In what seemed like the blink of an eye, the world was inexorably changed by the covid-19 pandemic. Taking a zoom into the world of infrastructure debt investment, there was a brief period of complete interruption. But, on the whole, 2020 saw a promising amount of activity. The crisis did not stop investors from gathering new money or spending it.
“Although 2020 was a year of challenges because of covid, fund deployment was great,” says Patrick Trears, global head of infrastructure debt at AMP Capital. “The key takeaway is people can work remotely and get deals done.”
He reports that his unit deployed nearly $2 billion globally in 2020: “We had 30-40 percent of additional deals in the portfolio, mainly digital infrastructure. Those assets continue to perform well.”
He is even more positive about 2021: “The asset class is certainly gaining more resilience.”
Infrastructure debt has climbed up investors’ priority list as its benefits become more widely understood. Moreover, it provides attractive risk-adjusted returns with strong cash yield, better resilience in market downturns with lower defaults and higher recoveries, as well as a natural hedge against inflation – all of which make it a desirable investment proposition.
Finding one’s niche
In addition, the persistently low interest rate environment and loose monetary policy have increased the appetite for investment in the niche market of infrastructure debt. This is especially true of large institutions and pension funds that look for stable, long-term returns. However, high-net-worth individuals are also warming up to infrastructure, according to certain managers.
Hadley Peer Marshall, managing director in the infrastructure group at Brookfield, says fundraising benefitted in 2020 “because it gave investors an opportunity to witness our existing fund through a pandemic. Our resilient portfolio and good track record were a plus”.
“From an asset class perspective, investors were trying to find ways to position funds in a less volatile asset class like infrastructure, which has predictable cashflows,” she says. “It would be fair to say lots of investors know the asset class.”
Infrastructure debt looks to be weathering the storm better than wider corporates, thereby mirroring the experience in the global financial crisis – according to a UBS report, published in June 2020, which focused on the sub-sector’s relevance in the covid era.
That said, the report added that covid-19 had “placed stress on certain infrastructure companies, with little visibility as to when they can get back to ‘normal.’ Liquidity reserves will need to be replenished, capex programmes restarted and dividends resumed. Equity sponsors may be reluctant to sell or dilute equity in this environment, making debt solutions attractive – especially mezzanine, which can be more flexible to sit alongside existing financing arrangements”.
Overall, infrastructure is expected to perform better than other assets in any situation, as its default rates are usually much lower than others. Industry observers believe that once restrictions are lifted and vaccine administration is more widespread, most infrastructure assets will begin to perform once again. There remains a question mark on airports, though. These have been among the weakest performers thanks to the lockdowns and travel restrictions.
Conversely, one key winner will continue to be digital infrastructure – which has been moving from strength to strength, given the remote nature of office work and virtual schooling.
“It is no surprise that investment has been targeted towards fibre optics and digital sectors,” says Bertrand Loubières, head of infrastructure finance at AXA Investment Managers – Real Assets. “Renewables, utilities and district heating have also seen a fair bit of interest. Going forward, we expect to see quite a lot of opportunities in digital infrastructure and fibre optic, as every country is trying to invest in the technology.”
Key themes of infrastructure debt
The energy sector, ESG and digital infrastructure gathered pace, and post-pandemic strategies came into vogue.
Some of the early losers like toll roads bounced back in the latter half of the year. However, airports are expected to stay weak for an extended period as covid-induced travel restrictions continue to prevail globally.
A low interest rate environment is likely to remain an active detractor for institutional investors, lowering appetite for infrastructure, those interviewed for this article agreed unanimously. In short, 2021 is not pitted to be a runaway year in terms of fundraising or deployment just yet.
Green for go
He adds that renewables too will provide a good source of opportunities as ESG considerations remain at the fore throughout 2021.
“All feed-in-tariff-supported renewables have performed well,” says Loubières. “The more traditional energy-generating sectors have suffered because of a drop in power prices. There is a lot of noise about oil and oil consumption, which has also impacted the energy sector in a negative way. But that has provided opportunities for oil storage companies. The lack of air travel has impacted consumption of jet fuel.”
The UBS report broadly agrees with the fund managers on sector themes, warning though that the “biggest uncertainty is how long it will take to get back to normal and how different this new normal will be from the pre-covid world.
“We believe that the long-term themes of digitalisation and energy transition have only been strengthened by this crisis and will continue to be attractive sectors to be delivered by infrastructure investors. Despite a lower GDP growth trajectory and some changes to usage habits, we also see opportunities in transportation”.
Alessandro Merlo, head of investment in infrastructure debt at UBS Asset Management, agrees on the importance of digital infrastructure: “We continue to see strong performance. We entered the space a couple of years ago and are scouting more opportunities. We are looking at telecom towers and rural broadband as well. The theme is here to stay.”
He adds that UBS is also looking at the energy transition space on the lateral side: battery storage and energy efficiency: “While we will continue to be active on traditional energy/transport, we don’t see an acceleration in 2021.”
