“Infrastructure” is a word that can be taken to describe many entities and that is a strength and weakness – it is very diverse but also such a loose term that investors can be led astray.

“Infrastructure” is one of those words that can be taken to describe many entities and businesses and that is a strength and a weakness – it is very diverse but also such a loose term that investors can be led astray.

Sharp clarity on what infrastructure should be is something that Switzerland-based Partners Group says it prizes. The Zug-headquartered firm recently spoke to WealthBriefing about its business. It has more than €30 billion ($40.6 billion) of different, unlisted assets under management, such as private equity, (as at end-December, 2013); of that sum, around €850 million is run in listed vehicles. It has a listed infrastructure fund, launched in 2006.

“When we launched the fund there was no concrete definition of what infrastructure is,” said Markus Pimpl, senior vice president, investment solutions, at the firm. He said some indices and rankings of infrastructure investments might, for example, hold assets he does not consider to be infrastructure. He cited the example of energy generation firms that are competitive businesses without the pricing power and monopolistic characteristics that often come due to regulation and government oversight.

He referred to the five key tests of whether an asset is “infrastructure”: it must have a monopolistic market position; it must have stable underlying cashflows; it must have high barriers to entry; it must be capital-intensive as a business, and have mostly inflation-linked revenues.

“My key risk to watch is political and regulatory risk,” he said. One of the attributes of Partners Group is the work done to monitor such risk and keep abreast of it, Pimpl said.

He spoke about how the use of listed vehicles – while not a major part of Partners’ business, gives clients who want the liquidity of such entities an attractive option. Such an option can appeal to investors such as small family offices, for example.

This publication put some other questions to Pimpl and colleagues about this business.

How much awareness in the UK/elsewhere do you think there is nowadays of "infrastructure" as an asset class? What in your opinion needs to improve?

In our experience, UK investors are aware of infrastructure in the context of either traditional utilities such as Severn Trent or social infrastructure - UK PFI projects to fund schools, hospitals and other government buildings. UK investors have typically gained exposure to these projects through London-listed investment companies such as HICL and John Laing Infrastructure.

We observe that investors still tend to have a domestic bias and we believe they would benefit from a global approach to infrastructure investing, offering greater diversification and exposure to different growth drivers. UK PFI contracts can be a politically sensitive issue, exposing investors to some degree of political risk. By building a global portfolio, investors can diversify the political and regulatory risks of investing in infrastructure as well as benefitting from different growth drivers. In our view a global infrastructure portfolio should not only include developed markets where heavily indebted governments require private investment to replace ageing infrastructure and to build new schools, hospitals, etc, but should also offer exposure to emerging markets where investment is required to support continued economic growth.

Can you give me examples of how some measures of infrastructure are incomplete or contain business models that don't fit the definition?

The Partners Group Listed Infrastructure Fund invests in what we define as “core infrastructure”. For a company to meet this definition it would typically display certain characteristics, including exposure to real assets, stable underlying cash-flows and long-term contracts with some degree of inflation-linkage, capital intensive with high barriers to entry and a monopolistic market position.

One example where an investment which would commonly be regarded as infrastructure would not meet our definition and fails to offer investors the benefits they are seeking from an infrastructure investment would be telecommunication companies, such as Vodafone or BT. These companies operate in a highly competitive environment which puts pressure on margins and makes it difficult to forecast future earnings over the next few quarters. In contrast, satellite operators in our portfolio such as SES sell satellite capacity in long term contracts of up to 15 years. Besides greater visibility over future earnings, satellites provide the core infrastructure advantage of limited demand risk since they are paid for providing capacity, rather than by the number of people using the satellite signal.  .

We also note that infrastructure indices fail to reflect our universe of “core infrastructure” companies. For example, the S&P Global Listed Infrastructure index has an allocation of around 30 per cent to companies involved in power generation, which are exposed to competition and to electricity price risk. Furthermore, we believe that most investors have exposure to the widely-known power generators which can usually be found in indices, for example, E.On, RWE. We do not believe that a simple replication of these types of company provides the desired diversification of an infrastructure investment   

What sort of wealth management clients do you have and are looking to engage with?
We have a broad range of clients including discretionary wealth-managers, asset managers, private banks, pension funds and consultants. However, we have found institutional investors are the most pro-active in actively seeking exposure to the asset class. We are keen to engage with any appropriate investor in listed equities who seek the growth potential and diversification benefits of a global infrastructure fund.

