Episode 6: Infrastructure – The Investment Megatrend

Infrastructure is currently a hot topic, even though Biden's America's Jobs Act faces significant opposition on Capitol Hill, it's shone a spotlight on the need to rebuild and refresh America's communications network and redevelop its energy distribution grid. In Europe the push towards renewable energy and carbon emission targets will require significant investment from public and private partnerships to meet the goals of the EU's Green Deal. Whilst in Asia, China's Belt and Road initiative remains one of the biggest investment projects ever undertaken. Infrastructure is one of the investment megatrends for the next decade, providing incredible opportunities for those who can participate. And the political will is now backed by a fundamental shift in economic thinking. For decades, monetary policy has been in the driving seat, but years of balance sheet expansion, yield suppression and historically low interest rates have done little for economic growth. Asset prices have soared, most notably in US equities, whilst profits and wages have stagnated. In an attempt to kickstart economic growth policymakers are now looking at the fiscal levers of government expenditure to try and drive growth back toward the long-term average. 

The Covid pandemic has clearly been the catalyst for this shift in economic policy. The U.S. is currently running the largest budget deficit since the Second World War. But rather than squander this opportunity on simply supporting wages during lockdown, Western governments are making the biggest fundamental shift in attitudes towards spending since the Reagan and Thatcher administrations of the early 1980s. And the primary focus of the shift is towards updating the physical networks of communication and energy distribution. Even though Biden's plan is called the America’s Jobs Act, it's often referred to as an infrastructure plan, focusing on bridges, on roads, on airports, affordable housing and schools, as well as expanding broadband where one third of the US population are still under serviced. But the only way that these targets will be met is if private investment joins these public initiatives, creating a multiplier effect that can tackle the scale of these projects. 

Whilst Biden's plan for $2.2 trillion of spending sounds like a large number, spread over 10 years, It's barely 1% of U.S. GDP per annum. To put that in perspective, China injected 3 trillion in credit during 2020 alone and global balance sheets rose by 9 trillion dollars. The OECD estimates that meeting the UN Sustainable Development Goals will require 6.3 trillion in annual investment immediately, increasing to close to 7 trillion to meet the Paris agreement goals. And much of this investment will be in infrastructure projects, where the G20 infrastructure hub estimates that there's going to be a funding shortfall of 15 trillion dollars to 2040. But investing in infrastructure requires investors to think in the very long term, imagining a world in 10 or 20 years time. And technology is shifting rapidly and even the investment framework is undergoing a significant change. 

So access to these projects themselves can be difficult, often leaving investors to focus on the raw materials such as copper, as a way to gain exposure to a theme. But commodities have many other influences that are independent of that infrastructure theme, such as the level of the dollar, which means they're often an unsatisfactory way of gaining exposure. But with low yields across global fixed income markets and the threat of yield curve control if your yields rise too far, investors continue to look for alternative opportunities. Price Waterhouse estimates that assets in infrastructure funds could double to approximately 2 trillion dollars by the end of 2025, given the need to refurbish roads and airports, hospitals and to finance accelerating development in areas such as 5G and renewable energy projects. But these figures are still well short of the OECD and G20 numbers we had earlier. And the opportunities are changing from niche investments such as small-scale wind farms into large-scale investments across energy and utility majors. Institutional investors such as the Australian super funds have been leading the charge. And because these projects are so different and take place over many years, they can be very difficult to evaluate. How well funded is a sponsor and what are the funding ratios and debt levels? What is the geopolitical risk? Government backed social infrastructures such as schools or hospitals, could be carrying 90% debt with cover ratios of debt repayments from annual revenues as low as 1.2x, whilst merchant power schemes could be carrying less than 50%  debt with 2x cover ratio. 

So with all these opportunities, how do we evaluate the projects and decide which are the best investments? How do you get in on the act when so few projects are listed businesses? As ever if you want to follow the money, you have to follow the data. Refinitiv has brought together data from thousands of global projects into a single app; The Infrastructure 360 app across their platforms. In the next episode will be looking at how you can track, evaluate and participate in a sector that could provide some of the most exciting investment opportunities of the next 20 years.