Built to last: Investing in listed infrastructure

Built to last: Investing in listed infrastructure

16 minute read

June 2022

Share

Download Report

Given high inflation and volatile markets, investors seeking to reduce risk while maintaining attractive total return potential are increasingly allocating to listed infrastructure, which has substantially outperformed the broad equity market year-to-date thanks to its unique characteristics.

KEY TAKEAWAYS

 

  • Listed infrastructure has historically offered equity-like returns, but with lower volatility and more attractive downside capture relative to global equities.
  • Infrastructure has shown positive inflation sensitivity and appears attractively priced relative to private market valuations.
  • A skilled active manager offers the potential to enhance returns by seeking to take advantage of the significant performance dispersion across subsectors, geographies and securities.

What is infrastructure?

Infrastructure assets form the backbone networks that support essential services, which enable communities to function and economies to grow. The $4.5 trillion global listed infrastructure universe consists primarily of companies that own and operate these assets, grouped into four main categories:

What is infrastructure

These businesses have common characteristics that unite them as an asset class:

  • Long-lived assets: Infrastructure assets typically have useful lives of several decades, providing a long-term source of income.
  • High barriers to entry: Strict zoning restrictions, large capital requirements and, in some cases, exclusivity agreements (monopoly status) make it difficult or prohibitive for competitors to enter the market.
  • Inelastic demand: Infrastructure provides essential services that often remain in demand even during economic downturns.
  • Relatively predictable cash flows: Infrastructure assets are often regulated or operate under long-term contracts or concession agreements, typically resulting in greater cash flow stability than in many other businesses.

Why invest in infrastructure?

Historically, listed infrastructure has generated competitive performance relative to global equities while providing access to subsectors and investment themes that are typically under-represented in broad equity market allocations (Exhibit 1).

Notably, infrastructure has been a defensive and often counter-cyclical asset class, generally outperforming the broader equity market during business cycle and equity market downturns. The distinguishing historical characteristics of listed infrastructure have contributed to a significant rise in allocations to the asset class in recent years.

EXHIBIT 1
Historically competitive returns with lower volatility

10-year rolling return and risk statistics, listed infrastructure vs. global equities

10-year rolling return and risk statistics, listed infrastructure vs global equities

Why own infrastructure now?

Performance amid moderating economic growth and high inflation

The combination of slowing economic growth, tightening financial conditions and elevated global equity valuations suggests that a cautious stance toward traditional risk assets is warranted at this time. In contrast, this type of environment can be attractive for listed infrastructure. Indeed, infrastructure has significantly outperformed the broader market in the first four months of 2022.(1)
The essential nature of infrastructure services, coupled with revenue models that frequently have inflation-sensitive pricing mechanisms, has historically been a catalyst for strong absolute and relative returns for infrastructure in stagflationary periods—times when growth surprises to the downside and inflation to the upside (Exhibit 2).

In addition to their relatively stable and inflation-defensive earnings, infrastructure companies tend to have low-cost and long-duration debt. The majority of the listed infrastructure universe has taken advantage of accommodative credit markets in recent years to lock in low borrowing costs, which may help reduce the negative impact of rising interest rates in the near-to-medium term. Furthermore, many infrastructure companies can pass higher interest costs along to customers through regulatory mechanisms.

EXHIBIT 2
Superior returns in challenging conditions

Real returns when growth unexpectedly slows and inflation rises (%) July 1991–March 2022

Real returns when growth unexpectedly slows and inflation rises
Real returns when growth unexpectedly slows and inflation rises - 2

Rising rates may present buying opportunities

While infrastructure stocks may at first react negatively to rapid increases in interest rates, performance has historically improved over the long run as the initial shock of higher rates wore off and investors began to focus on underlying fundamentals—including some degree of positive economic sensitivity and inflation pass-through mechanisms. Exhibit 3 shows average returns during the 13 largest spikes in the 10-year U.S. Treasury yield since 2000. After an initial reaction, infrastructure stocks subsequently produced strong absolute and relative performance.

EXHIBIT 3
Resilience in the face of interest rate increases

Cumulative returns in rising-rate environments

Cumulative returns in rising-rate environments
Cumulative returns in rising-rate environments - 2

Valuation support from significant private investment

As demand for private investment opportunities in infrastructure continues to rise, many private infrastructure fund managers have had difficulty deploying their capital. As a result, there is over $336 billion in assets currently on the sidelines, looking for suitable infrastructure investments (Exhibit 4).
With only a finite number of active investment opportunities available at any given time, competition for assets is high, ultimately driving asset prices up. In recent years, private funds have acquired listed infrastructure assets at a 29% average premium over prices before acquisition.(1) We believe private infrastructure transactions that command premiums well above implied cash flow multiples for listed infrastructure companies provide a rising floor of support for listed valuations.

EXHIBIT 4
Record dry powder creating a valuation floor

Private infrastructure dry powder ($ billions)

Private infrastructure dry powder_billions

The case for active management

Historically, listed infrastructure returns have varied widely among different geographies and subsectors (Exhibit 5). Macro factors, such as interest rates and economic growth, can affect infrastructure companies in different ways, depending on the companies’ business models, contract structures, financing needs and other factors. Likewise, regulatory and political environments can be key drivers of return dispersion at the security level. These differences underscore the importance of fundamental analysis, which is at the core of active management.

Active managers can adjust a portfolio’s allocation based on their view of the risks and opportunities offered by various securities, geographies and market segments, potentially leading to favorable results if the manager’s outlook is realized.

EXHIBIT 5

Wide range of returns highlights opportunity

Calendar-year range of sector returns

Calendar-year range of sector returns

The Cohen & Steers advantage

Experienced global investment team

• One of the largest investment team dedicated to listed infrastructure investing
• Local expertise with experienced analysts and traders located in key markets globally

Substantial market position

• Size and scale provide access to company management, regulators and other market participants
• Among the largest dedicated listed infrastructure investors, managing $9.2 billion in assets

Rigorous investment process

• Top-down, macro-level sector and country analysis combined with bottom-up, company-level research
• Strict focus on owners and operators of infrastructure assets
• The asset class is evolving amid investor demand and massive investment opportunities

FURTHER READING

Recession or not, growth is slowing: Our macro team’s view

August 2022 | 10 mins

Our base case calls for a shallow recession as inflation peaks and central bank policies take hold. Here’s how we’re positioned across key strategies.

Inflation Reduction Act is a net positive for listed infrastructure

August 2022 | 3 mins

The Inflation Reduction Act of 2022 (IRA) addresses three key areas: climate issues, corporate taxes, and healthcare.

A portfolio managers perspective Opportunities in listed infrastructure

A portfolio manager’s perspective: Opportunities in listed infrastructure

July 2022 | 6 mins

Quynh Dang, Global Infrastructure Portfolio Manager, discusses the impact of private capital finding its way to the listed infrastructure universe, the benefits of getting exposure to the renewables theme via infrastructure, and other infrastructure sectors we are watching right now.

2216002