelerating inflation and increased recession risk amid sharp interest-rate hikes. Infrastructure was a notable exception, in keeping with historical trends.

Relative performance vs. equities

“In the cycles we analysed, infrastructure showed relative outperformance during periods of slower-than-expected growth and greater-than-expected inflation.

““Good” inflation, resulting from economic growth and rising demand, generally favours transportation services (such as freight rails and marine ports).

Persistently high inflation in times of surprisingly slower growth (falling demand) tends to be “bad” inflation but nevertheless favours infrastructure generally.

Rails tend to act defensively within the industrial transportation space during slowdowns.

Rails have demonstrated significant pricing power in times of rising inflation due to their monopolistic characteristics and role as an essential service provider to shippers.

Absolute performance

US and global utilities present a clear picture of favourable, though somewhat muted, returns in positive-growth-surprise environments.

When growth surprised to the downside, utilities uniformly outperformed.

Counterintuitively, transportation services globally showed better performance and hit rates in negative-growth-surprise environments, while lagging in positive-growth-surprise environments.

Inflation levels

Infrastructure values have historically held up better than the broad equity market in medium- and high-inflation periods, given the companies’ inflation-linked pricing models and generally inelastic demand for infrastructure services.

Relative performance vs. equities

Returns during medium- and high-inflation environments are favourable, with an outsized average annual return under medium-inflation conditions.

Infrastructure underperformed in low-inflation environments.

In the prior cycle, inflation remained at a low level for an extended period. We expect inflation in the current cycle to remain elevated.

Absolute performance

For idiosyncratic reasons (not likely to be repeated with the business model currently in use), midstream energy does not show up as an outperformer relative to other subsectors, at any level of inflation.

However, among infrastructure subsectors, we expect midstream to have the most sensitivity to absolute levels of inflation going forward.

Asia travel & tourism was less responsive than other sectors to medium and high US inflation.

The case for active management

The pair writes that listed infrastructure represents a diverse opportunity set that has historically produced a wide dispersion of subsector returns in any given period depending on economic drivers. 

“Anticipating such trends is a key component of active management, and active managers of listed infrastructure have consistently demonstrated a track record of delivering value for investors.

“Managers may capitalise on distinct economically driven sector characteristics as well as secular trends (such as clean energy initiatives or increasing data intensity with the adoption of 5G technology). Active managers may also take advantage of pricing anomalies that occur due to changes in interest rates and other technical drivers, or from shifting regulatory and political factors.

“By contrast, passive portfolios are unable to allocate assets to capitalise on macro factor or secular growth opportunities. Nor can they sidestep sectors that may be facing headwinds,” the pair concludes, while warning that there is no guarantee that active management can successfully navigate these trends.

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