How infrastructure can fit into your clients’ portfolios

This article is part of
Alternative Investments - September 2014

Alternative assets offer a useful way to diversify any portfolio and among the wide ranging selection of them to choose from, is infrastructure. As an asset class it tends to provide investors with a stable financial performance, good yields relative to the risk level and inflation protection.

By investing in infrastructure you are backing major government projects and services as well as essential utilities, in return for an income from operating essential amenities such as hospitals, schools, railways and energy companies.

Other benefits include the low sensitivity of the sector to changes in the economy and financial markets, highlighted by the low correlation of infrastructure investment to other asset classes. Infrastructure investments also offer long-term, predictable cash flow and typically have low default rates as the service provided by each individual scheme is essential.

In addition, many infrastructure projects offer some protection against price inflation as any government payments as well as prices charged for the services provided are linked to the pace of inflation. That means if inflation was to rise steeply then any change in fees and payments will be linked to that. On the other hand, revisions are often upward only, so if inflation declines, contracts would not necessarily be revised downward.

There are of course potential pitfalls when considering an investment into infrastructure, with politics being among them. New political regimes may introduce changes to the rules regarding private sector investment into public sector projects. Given the reliance on private sector money for the long-term availability of many infrastructure facilities, however, this is not often a major concern among the developed economies. This should be looked at as part of the investment decision as a whole.

While dividend yields maybe attractive in this area, capital growth can be limited as the majority of the return comes from income generated by the asset itself, rather than appreciation in value of the asset. But, the lower capital growth is balanced by the low risk levels associated with this type of investment as well as the length of the projected returns.

Infrastructure is a relatively new asset class available to retail investors. Following the global financial crisis of 2008, however, the opportunity for private investment into public sector projects has increased. That is because Governments sought to shore up their finances and help protect the banking sector. During that period the flow of money around the economy all but came to a standstill and many public sector projects – new schools, hospitals and roads – were put on hold.

Fast forward from 2008 to 2012, and taking the UK as an example, the International Monetary Fund praised the UK’s efforts at reducing the country’s financial deficit but said in order to boost economic growth it needed to bring forward a number of major infrastructure projects.

The opportunities to invest in global infrastructure projects and facilities look set to grow. According to a 2013 report from consultant firm McKinsey & Company, $57 trillion of investment into infrastructure around the world is needed by 2030 in order to ensure enough usable, essential facilities such as roads, hospitals and schools for the increasing population.