Marshall says Brookfield has been incredibly active in renewables. “Part of it is just the drive for a lot of capital to go into the sector because of good performance,” she says. “There will be a stronger push to continue to build out. There is also a lot going into telecoms. Transportation continues to be interesting. We have been active in midstream but thoughtful.”
For IFM, Thompson outlines three trends that she believes will dominate the market: “Low-carbon, energy-transition assets and renewable assets will continue to be attractive due to low-carbon economy targets. An increase in P3s within social and transport sectors is expected, with an important role for private capital to play, particularly in contrast to public funds that are low, especially after the pandemic.
“We also see an acceleration of investment in digital with the growing focus on big data. To date, these have been quasi real estate investments, but now there is much more interest in that area.”
Energy rode a few rollercoasters in 2020 thanks to oscillating oil prices and general uncertainty in the sector.
However, Merlo says there is “a lot of money chasing transactions in the energy sector in general. We are cautious on renewables. We see huge pressure from the political and societal point of view. We also see less pipeline than what we were hoping for. We are looking at the energy transition space on the lateral side – battery storage, energy efficiency.”
Thompson says energy sector performance has been asset-specific: “Contracted assets continued to pay, but less contracted ones have experienced higher impact during this time. This is also a good reminder of how important liquidity is.”
Away from sectors, US infrastructure is hopeful of seeing a fresh dawn as it has begun 2021 with a new president at the helm. “Every administration over the last decade has said infrastructure is priority,” says Trears. “So, we are hopeful of the same from this one as well. The biggest challenge is the bureaucratic process of getting private capital into public projects. I am optimistic that a good infrastructure bill will be passed, as building is equal to recovery.”
Infrastructure spending has always been a useful lever for economic stimulus – both to replace infrastructure and build sustainable new stock. Although the sector has had bipartisan support, the hope is to see this being translated into policies and an infrastructure bill as well.
EU-focused fund managers hope to see a normalisation of trade relationships with the US that is expected to benefit global trade and release the potential that the sector holds.
Overall, what one pandemic teaches us is that more could come. It will therefore be essential for infrastructure debt providers to select the right assets within sub-sectors that can withstand another outbreak and subsequent lockdowns.
The UBS report concludes that if infrastructure remains resilient until the end of this crisis, allocations to the sector will receive further boosts as investors seek stable income from defensive assets that can provide diversification for portfolios.
“Infrastructure assets have always been resilient and de-correlated to the economy,” says Loubières. “Covid-19 was the perfect test during which the asset class displayed resilience. The main impact was seen on airports and toll roads. All other sectors continued to perform well.”
Loubières adds that some assets have been facing difficulties and are trying to prevent default. “Assets are under stress but are coping. We have continued to deploy capital during 2020.”
Low for longer
Fund managers believe that, from a macroeconomic perspective, accommodative monetary policies have helped dealflow and will continue to garner interest in the asset class.
Jessica Thompson, an investment director in the debt team at IFM Investors, says: “Generally, infrastructure debt involves assets which are defensive in nature and tend to perform well in various situations. They are elastic with low probability of default.
“We are pretty optimistic about fundraising in 2021. Although investors remain cautious, how due diligence is conducted is changing as processes have turned virtual. ESG is a prominent fundraising theme as it aligns well with investor strategies around
In terms of fund deployment, any market dislocation is positive for the sector, says Brookfield’s Marshall. “We were able to be very useful and kept quite busy in 2020,” she says. “Low interest rates kept the sector busy and made it a very active year for us. We finished up the first fund and gained a lot of headway in our second fund.”
Marshall says that as the funds spend time looking at opportunities, they look at a lot of macro indicators: “There has been a whole shift in general where transportation investment is concerned and where there is strong value.”
Although lower interest rates will continue to have an impact on deployment, she believes there remains a great need for Brookfield’s fund products.
Trears says one of the big changes was LPs going into a world that was all virtual: “It is still work in progress and it works well with existing LPs, but can be challenging with new ones. We have seen startling fundraising figures at some of the huge funds, but first-time managers will be squeezed.”
Overall, he adds, AMP has continued to see more capital going into the infrastructure asset class: “There is a huge capex requirement across sectors for updating existing infrastructure or building new ones and this will continue.”
Fundraising in focus
Although less boastful than in previous years and despite a world-altering pandemic, infrastructure debt strategies were able to gather $109.8bn during the first nine months of 2020, according to PDI data
The larger prominent infrastructure debt funds had a resilient 2020, notwithstanding the global turmoil. They continued to raise funds and conduct due diligence on prospective investments, fund managers reveal.
Global Infrastructure Partners raised $2.8 billion for two infrastructure debt funds. Brookfield Asset Management closed its second global infrastructure debt fund on $2.7 billion, exceeding the $1.75 billion fundraising target. The vehicle came in at over twice the size of its predecessor, Brookfield Infrastructure Debt Fund, which closed in 2018 with total capital commitments of $885 million.
Geographically, $33.4 billion was raised for investment in North America and $28.9 billion for Europe, PDI data show.