Has the direct `Canadian’ model delivered compared to investors who chose to access infrastructure via fund managers? What happened to investors heavily exposed to airports after Covid-19 and does it still pay to invest in conventional merchant power?
As they ramp up their exposure to the infrastructure asset class, investors face important strategic choices and portfolio construction questions: How should they select their exposures to different segments of the infrastructure universe? What risks and performance can they expect and what strategic choices do they need to make to improve their portfolios?
On March 23rd in Berlin, BCG and EDHECinfra will launch a new report describing the performance of 16 peer groups of infrastructure investors, from Global Asset Managers and Asset Owners to US Pension Funds or Superannuation funds.
Infrastructure Strategies 2022 is not another report about fund raising or dry powder. Instead, it provides a new perspective on the investment styles and risk-adjusted performance of different groups of infrastructure investors. The report also includes a spotlight on an investment theme expected to play an increasingly role in the strategies of infrastructure investors: this year, we focus on Data infrastructure.
This is the first global study of infrastructure investment and performance by peer group style. Over the past two decades, pension funds and insurance companies, boutique specialist managers and larger multi-asset managers have all entered the infrastructure asset class with different priorities and focus: some investors have tended to invest more in renewable energy projects while others have become more exposed to transport companies or regulated utilities.
To draw up sixteen infrastructure investors peer groups we examined the portfolio allocations through 2021 of 359 infrastructure equity and bond holders using the TICCS® taxonomy of infrastructure companies and documented their TICCS exposures or tilts. These peer groups capture different types of investors, investment objectives, geographies and regulatory or prudential frameworks. Infrastructure investor peer group style benchmarks use the latest average TICCS allocations to the different segments of the infrastructure universe of each group to compute their risk and total returns and rank them based on their risk-adjusted returns. While investors only achieve higher returns by taking on more risk, there is a range of realised returns for different peer groups for a given level of volatility. This is because investors within these peer groups have gained exposure to different segments of the infrastructure universe over time with different weights and each segment has performed differently.
You can find out who tops the rankings of peer groups in 4 different categories (Global, Home base, Asset Owners, Asset Managers) when the report is launched in Berlin at the Global Infrastructure Summit on March 23rd.
Attendees to the Global Infrastructure Summit can register for the launch event in Berlin here.
Meanwhile, several stylised facts emerge from our findings:
- The 2021 post-covid recovery was strong, leading to high returns and a bull market average Sharpe ratio of 1. This recovery benefited some peer groups more than others and transport and energy investors were able to par some of the losses they had incurred in previous years.
- Renewable energy is everywhere in investors’ portfolios. With the notable exception of Superannuation investors who have put significantly less weight on renewable power investments, all infrastructure investor styles now include a quarter to a third of renewable energy projects.
- Power and gas still pay. After transport, the main beneficiary of the 2021 recovery, especially since wind levels were lower than usual, was gas and conventional power generation. Those peer groups that stayed more exposed to these sectors benefited while peer groups that have already mostly divested conventional power generation from their portfolios did not.
- While infrastructure investment used to be equated with airport and utilities acquisitions, the contracted infrastructure projects is now the basic building block of almost every infrastructure investor’s portfolio and represent between 50 and 70% of infrastructure AUM across all peer groups. Still, infrastructure Corporates remain part of the infrastructure mix and all peer group are also exposed to them, albeit in varying amounts.
- Like renewables, Data infrastructure is the infrastructure of the future. However, unlike wind and solar projects it has yet to grow into a significant part of the style of the various Peer Groups.
Further readings by Tim
The Private Investment Premium
An interesting research piece put out by Robert Crimes and included in the recent Global Listed Infrastructure Organisation (GLIO) newsletter examines the “gap” between private and public infrastructure valuations. The analysis concludes that unlisted infrastructure is bought and sold at much higher multiples than listed infrastructure, and that if you’re looking for infrastructure exposure, it may be better to invest in listed infrastructure. This is an interesting topic and yes, I know I did cover this last month, but I have a new angle.
