Robust Benchmarks for investors in private infrastructure funds

The infraMetrics fund strategy analyser allows benchmarking the gross and net performance of unlisted infrastructure funds using robust IRR and multiple quartiles that are not biased or skewed by the limitation of manager contributed data. With this tool, thousands of observations of the typical performance of infrastructure funds in hundreds of segments, dozens of geographies and 20 years of vintages are available and updated quarterly with no lag. Simulated results are both congruent with contributed market data at the aggregate level over a long period, and more robust and precise at the vintage year or sub-segment level. With this tool, infrastructure manager selection and fund monitoring are not hindered by unreliable and biased reported fund performance data anymore.

EDHECinfra Research Insights – June 2021

Table of contents: The fair value of investments in unlisted infrastructure equity by Frédéric Blanc-Brude, Abhishek Gupta The volatility of unlisted infrastructure investments by Abhishek Gupta, Frédéric Blanc-Brude, Luna Lu, Amanda Wee The next generation of data for infrastructure investors …

The Volatility of Unlisted Infrastructure Investments

The volatility of infrastructure equity investments is the risk which investors take to receive a reward for holding such assets. Therefore, a robust measure of risk and its drivers is an essential part of the inclusion of infrastructure investments in the portfolio, from strategic asset allocation to risk management and reporting, to manager compensation. However, measuring this risk is difficult because the only available data is often limited and typically report unrealistic total return volatility. In this paper, sponsored by the Long-Term Infrastructure Investor Association (LTIIA), we examine the drivers of the volatility of unlisted infrastructure equity investments, that is also, the reasons why the market prices of such investment can and do vary over time.

The market value of these investments is determined by the combination of expected cash flows (dividends), and a discount rate that combines a term structure of interest rates (the value of time) and a risk premia to compensate investors for the uncertainty of the future payouts. On average, the applicable market discount rate is also a reflection of investors’ expected return.

Using our approach to mark unlisted infrastructure to market, we find that the combination of changes in expected dividends (e.g. following a change in demand for transport services or energy) and of changes in expected returns lead to a level of total return volatility in the 7-12% range. The resulting risk-adjusted returns are realistic while still attractive.

Our analysis uses the EDHECinfra database of unlisted infrastructure equity investment data, which covers hundreds of companies over 20 years and a new robust approach to measure the market value of these investments over time. Thanks to this technology, which predicts actual market prices very precisely, it is possible to measure the variability of unlisted infrastructure equity prices and to describe its fundamental components.

In the paper, we conclude that with adequate and reliable measures of volatility, infrastructure can be addressed from a total portfolio perspective (strategic allocation), from a prudential perspective (e.g. Solvency-II) using methods that apply across asset classes.

The Fair Value of Investments in Unlisted Infrastructure equity

The robustness of better data & advanced methods

As more investors consider allocations to unlisted infrastructure, the need to bring the asset class into the mainstream of risk management, asset allocation and prudential regulation is increasing rapidly. New prudential rules, the Covid-19 pandemic and the increasing visibility of infrastructure in individual retirement products have made the frequent reporting of fair infrastructure valuations all the more urgent.

Measuring the fair market value and therefore the risks of unlisted infrastructure is made more difficult by the paucity of data, Appraisal values are typically stale and do not reflect the market conditions including the latest price of risk applicable to private infrastructure. In the absence of comparable transactions, most unlisted infrastructure investments have effectively been booked at or near their historical cost.

Thanks to recent advances in data collection and asset pricing techniques, it is now possible to estimate the evolution of fair market prices for unlisted infrastructure equity investments. In this note, we report that:

1. Common risk factors explain observable market valuations of unlisted infrastructure companies.
2. The risk premia of these factors can be measured on an ongoing basis, as new transactions table place. Thanks to these risk premia, individual assets that do not trade but are exposed to the same factors can also be priced.
3. This approach predicts transactions prices accurately within 5% of observed transaction prices and produces robust series of returns with no smoothing.

This technology allows measuring the true yield of infrastructure investments, their optimal contribution to multi-asset portfolios, duration and much more.

The choice of performance test benchmark of Superannuation funds’ investments in infrastructure

Submission to the Australian Treasury
SUPPORTING RESEARCH PAPER

In this contribution to the exposure draft consultation on the “Your Future, Your Super” package, we do not comment on the general approach taken by the regulator to benchmark MySuper products but solely focus on the choice of benchmark for the unlisted infrastructure asset class. We propose abandoning the use of listed equity indices to proxy investments made in the unlisted infrastructure equity asset class in the proposed performance tests of MySuper products. We argue that recent advances in data collection and innovation in asset pricing provide a robust and academically validated alternative to the currently proposed benchmark. This listed equity index (the FTSE Developed Core Index) is wholly inadequate because it is not representative of the universe or of the risks to which Superannuation products are exposed when investing in unlisted infrastructure. Instead, the infra300, an index built to be representative of the unlisted infrastructure universe, constitutes a robust and fair alternative that can benefit plan members and managers alike as well as meeting the prudential objectives of the regulator.

