Why infrastructure presents opportunities for long-term investors

18/10/2018

In this Q&A, Alex Araujo, fund manager of the M&G (Lux) Global Listed Infrastructure Fund, explains why he believes investors targeting both capital growth and income can play a part in financing the world’s growing need for infrastructure.

The views expressed by the author should not be taken as a recommendation, advice or forecast. The value of investments and the income from them will fluctuate, and you may not get back the amount you originally invest.

Firstly, what do we mean by infrastructure?

Infrastructure broadly refers to assets that provide essential services for global society to function. A variety of assets are classified as infrastructure, and the list evolves as society modernises.

The first thing that probably comes to mind when we think about infrastructure is what I call economic infrastructure. These are assets like roads, ports and power networks, which shape our living environments. Perhaps less obvious, but just as important, is social infrastructure – our hospitals and schools, for example. Lastly, there is the unseen infrastructure that underpins and connects the modern economy – our data centres, satellites and mobile phone masts, to name a handful of examples.

What are the attractions of infrastructure investments?

I believe infrastructure assets can provide a compelling proposition for long-term investors looking to diversify their portfolios. As infrastructure assets are vital ingredients for modern life, one can reasonably expect demand for them to be more resilient than, say, demand for discretionary consumer goods. These assets tend to be governed by long-term contracts, often linking revenues to inflation, which enhances their resilience. The scale and cost of infrastructure assets also makes them difficult to quickly replicate or replace, meaning that the companies that own or control them tend to benefit from a strategic barrier to entry that would-rivals face.

Further, where infrastructure is needed to serve a growing or changing part of the economy, as in the case of digital data storage for example, there are structural opportunities for investors to tap in to cashflows that can grow over time. In this way, infrastructure investments can at once offer stability and growth, which should in turn support share prices and dividends paid to investors in times both good and bad.

Why do you see opportunities for long-term investors today?

Quite simply, the world needs to invest more in its infrastructure. You might be familiar with the concept of an “infrastructure gap”. This is essentially the shortfall between the amount of money that needs to be invested in infrastructure, to keep up with projected demand, and the amount actually being spent. Over time, underinvestment in the likes of transport and power networks leads to bottlenecks in the economy and undermines growth.

Figures naturally vary, but a McKinsey study has estimated that the world needs to invest an average of US $3.3 trillion a year in economic infrastructure between 2016 and 2030, when there will be more than a billion extra people on the planet. Annual investment is currently around US $2.5 trillion, meaning there is an annual shortfall in the order of US $800 billion.

So how can the infrastructure gap be bridged?

Decades ago, in most countries, financing infrastructure was almost exclusively the reserve of governments. Today, governments often look for private investment to plug the gap, especially in certain areas.

Electricity generation is a good example. While many European governments are supportive of building wind and solar farms to help meet targets for lower emissions, they have looked to private companies to lead investment in projects. They have sought to encourage this by providing long-term contracts to buy future electricity at an agreed price. This security of income is central to the appeal for long-term investors. The combination of guaranteed demand and a shortage of renewable energy assets presents a structural opportunity for companies that own related infrastructure. I believe investment strategies that can successfully harness this growth should profit from a significant long-term tailwind.

How can individuals invest in infrastructure?

Unlike pension schemes and sovereign wealth funds, most of us don’t have billions of euros to invest directly in infrastructure assets! The good news is that it is increasingly accessible to individual investors, not least through the shares of infrastructure companies listed on the stock market.

This approach has a couple of advantages. Firstly, listed investments typically offer more liquidity because the shares of larger companies are traded regularly and so can usually be bought or sold quickly and easily. Secondly, investors can achieve better diversification because each company will typically generate income from several assets. You can gain access to a range of listed infrastructure companies by investing in one fund. When funds generate income from the companies in which they invest, it can be paid out to investors if they choose to own income shares. Alternatively, income can be reinvested to generate further income and capital growth, if the investments perform well.

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The value of the fund's assets will go down as well as up. This will cause the value of your investment to fall as well as rise and you may get back less than you originally invested.