Recently, I have come across some literature (I don’t want to say old, because I don’t want to feel old, but it’s almost 20 years ago) that looks at a similar issue with real estate transaction prices. In essence the conclusion from Fisher, Gatzlaff, Geltner, & Haurin (2003) is that unlisted markets are not the same as listed markets, so assuming the same valuation dynamics is flawed.
The rationale for this is interesting and important to understand infraMetrics indices. Firstly, we need to understand asset liquidity, that is the ability to buy and sell an asset quickly and for a price as close to the last sale price. Fisher et al (2003) state that public stock exchanges, with their standardised lot sizes, pricing mechanisms etc. evolved to preserve liquidity for investors. If there is demand for liquidity, the price of the stock traded can adjust to ensure that market clears either going up or down.
Private markets, they point out, don’t have these dynamics. Instead, time to sell as well as transaction prices are required to determine liquidity. In private markets it is well-known that investors flip or transact more in ‘hot’ markets than in cold ones. For example, I the case of private infrastructure, Andonov, Kraussl, & Rauh (2021) find that infrastructure funds tend to flip their winning assets more into hot markets than the cold ones, realising gains (and fees, probably).
So that’s all a long explanation for what?
Well, in public markets, despite every investor being different, they are able to buy and sell assets easily (in most cases) and can always take a haircut on the price if they need liquidity. But private market investors tend not to. Instead, they first determine an expected sale value for a private asset and search for an appropriate buyer or seller, which takes time. They typically only sell if the offered price is above their reserve price. Otherwise, they tend to keep holding the asset.
This leads to difficulties in comparing observed public and private valuations. Private assets that we observe a price for, are assets for which the buyer has offered more than the seller’s reserve price. We don’t observe transaction for assets where the buyer has offered a price lower than the sellers reserve. So, observed transactions alone are biased upwards.
Thus, you cannot just compare unlisted valuation multiples to listed companies and say “I’ll take listed, it’s cheaper”. It’s a much more complex story. Later this year, I’ll see if we can create a ‘liquidity-adjusted’ infrastructure asset index, which will help examine this topic more.
In the meantime, if you take a look at infraMetrics indices, they are designed to represent the valuations of entire market, whether assets trade or not. We include valuations for assets that no one would sell or buy at that time because we can price these assets based on their exposures to risk factors and their market prices. As a result, we show valuation metrics that are not upward biased and, when comparing like for like assets are much closer to the public markets.
This analysis published in Infrastructure Investor last year remains valid today. On certain metrics, listed infrastructure is more expensive than unlisted.
Andonov, A., Kraussl, R., & Rauh, J. (2021). Institutional Investors and Infrastructure Investing. The Review of Financial Studies, 34(8), 3880-3934.
Fisher, J., Gatzlaff, D., Geltner, D., & Haurin, D. (2003). Controlling for the Impact of Variable Liquidity in Commercial Real Estate Price Indices. Real Estate Economics, 31(2), 269-303.
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ESG Rules Scrapbook by Nishtha
- In Singapore
o To meet Singapore’s ambition to transition to a net-zero carbon nation, carbon tax levels are being progressively raised from 2024. To maintain a transparent, fair, and consistent price signal across the economy, the carbon tax is applied uniformly to all sectors including energy-intensive and trade-exposed sectors, without exemption. More information available here.
o From 2019-to 2023 the carbon tax level is set at S$5/tCO2e, to provide a transitional period to give emitters time to adjust. The carbon tax will be raised to $25/tCO2e in 2024 and 2025, and $45/tCO2e in 2026 and 2027, with a view to reaching $50-80/tCO2e by 2030.
o In addition, as announced at Budget 2022, companies may also surrender high-quality international carbon credits to offset up to 5% of their taxable emissions from 2024. This will cushion the impact for companies that are able to source for credible carbon credits in a cost-effective manner. This will also help to create local demand for high-quality carbon credits and catalyze the development of well-functioning and regulated carbon markets.
o A transition framework will also be introduced to give existing emissions-intensive trade-exposed (EITE) companies more time to adjust to a low-carbon economy. To help maintain business competitiveness in the near term and mitigate the risk of carbon leakage, existing facilities in EITE sectors will receive transitory allowances for part of their emissions.
