Infrastructure's place in Investments

What is infrastructure?

Infrastructure is investments in physical assets that provide essential services to the community. They can fall under several categories such as Utilities (e.g. power plants), Transportation (e.g. bridges), Real Estate (Commercial properties), Telecommunications (e.g. fibre optic networks), Renewable Energy (e.g. wind farms) and Social Infrastructure (e.g. schools). These assets are essential for the functioning of a society and economy.

Infrastructure assets generally exhibit certain characteristics which make them appealing to investors seeking long term, stable returns. In recent years, infrastructure has been garnering even more attention among investors due to its ability to hedge inflation. Aside from the inherent inflation linkages, other attractive attributes of the asset class include:

Long term cash generative nature
Assets provide essential services, which are resilient to the business cycle (e.g., people need water and students attend school regardless of economic conditions)
Monopolistic supply characteristics and high barriers to entry (e.g., difficult to build competing railway lines or marine ports)
Unique return drivers determined by regulation, concession agreements, contracts or local economic activity

Performance
These unique characteristics have enabled infrastructure to produce stable, uncorrelated performance versus traditional asset classes which allows investors to diversify their sources of return. According to the MSCI Global Quarterly Private Infrastructure Index, a benchmark that represents the global private infrastructure landscape, private infrastructure has returned 10.4% since inception of the index (to 30 September 2023) consistently outperforming global equity returns on a cumulative basis, source WTW. (See chart below).

Market outlook for Infrastructure assets
Numerous supranational organisations such as the World Bank and the World Economic Forum have outlined the need for significant infrastructure investment in economies across the world. As many governments find themselves with increasing budgetary deficits and national debt, private infrastructure companies are expected to fill the growing gap between infrastructure investment supply and demand. This presents growth opportunities for listed infrastructure companies. Listed infrastructure companies are those that own and operate essential infrastructure assets and are publicly traded on stock exchanges, e.g. the National Grid. By investing in listed infrastructure, an investor can own a portion of these companies, enjoy stable and predictable income through dividends, and have the flexibility to trade shares whenever they choose. Listed infrastructure is less complex, has fewer governance limitations, is more liquid and has lower fees than its unlisted counterpart.

Themes like renewable energy, clean transportation and artificial intelligence are also integral to the global infrastructure sector. These growing themes, coupled with generous dividends, offer defensive diversification benefits for investment portfolios. However, as with any investment, listed infrastructure is not without its risks. An investor must carefully consider the risks and costs, including changes in government policies, operational disruptions, high financing costs, economic slowdowns, environmental regulations, political actions, and currency fluctuations, all of which can impact the profitability and stability of infrastructure investments.

The Noise

The Euro fell to its lowest level in two years amidst concerns about Trump’s trade tariffs and rising geopolitical tensions. If the US president-elect follows through with his proposed tariffs, it could severely impact the EU economy, stagnating growth and potentially prompting the European Central Bank to cut interest rates more aggressively, further devaluing the euro. The euro, already on a downward trajectory since the US election in early November, has seen its decline accelerate due to weak business activity data from the eurozone. The composite PMI dropped from 50 to 48.1, signalling a slowdown or contraction in economic activity. The outlook for the euro remains uncertain, with further weakness likely if these economic challenges persist.
Cryptocurrency continues to soar, with Bitcoin surpassing $99,000 on Thursday and aiming to become the first cryptocurrency to reach a six-figure valuation above $100,000. The digital asset has more than doubled in value since the start of the year, with a recent 40% surge following the US election on November 5th, pushing it to consecutive new highs. One notable firm, MicroStrategy, raised $7 billion to invest in Bitcoin, capitalizing on the market's renewed enthusiasm. This influx of investment has played a key role in pushing Bitcoin to its record high this month. However, despite this impressive rally, the crypto market remains volatile, leaving many investors uncertain about whether this upward momentum will continue or eventually face a sharp decline.
Recent data shows that CEOs increasingly view addressing ESG (Environmental, Social, and Governance) issues as crucial for both the progress and performance of their businesses. A report from KPMG reveals that two-thirds of Canadian CEOs have adopted a strategic ESG approach in their organizations. They identified three main factors driving this commitment: regulatory requirements, the potential for substantial sustainable returns, and operational resilience. Over half (55%) of Canadian CEOs believe it is possible to address all ESG priorities simultaneously, reflecting a growing commitment to sustainability. Despite political uncertainties, including the leadership of President Trump in the US, it’s clear that ESG is here to stay in the world of business.

The Nuance

UK inflation rose to 2.3% in October, coming in above expectations of 2.2% as well as marking the highest rate of inflation in six months. This represents a notable increase from September's figure of 1.7%. While still far below the 11.8% peak seen in October two years ago, the 0.6% month-on-month rise signals that inflationary pressures are still present.

The primary driver behind the inflation increase was a 10% rise in the British energy price cap, which pushed up household costs. However, this was partially offset by a fall in prices in the recreation and culture sectors. As a result, while consumers will likely feel the inflationary burden most through higher energy bills, services like gym memberships and UK staycations may seem relatively more affordable.

Looking ahead, the Bank of England (BoE) has revised its forecast, anticipating higher growth and inflation, partly influenced by the recent budget. However, the government’s increase in National Insurance employer contributions adds some uncertainty, as businesses are likely to pass on the additional costs to consumers, potentially driving up prices further.

UK economic data is presenting a mixed picture. Business activity has slowed, with the PMI composite index dropping to 49.9 in November from 51.8 in October. However, consumer confidence has rebounded, climbing 3 points to -18 after a dip ahead of the Budget. While the business sector faces challenges, stronger consumer sentiment could help stabilize the broader economy. The BoE’s next interest rate decision will partially depend on whether business weakness continues and if consumer confidence leads to sustained growth.

In summary, the Bank of England is likely to maintain a slow downward path toward its 2% inflation target. Though a rate cut in December was unlikely, markets had priced in a 16% chance of a rate cut by the end of the year prior to the inflation data, now this has dropped to just 9%.

Disclaimer

All investment views are presented for information only and are not a personal recommendation to buy or sell. Past performance is not a reliable indicator of future returns, investing involves risk and the value of investments, and the income from them, may fall as well as rise and are not guaranteed. Investors may not get back the original amount invested.

Any views expressed are based on information received from a variety of sources which we believe to be reliable, but are not guaranteed as to accuracy or completeness by atomos. Any expressions of opinion are subject to change without notice.