What is the most common reason you hear as to why people want to look at infrastructure?
Investors typically look at infrastructure due to its stability and attractive characteristics including the ability to grow earnings over the long-term through the economic cycle and inflation protection.

With respect to listed infrastructure specifically, it offers investors greater flexibility to access the asset class via a daily liquid product. It can also act as an active diversifier within a global equity portfolio and typically provides steady growth with lower volatility than broader equity markets.

What risk do you think investors/advisors should pay more attention to than they do, and why?
Due to the monopolistic market positions of core infrastructure companies, this reduces one of the typical public equity investment risks: Competition. However, based on their monopolistic market positioning, core infrastructure companies are typically tightly regulated by governments. As such, we view regulation as a key risk and believe investors should seek to minimise this risk though exposure to different sub-sectors, countries and regulatory regimes since the approaches of individual countries to regulation tend not to be correlated.

At Partners Group, we also invest in private infrastructure, which gives us additional insight into regulation and helps with our analysis of the regulatory environment of listed infrastructure companies. This is very important in our investment process, especially since information about regulatory risk is often challenging to find, public sources like Bloomberg or Reuters are often not a big help in that.

We also observe a domestic bias to investors’ infrastructure exposure and again, suggest that global diversification can help to mitigate this risk. We believe that both developed and emerging markets should form part of a diversified global infrastructure portfolio.

However, the different risk profile of core infrastructure investments is highly regarded by institutional investors, since it offers the opportunity to diversify the profile of an existing equity portfolio.

Can you say a bit more about the need for global diversification, given issues such as political risks in emerging markets?
As mentioned above, we are concerned that many investors are not sufficiently globally diversified. However, we believe that emerging markets are an important part of an infrastructure portfolio and offer attractive returns, both on an absolute and risk-adjusted basis, as part of a globally diversified portfolio.

Nor do we subscribe to the view that political risks are limited to emerging markets. For example, in 2011 the Spanish government retroactively cut tariffs for the photovoltaic solar projects which it had introduced the previous year, resulting in significant losses for the industry. Although renewable energy producers do not form part of our core infrastructure universe, this example serves as a useful reminder that political and regulatory risks are also present in developed markets.

We would even argue that the political and therewith regulatory risk can be higher in some parts of Europe compared to some emerging market countries which have a strong desire to build up an efficient infrastructure to accommodate further GDP growth.   

Are there new types of infrastructure worth looking at?
When considering infrastructure, most investors would think first of sectors such as utilities, transport and social infrastructure. However, we believe that the attractive characteristics investors seek from core infrastructure can also be accessed through other types of businesses.

For example, the development of new technologies can also act as a growth driver for infrastructure. We forecast continued growth for satellites and broadcasting towers, driven by the growth in 4g technology, mobile data, HDTV and UHDTV.  This growth is likely to further accelerate as greater numbers of households in emerging markets join the global middle class.

We also anticipate acceleration in the privatisation of previously state-owned assets to lead to investment opportunities, as cash-strapped developed governments sell-off assets to reduce public debt, and emerging economies sell assets to raise finance for investment. For example, Brazil is selling airports to help finance a $20 billion investment programme.

Another “hot topic” at the moment for investors is the energy revolution in the US. There is significant political will for the US to become energy independent and to remain a net exporter of fuels over the coming years (a feat it achieved for the first time in 2011), which we believe will drive growth in infrastructure such as pipelines.

However, although we believe this will lead to new investment opportunities we remain cautious from a valuation perspective and again preach the virtues of diversification.

What tends to be the kind of return you are making over a period of say, five years?
Since inception, the [infrastructure] fund has returned 47.7 per cent compared with 25.3 per cent for the MSCI World. This equates to an annualised return of 5.6 per cent compared to just 3.2 per cent for the MSCI World. Furthermore, this has been achieved with lower annualised volatility of 13.5 per cent compared with 17.2 per cent for the MSCI World.

In Switzerland, is there more use of infrastructure assets by wealth management clients than in the UK?
No, in our experience UK investors have been more pro-active in seeking the benefits of infrastructure through investment in UK PFI-focused listed investment companies, although as demand has grown for these assets, valuations have become more demanding and we are seeing more interest in a global approach.