Week 4: Infrastructure Investment

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Week 4

Infrastructure Investment

THE FOUNDATION FOR THE WORLDS ECONOMY

The need for infrastructure is a global issue and is vitally important to supporting economic growth, particularly in emerging markets.

Of all the priorities competing for attention across the globe, the development of infrastructure… the assets, systems and services required for the operation, prosperity and growth of an economy…ranks among the highest.

Infrastructure impacts every aspect of a community, and to the extent these physical assets perform optimally, they enable essential components of a healthy economy, such as fiscal stimulus and job creation, while also contributing to a higher quality of life.

Since 1970 allocations to infrastructure investments have declined in developed economies to just 3.3% of GDP, from 5.2% previously and recently it has been estimated that the United States, in order to address this gap in spending, needs to spend $3.3 trillion on infrastructure through 2025.

Meanwhile, emerging markets are projected to demand an increasing share of global resources and will require adequate infrastructure in order to meet population growth, increasing wealth and economic expansion, as well as to keep pace with urbanization trends.

We believe these regional demands will provide investors with potential opportunities across the infrastructure spectrum from roads and bridges to water resources, and from power grids to renewables and energy transportation.

After years of disappointing economic growth, global policymakers may again be warming to infrastructure investments as a way to li economic growth rates, increase economic efficiency and improve their constituents’ quality of life. e reality, however, is that residual effects from the 2007-2009 global financial crisis, including slow growth and government deficits, have created a widening gap between what is needed to build and maintain infrastructure and the resources available to fund these projects.

Due to the enormous capital requirements, we anticipate that attracting signi cant private investment will be essential for policymakers to achieve their goals. We see a signi cant opportunity for those listed companies that own, manage, construct or nance infrastructure assets and can step in to ll the gap.

The need for infrastructure development is truly a global phenomenon. Many developed countries need to repair, upgrade or completely replace aging infrastructure, and many emerging countries need to develop new infrastructure to meet the needs of their growing populations, economies and cities. According to the McKinsey Global Institute, an estimated $57 trillion in infrastructure investment will be required just to keep pace with projected global GDP growth by 2030. at’s nearly 60% more than the $36 trillion spent over the past 18 years.

Examples of infrastructure assets include airports, toll roads, ports and rail systems within the transportation sector, essential services like electricity generation from both traditional and renewable power sources, water distribution and wastewater treatment, telecommunication networks, as well as energy transportation and storage.

As one of his core policy initiatives, US President Donald Trump has proposed spending hundreds of billions of dollars on infrastructure.

We anticipate highways will almost certainly be one focus As such, we believe those companies with both construction and operational capabilities will have the greatest advantage.

A lead water crisis in Flint, Michigan, that made headlines last year also underscored the investment needs of US municipal water systems to simply keep them operating safely. Public-private partnerships are already being used in several municipal systems, so the model already exists.

Just as the world’s population is evolving, the development of energy resources is also shifting. e Energy Information Administration (EIA) projects that the United States will move from a net importer to net exporter of natural gas in 2017 and a net energy exporter by 2026.

In Europe, austerity measures continue to limit public sector spending despite the need to upgrade and refurbish existing infrastructure. e UK government, historically one of the world leaders in securing private investment in public infrastructure since its Private Finance Initiative efforts began in the 1990s, is working to attract additional private sector capital for projects under a revised scheme of public-private partnership arrangements.

Because infrastructure is vitally important to sustaining economic growth targets, it plays a central role in governmental planning efforts. In Latin America, for instance, the region’s ability to access export markets for its abundant natural resources and agriculture production is dependent on the development of new road, rail and seaport infrastructure.

More investors seem to be interested in infrastructure as an asset class, and aware of its potential benefits. Foremost among these benefits has been attractive risk and return characteristics during the past five years compared with a number of other asset classes, such as bonds and international equities.

Dividend income is another possible bene t of an allocation to global listed infrastructure. Dividends have accounted for over one- third of the total return of the S&P Global Listed Infrastructure Index in the past 10 years.

The inflation-linked nature of the revenues of infrastructure businesses themselves may contribute to another potential bene t for investors. For example, under a rate-of-return regulatory regime, utility companies may see revenues rise during periods of inflation and rising interest rates.

Many companies in other industries are also subject to contractual relationships that contain escalators tied to inflation. In the US energy transportation market, for example, regulated returns for pipelines bene t from annual Producer Price Index (PPI) escalators.

Similarly, a toll-road operator may be permitted to raise toll rates in line with the Consumer Price Index (CPI), or a power purchase agreement that governs the long-term purchase price between a utility and a renewable source of generation may be adjusted annually for inflation. Operators of those assets that have substantial exposure to GDP growth, such as ports or airports, will also likely see revenues move closely with inflation.

In our view, the most tangible potential bene t for investors as it relates to these inflation linkages is that listed infrastructure companies have historically been in a position to grow dividends at a rate that has exceeded increases in CPI as a result of both inflation linkages as well as new capital investment opportunities.
Financing capital intensive infrastructure investments will require increasing levels of private funding based on revenue generating models, many of which are already well established in different countries.

In our view, investors will need to see positive investment characteristics for the successful capital formation that will be required. These include stable and growing cash distributions, attractive risk and returns and potential diversification.

In sum, we believe listed infrastructure companies will be important sources of capital in order for policy makers to satisfy their economic development goals.