In the 2009 Budget and as part of its Nation Building Program, the Austra- lian government pledged $22 billion towards infrastructure. Infrastructure investments across the world are benefit ing from similar action by governments that are waging an economic war against the global financial crisis.
For retail investors, the run-on benefits from new and exciting projects, like renewable energy and clean technologies - which recently received a boost at the G8 summit in Italy - may only come some way down the line. In the meantime, increased production and construction will result in a brighter outlook for com panies in various sectors. And infrastruc ture remains an exciting area, where growth and financial product develop ment will create many opportunities for investors.
Infrastructure investments were not immune to the market volatility of the last year. Year-on-year performance of the benchmark UBS Global 50-50 Infrastruc- ture & Utilities Index (AUD Hedged) as at 31 May 2009 was -31.91.
Listed infrastructure was severely affected by the market volatility due to its higher correlation to global equity mar kets than unlisted infrastructure. This has led to the question: is it still considered a defensive asset class?
"I can understand that some financial advisers and retail investors are skeptical about the infrastructure asset class because some of the stocks in Australia have performed so poorly," said head of global listed infrastructure at Colonial First State, Peter Meany.
"But I think you've got to separate the capital structure and the governance issues that those stocks had from how the underlying assets actually performed. And the assets are doing just fine."
However, Ross McInnes, director of investments at Australian Investment Research Services, said that the asset class is no longer the straightforward defensive asset class it once was. He said you can no longer give the blanket term of 'defensive' to an asset class that is set to evolve dra matically over the next few years, and a number of assets within the class should be considered as 'growth'.
"I think it's important to know that the asset class is broader than your tradition al infrastructure, and there are growth and defensive assets within that broader group of infrastructure," he said.
"I think infrastructure can be seen as growth assets as well, very much so."
As an example of this, McInnes said that while the Australian government has upped spending on infrastructure to boost the economy and create jobs, climate change is also at the top of the agenda. Looking at the fiscal policy over the last six months, he said it is important to note that investment in infrastructure incorpo rates green technology and renewable energy.
The Australian 2009 Budget has set aside $3.565 million for clean energy infrastructure, and the leaders at the G8 summit agreed on a goal of reducing glob al emissions by at least 50 per cent by 2050 and on an 80 per cent or more reduction goal for developed countries by 2050. The leaders discussed the role of innovative technologies and climate change financing.
"Even though it's early days, we are starting to research that area pretty heav ily because we think there's going to be a lot of corporate M&A activity and a lot of things happening in that area," said McInnes.
"From that aspect, infrastructure is going to be generating growth opportunities for investors as well."
He said infrastructure now has a broad er scope than your traditional assets around toll roads, railways and so forth.
"The renewable energy side of it is something that every government in the world is looking at," he said. "When some one says infrastructure is a defensive asset, I think they're just looking at one aspect of it. And as with any other new industry that starts up, some companies may fail. You have to take a portfolio approach and you wouldn't put a large allocation of your client's money into it at this point until it matures."
Meany agreed that there are exciting developments but maintains that infra structure can generally be considered defensive.
"There are some opportunities that really interest us," he said. "The renew able energy side, if you can get it on a contracted basis - for example, a wind farm contracted to a utility - will make for a more stable income stream. We like some of the smart metering initiatives. If you've got an electricity transmission or distribution business, and the govern ment is providing a fixed return on capital for rolling out more energy-efficient meters, then clearly they get the growth from that but also the regulated return."
He said there are plenty of opportuni ties for retail investors, but they must consider their reasons for investing in the asset class.
"They just have to be careful that in chasing a theme, you don't move too far away from the core reason for being in the sector, which is defensive growth," said Meany.
"If you are getting too caught up in construction activity, or in emerging markets because there's huge growth potential, you're moving away from what investors were probably interested in in the first place, and that's a more defensive income stream."
Considering the performance of global listed infrastructure throughout the downturn, Lonsec senior investment ana lyst Feriel Aumeerally said the underlying asset has demonstrated that it is a defen sive asset class because the earnings are still predictable. She added that Australia's situation is different to other countries in that infrastructure compa nies were highly geared, but they have successfully engaged in capital raisings.
She said while infrastructure equities behaved in much the same way as any other equities, the underlying earnings of global infrastructure have not changed and therefore infrastructure as an asset class is still considered defensive.
"It still caters for long-term investment," she said. "There were reasonable concerns around gearing and the companies in Australia have gone out to the market to reduce their gearing."
Matthew Dell, the head of retail distri bution for specialist infrastructure invest ment manager, RARE Infrastructure, agreed.
"We would say that it still is very defen sive in terms of the revenues of the com panies that we're investing in tend to be resilient across economic cycles," he said. "The earnings hold up even in a downturn like this, and that is in contrast to indus trial stocks or property stocks, which ebb and flow with the economic cycle."
