Conquerors and emperors were keen to found cities; they anchored their rule at the same time as becoming centres of new ideas, developing trade and wealth to tax. People like cities too, and for the same reason. More than 50 per cent of us had become city dwellers by 2008, that figure is now over 60 per cent and trending rapidly upwards.
Cities and infrastructure
Cities are costly compared to rural living in terms of infrastructure - not only roads, schools and hospitals but sewage systems, power plants, fresh water supplies, electrical cabling and everything else that supports modern living. But such investors need deep pockets, and long and patient natures, as they await their returns. Time and inflation carry investment dangers, and these have mostly frozen out private investors, leaving the State as the only paymaster.
Sadly, politicians and bureaucrats are not unlike homeowners in their attitudes. Having beggared themselves, as they see it, with their grand projects [or their mortgage] they are reluctant to face up to the inevitable and expensive need to maintain and modernise what they have achieved or acquired.
Much of America’s infrastructure dates back to the Eisenhower presidency, but spending has been shrinking every year since. The American Society of Civil Engineers rates its roads, bridges and dams as no better than D+. With interest rates low, and blue-collar unemployment high, it is a political disgrace that this is not being remedied.
Last winter’s flooding of the UK coast may not have worried Whitehall much but the Thames Valley was a different matter; it is home to too many MPs, TV broadcasters and senior mandarins - let alone voters - to be ignored. Now there is to be a £375bn pipeline of energy, transport, flood, waste and water projects. Corporations, including at least six insurance companies, will play a major role in financing this recently announced UK national infrastructure plan.
Who should pay for basics?
So infrastructure is both a world need and a problem. The World Economic Forum reckons that infrastructure spending currently totals about $2.7tn a year, but that it should be $3.7tn and the gap is rising. Such investment spending can be profitable for entrepreneurs and lenders alike. Britain’s canals were built by private landlords and then rescued from post-war dereliction by enthusiasts working weekends. Investors of the London Stock Exchange financed British and American railroads, and some of these were rescued from Dr Beeching’s cuts by yet more enthusiasts.
The years after 1945 saw government actions - or rather their unforeseen consequences - that discouraged the banks and insurance companies that were once the bedrock of this type of investment. Stricter actuarial controls of pension funds and tighter bank capital ratios all pointed to caution in the allocation of assets, to the disadvantage of pensioners and shareholders alike.
So who will mind the gap? This was once the job of merchant bankers, but today’s investment bankers seem keener on high-speed dealing than long-term thinking. The world is awash with cash looking for good returns, but nothing to invest in. Infrastructure investment offers long-term cash flows, low volatility and correlation to other asset classes, with stable returns that easily match the needs of pensioners. But there are problems beyond the cure of single investors, however massive.
The problems identified
The British government’s efforts of a few years ago to hide its capital spending through the Public Finance Initiative (PFI) exemplified these problems. Politicians dreamed up voter-friendly initiatives such as new schools and hospitals, informed their civil servants that they were to be designed, built and then managed by a chosen private construction firm; in return the government would guarantee both the capital and running costs.
The result was what could have been expected. Hapless civil servants lack the instincts of competitive and capitalist business organisations, and the first projects would have been much cheaper if financed directly by the state. But people learn by experience and now, although no longer called PFI, much UK social expenditure - schools, hospitals, prisons - is financed this way.
Many other countries have adopted similar systems. Some have gone further than Britain. Australia and Canada, for instance, have professional teams to handle the myriad problems of procurement, and ensure the timeliness and efficiency of capital spending. Such teams help to alleviate one of the major risks - other than bribery - of such projects: that time and cost overrun. And on projects depending on consumption patterns - say, traffic flow over a toll road - planners can get it wrong. And vitally, all these projects depend on government honesty; if these renege, investors are left swinging in the wind.
How to invest now
The need is great, and the opportunities greater yet, for a sustained and long-term increase in infrastructure spend, which would act as a major boost to employment and consumer spending, thus starting a virtuous circle that would kick-start Western economies. The reforms needed will happen one day, but as investors none of us should hold our breath, so we need to find safer and more limited ways into this market.
There are three specialist investment trusts that are followed in detail by the analysts on the Numis website. These - 3I Infrastructure, HICL, JLIF - all differ slightly in their aims and offer yields of some 4 to 5 per cent, while all aim to earn at least 8 per cent on their investments over the life of the various projects in which they invest. Each regularly issues new equity to support their borrowing of non-recourse funds.
These borrowings are used to acquire through competitive bidding completed [or nearly finished] major infrastructure projects, mostly in the UK but with some abroad in Europe and North America, and all with income guaranteed by the respective government. These shares act more like bonds than equity, in that the yield is guaranteed and is at risk from interest rate rises, but the companies are all believed to be very cautious in their asset valuations.
However, there could be an opportunity for those wanting a bit more upside to their investment. Investing directly in a company transacting such work is too risky for the individual investor, but a whole country primarily focused on exporting high value added services is quite another. Switzerland is too small a market for a world company, but too wealthy and high cost an economy to survive except through exports and efficiency. And, from the point of view of the investor, Swiss governments and voters all recognise the need to keep their companies efficient and profitable if Switzerland is to continue its success.
A potential bet on world infrastructure spend, before the necessary reforms to the system, is the SMI, or index of the largest 20 companies quoted on the Swiss Stock market. Either an ETF or low-cost index tracker is the entry to this exciting opportunity; a glance at the components of the SMI shows that this contains all the skills necessary for the completion and servicing of the mega-cities that have become the norm, especially in Asia.
From cement, steel, buildings materials, fixtures and fittings, to electrics and electronics, telecommunications and business training and support services, the SMI has it all, but also adds speciality chemicals, biotechnology and pharmaceuticals as well as the banking services that such urban complexes need. The Swiss succeed by being cautious and long-term investors, so these are not investments for the greedy and impatient.
This is Russell Taylor’s view on 26 June 2014
