Infrastructure investment groups in Australia are revelling in a cheap, readily available debt, whilst investors are enjoying the fulsome pipeline of deals driven by increased governmental incentives, funding and rising asset prices. Standard & Poor’s, in a recent report on the Australian market, went so far as to describe the conditions as “probably the best they’ve been for years, thanks largely to strong competition among banks and a greater willingness by yield-hungry bond investors to lend”.
It’s quite a turnaround. The infrastructure sector was particularly badly hit by the financial crisis. In particular, the collapse of the monoline insurance sector, which had traditionally provided AAA-rated bond funding to the sector, led to a significant decline in liquidity. In Australia, the collapse of several high profile projects also dented investor confidence.
Yet confidence is returning to the sector globally, and in Australia in particular, thanks, S&P believes, to the stable long-term returns on offer. That rising confidence has translated to the infrastructure debt sector, in the form of greater liquidity, longer maturities, and cheaper rates, S&P’s report argues.
Borrowers are also increasingly looking to diversify the range of funding sources to minimise refinancing risk, the report adds.
“Historically, Australia’s major banks have dominated funding for local infrastructure businesses needing money to refinance maturing debt or fund projects and acquisitions. Banks are likely to remain the main funding source, at least for the time being. More and more infrastructure treasurers in Australia are turning to both local and offshore capital markets to broaden their debt footprint and to avoid an overreliance on bank loan funding,” it said.
In Australia, a new paradigm is emerging whereby banks fund the initial ramp-up and construction stages of a project, after which longer-term financing sources from capital markets – whether local or offshore – is sought to cash out the banks.
Recent bond offerings have been heavily oversubscribed, not least that used to back the development of Sydney Airport. In that instance, the airport’s operator tapped the European bond market rather than the domestic Australian one. That’s because, in S&P’s words, “Australia does not have a deep and liquid corporate bond market”.
That’s frustrating, because the conditions should facilitate one. There are a host of borrowers eager to tap local markets in order to diversify their funding sources and eliminate the need for cross-currency hedging, and there plenty of domestic institutional investors – for example the country’s large superannuation fund community – for whom long-term, stable financing products are a natural fit.
In part, there’s a level of mistrust about the local bond market. Borrowers, according to S&P, believe it is too unreliable and unpredictable for term investing. Even so, the ratings agency notes there have been more local deals closing with maturities of seven years proving popular, particularly with companies carrying a BBB rating. International bond markets offer greater depth and certainty however, together with longer terms, and seem likely to prove a more popular financing route for the foreseeable future.
When it comes to loan financing, Australian banks remain the most popular option. Bank-derived loans offer compelling pricing, despite the shorter maturities of between three and five years, S&P said.
“Like other corporates, Australian infrastructure companies (including utilities), many of which seem to value the ease of execution and cost of funding more than the tenor available elsewhere, say it’s very difficult to compete with the size and scale of the local bank-loan market for convenience and pricing,” S&P said in the report.
Bank loans have become more price-competitive recently, it added, partly because of slower credit growth, the return to Australia of European banks keen to win back business, and more aggressive Japanese banks.
Going down the bank loan route is also the path of least resistance for many infrastructure borrowers, given the standardised loan documentation and ready-made pool of investors post-syndication.
But banks alone won’t be able to service the needs of the infrastructure investment community, and nor will the global bond markets be sufficient to supplement the traditional lending market, S&P believes.
That opens the door for private debt groups and other institutional lenders to contribute. There’s already an established ecosystem of non-bank lenders, including the likes of Hastings, AMP Capital, IFM Investors and Westbourne Capital.
There’s also the further development of the domestic bond market to consider. On the latter point, S&P suggests some major steps need to be taken to facilitate its growth: “More investor education to explain the complexities of this market and to restore confidence in this class of instruments; greater transparency in areas such as forecasts, modelling, and mandates; better standardisation of debt documents; more co-ordination between market players; and a more supportive regulatory framework.”