Towards a Scientific Approach to ESG for Infrastructure Investors

This paper explores the role of environmental, social and governance (ESG) issues in an investment context, namely how institutional investors should incorporate ESG elements into the financial management of their portfolios. A growing number of investors are pursuing ESG objectives to directly improve environmental and social outcomes, either to satisfy mandates from their members or to conform to the expectations of society. This is increasingly the case even though these organisations have primarily been created to deliver investment outcomes, in particular retirement income. Consequently, investors may wish to exclude certain types of assets from their universe such as coal-fired power plants or projects mired in social controversy. However, regardless of motivation, ESG-related decision making will have a financial impact on portfolio performance. It is this area that we investigate here – the role of ESG within an infrastructure portfolio from a strictly financial standpoint.

Strategic Asset Allocation with Unlisted Infrastructure

In this paper, we show how the traditional indexes used as proxies for unlisted infrastructure fail to represent the qualities of the asset class. Listed infrastructure indices are highly correlated with the wider equity universe – if the asset class behaved in this way, there would be little point in investors buying it as it would not add much in terms of diversification or improving the risk-return profile of the portfolio. Appraisal-based indices are correlated with nothing at all, making them singularly useless for the task in hand – their construction gives results that are so “smooth” that volatility is very low and correlations close to zero, which would signal unrealistically high risk-return rewards that are simply unfeasible in the real world. EDHECinfra’s indices of unlisted infrastructure, on the other hand, such as the infra300®, represent the characteristics of this asset class well, making them the best available proxy for investors to use.

We also show how investors can carry out a simple asset allocation exercise to calculate the optimal allocation they should be making to unlisted infrastructure based on their individual portfolio needs. Using different optimisation techniques and parameters, and considering different investor profiles, our research signals consistent allocations to infrastructure in the region of 10%, many times current levels. Our indices also offer a granularity that can help portfolio design in a way that broader and less well-defined proxies are unlikely to achieve for those seeking to optimise risk-adjusted returns.

Unlisted Infrastructure Performance Contribution, Attribution & Benchmarking

In this case study, we use the EDHECinfra index data to better understand the performance of two peer groups of infrastructure investors: large asset managers and large asset owners.

Leveraging the granularity of the families of EDHECinfra indices and the TICCS® taxonomy of infrastructure investments, a complete analysis of the sources of risk and performance of any infrastructure portfolio can be conducted.

This case study documents how two peer groups of infrastructure investors perform relative to the market, and to each other and why they perform the way they do.

Anatomy of a Cash Cow

This paper examines how infrastructure companies differ from the rest of the economy and in particular whether or not they tend to pay larger and more frequent dividends i.e. whether infrastructure really is a ‘cash cow.’ We find that infrastructure companies exhibit key systematic differences with a sample of ‘matched’ firms that are otherwise comparable in size, leverage, revenue growth or profits. Infrastructure companies are different because they tend to exhibit high asset tangibility, asset illiquidity and asset inflexibility, as well as lower operating leverage, as measured by a range of well-established metrics founds in the academic literature. Finally, we find that infrastructure companies do pay higher (but not more frequent) dividends than other firms and that these higher payout ratios correlate well with the characteristics we have identified. We argue that using these characteristics provides an important robustness check to identify infrastructure assets.

Le coût du capital dans les concessions autoroutières en France – Pour une approche moderne de la réglementation des péages

Une nouvelle publication de recherche de l’EDHEC Infrastructure Institute dont les conclusions sont reprises dans leur intégralité par le rapport de Commission d’enquête du Sénat sur « le contrôle, la régulation et l’évolution des concessions autoroutières » publié le 18 Septembre 2020, met en lumière l’archaïsme de la réglementation des péages dans les concessions d’autoroutes en France, et appelle à ne pas attendre encore 20 ans pour remédier à une situation avant tout préjudiciable aux usagers.

Le rapport de Commission d’enquête du Sénat mais en avant des chiffres publiés par l’Autorité de Régulation des Transport (ART) le 31 Juillet 2020, selon lesquels le rendement global (à la fois historique et attendu) du capital des concessions autoroutières en France serait entre 6.4% et 7.8%. Si on ajuste ces chiffres pour prendre en compte le rendement de la dette sur les bilans des différents concessionnaires, on obtient un rendement moyen des fonds propres entre 27% et 35%. Cette belle performance financière à une contrepartie : la cherté des péages perçus sur les autoroutes concédées françaises.

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