Dell said in the context of alternative energies and clean technologies, and the increasing spectrum of the compa nies getting involved in this growing area, he doesn't see much change from their perspective.
"Those companies fall into our uni verse as well - we cover companies that are into renewable energy sources and we also find that the current companies we cover are looking at alternative energy sources in addition to the traditional energy sources."
Listed vs unlisted
Listed infrastructure is much more susceptible to market volatility and here in lies the risk, aside from its inherent underlying asset characteristics that have their own risks. Paul Foster, AMP Capital Investors head of portfolio management, infrastructure, said investors need to dif ferentiate between the underlying asset characteristics versus the investment characteristics.
"Certainly investors need to under stand the risks that are inherent in the underlying assets and the asset class, but more importantly they need to be aware that they're not the only risks they are investing in when they buy infrastructure through a purely listed vehicle," said Foster. "There's this added risk called Equity Market Beta that you cannot get away from in a pure listed infrastructure environment."
He said AMP has attempted to get around this issue to try deliver a more pure infrastructure exposure, making sure that the investment characteristics are more aligned with and more reflective of the underlying asset characteristics.
Foster said the way to accomplish this is to deliver a mix of both listed and unlisted infrastructure exposures. Foster said infrastructure investments will be far more defensive with this diversification between the two.
Foster said that Australia is seeing its most attractive environment in five or six years for the acquisition of infrastructure assets, and yet one of the issues for the retail investor to consider is that most of the listed companies and listed funds can't raise new capital.
"A lot of the listed infrastructure stocks just can't access new capital in the mar ket, so they are going to be on the side lines during the most attractive period of deal flow and acquisition opportunity that we believe has been seen for a long time," said Foster.
Benefits for retail investors
With a renewed interest in infrastruc ture, especially in light of increased gov ernment infrastructure spending all over the world, what benefits will retail investors reap?
McInnes said it's an exciting time for infrastructure investments, and there is huge scope for the development of invest ment products. "There are massive oppor tunities - there's a whole range of prod ucts you could deliver into this as well," he said. "There's an opportunity to invest in companies in that space that have a very big upside."
For retail investors, the opportunities may be some time away, "but that will come for sure", said McInnes.
Dell also sees massive growth in this area. "Globally, I think the universe of stocks and infrastructure companies that people are going to have available to them is going to grow strongly over the next 10 or 15 years," he said. "Infrastructure has been the core part of stimulus packages around the world, and they have very long timeframes. We're only seeing the tip of the iceberg now in terms of the size of the infrastructure universe - probably one of the most significant things about this sec tor is that it's very early days. It's surpris ing to see that the universe of the infra structure stocks is actually a lot more than you would think, compared to say global property, and it's growing really fast."
However, Aumeerally said financial products built around infrastructure are still very young as it is a relatively new asset class. Adding to this the volatility over the last year, she said she doesn't fore see any serious development of exciting new investment products.
"Because the overall concern for debt is still lingering you will see simple products without the bells and whistles," said Aumeerally. "Once confidence is reestab lished and the flows are back, there may potentially be some new products. But talking to some of the fund managers, it's not going to be in the near future."
Foster said one of the issues is that there are so many brown field (existing) opportunities available.
"Because there are so many good quality brown field assets currently in the market and for sale, you've got to have some really attrac tive offerings around green field (new) deals to encourage you to spend the time to look at them," he said. "The problem around green field infrastructure bids is that they take a long time and they are very expensive to play in. We've got finite capital and finite time to spend, and it's hard to convince yourself to spend a lot of time looking at green field proj ects in the absence of a really effective risk sharing framework between the public and private sector, simply because of all the oppor tunities we can spend time on right now."
What happens in the good times?
The defensiveness of infrastructure may be appealing now as things remain uncertain, but what is the outlook for this asset class when the good times return?
"As long as the asset class delivers on its promise, which is a certainty of cash flows and a certainty of revenue streams, and returns that are less correlated with main stream asset classes than other alterna tives," said Foster. "As long as infrastruc ture can deliver on that promise, it remains a fair and valid candidate for the inclusion in portfolios. Again, most of the debate tends to focus around returns. I think that misses the other half of the argument, which is just as valid, and which is around volatility risk. Certainly over long periods of time, infrastructure assets can deliver defensive returns that do display far less volatility than the broader equity market. For investors that are still attracted by that mix of yield, reliable cash flow, inflation-linked revenues and very defensive underlying assets cash flows coming up to the investor, infrastructure in my opinion should have a bright future."
Dell said the appealing thing about global listed infrastructure, in his view, is that it is a lot less volatile than both property and the broader global equities market.
"And certainly over the last 12 to 13 years it has actually outperformed both those asset classes as well," he said. D