With the support of LTIIA, EDHECinfra recently published a new paper exploring the nature and drivers of the issue of Volatility of Unlisted Infrastructure Equity Investments. We spoke with Thierry Déau, Chairman of LTIIA and CEO of Meridiam, about the paper’s findings and its industry relevance.
1. What was the main reason to sponsor the research paper “The volatility of unlisted infrastructure equity investments”?
We at LTIIA see the collection of better data and the development of analytical tools and performance benchmarks for the investment community as one of our main responsibilities. It is actually listed on our mission statement, as being key to promoting infrastructure as an asset class, an agenda of shared by both the investors’ community and public policy decision-makers.
2. How will the findings of this paper help investors make better-informed investment decisions?
Investing, as we all know, is the art of balancing risk and return, and volatility is a proxy for risk. A commonly accepted driver for investing in Infrastructure is the lower level of risk that it is supposed to offer, due to the essential nature of the services provided which should not vary too much in relation to the ups and downs of the economy. Understanding and managing the volatility of unlisted infrastructure returns is a key dimension of addressing the risks inherent in unlisted infrastructure assets. Therefore, it should be an essential part of an infrastructure fund manager’s job.
But this is where the challenge begins: Unlisted infrastructure risk and performance does not lend itself easily to be measured, due to the lack of frequent transactions and their private nature. And it can be difficult to manage what you cannot measure!
This is a key concern for long-term investors like LTIIA members, often focused on buy-and-hold strategies, and who need to get a better understanding of the drivers of risk and the benchmarks of performance over a long horizon to inform their strategic asset selection and portfolio allocation. Robust risk measurement is also a key component of prudential reporting requirements.
This is where the work performed by EDHECinfra is essential: the analysis presented here uses a unique database of unlisted infrastructure equity investments coupled to a new approach to measuring their fair market value over time: thanks to this methodology which predicts actual market prices accurately, it is possible to measure the variability of unlisted infrastructure equity prices and describe the factors that explain it. the paper finds a higher return volatility than is often perceived: while cash flows are rather stable over time, the long life of infrastructure investments make them sensitive to changes in discount rates, themselves driven by interest rates and risk premia.
We believe this paper on the drivers of unlisted infrastructure volatility provides tools for integration in the risk management and asset-liability management frameworks of investors. Through better-informed decision making, it, therefore, should contribute to scaling up the flow of infrastructure investments.
3. What are other important questions that could be addressed in future LTIIA-sponsored studies?
Since its inception, LTIIA has supported research by academic centres aiming to promote useful and robust research findings about unlisted infrastructure as an asset class. EDHEC Infra Has actually been our preferred academic partner so far in this endeavour. It is a key a 2-way, mutually beneficial cooperation whereby LTIIA helps identify and supports research, engages with its members to share the relevant data with EDHECinfra, who then benefit from preferential conditions to access EDHECinfra research products like the newly released valuation metrics.
Among the following themes being considered for future studies, and to be addressed through internal working groups drawing from our membership resources, are:
- Relations with regulators and the rules of engagement for Investors;
- The impact of Infratech on investors processes and business models; and
- The analysis of the economic recovery/stimulus plans and their impact on Institutional Investors.
Download the paper “The Volatility of Unlisted Infrastructure Investments” here.
with the support of