o Consultations with relevant stakeholders on the support measures, transition framework, and the framework for the use of carbon credits are currently ongoing. Details will be shared in 2023, ahead of the implementation of the revised carbon tax framework in 2024
- In Europe
o On 2 February 2022, the Commission approved in principle a Complementary Climate Delegated Act. This Delegated Act sets out the technical screening criteria for climate change mitigation and climate change adaptation for additional economic activities in the energy sectors which were not included in the Taxonomy Climate Delegated Act, in particular in the natural gas and nuclear energy sectors. This draft was approved in principle by the European Commission on 2 February 2022 and it will be formally adopted on 1 January 2023 (the currently set compliance timeline)
o Read more about our coverage of this issue and the cost of capital of brown gas here.
o The EU Social Taxonomy has overhauled parts of its proposed structure in an attempt to make it more compatible with the existing green counterpart, according to a leaked copy of its upcoming report (EU advisors shake up Social Taxonomy proposal to better align with green counterpart | Responsible Investor ). The previous structure of the taxonomy has been “collapsed” into a single structure with three objectives: providing decent work (including value chain workers), adequate living standards and wellbeing for end-users, and inclusive and sustainable communities and societies. However, there is a key difference between the pair’s structures. While the green taxonomy is centered around six environmental objectives, the Platform suggests including sub-objectives spelling out different aspects of its three main social objectives. Just like the green counterpart, activities will be deemed in line with the social taxonomy if they make a “substantial contribution” to these objectives. The exact requirements of the update will be clearer when it is published.
o EBA publishes binding standards on Pillar 3 disclosures on ESG risks: The European Banking Authority (EBA) the final mandatory Implementing technical standards (ITS) on prudential (Pillar 3) disclosure rules that will require ~150 largest banks in the EU to begin reporting on their ESG risks and sustainable finance strategy, starting from 2024. In line with the requirements laid down in the Capital Requirements Regulation (CRR), the draft ITS set out comparable quantitative disclosures on climate-change-related transition and physical risks, including information on exposures towards carbon-related assets and assets subject to chronic and acute climate change events. They also include quantitative disclosures on institutions’ mitigating actions supporting their counterparties in the transition to a carbon-neutral economy and in the adaptation to climate change. In addition, they include KPIs on institutions’ assets financing activities that are environmentally sustainable according to the EU taxonomy (GAR and BTAR), such as those consistent with the European Green Deal and the Paris agreement goals. Finally, the final draft ITS provides qualitative information on how institutions are embedding ESG considerations in their governance, business model, strategy, and risk management framework.
o The European Securities and Markets Authority (ESMA), the EU’s securities markets regulator:
- The Call for Evidenceon Environmental, Social, and Governance (ESG) ratings deadline is looming (11 March 2022). The aim is to gather information on the market structure for ESG rating providers in the European Union (EU). The purpose is to develop a picture of the size, structure, resourcing, revenues, and product offerings of the different ESG rating providers operating in the EU. The call is mainly addressed to three target groups: ESG rating providers, users of ESG ratings, and entities subject to rating assessment of ESG rating providers. This call for Evidence is intended to complement a separate consultation to be launched by the European Commission (EC), which will seek stakeholder views on the use of ESG ratings by market participants and the functioning and dynamics of the market.
- On 10th February, ESMA published their Sustainable Finance Roadmap 2022-2024 which sets priority areas and related actions for the European Securities and Markets Authority (ESMA) in sustainable finance for the period 2022 – 2024. The objectives of the priority areas are tackling greenwashing and promoting transparency, building capacities, and monitoring, assessing, and analyzing ESG markets and risks It identifies those sectors where ESG-related risks are considered to have the greatest potential impact on investors protection, orderly markets, and financial stability. These are:
- Investment management
- Investment services
- Issuers’ disclosure and governance
- Ratings (credit ratings and ESG ratings)
- Trading and post-trading and
- Financial innovation
Initiatives and Frameworks
- The ESG Data Convergence Project, which seeks to standardize ESG metrics and provide a mechanism for comparative reporting for the private market industry, has announced a milestone commitment of over 100 leading general partners (GPs) and limited partners (LPs) from across the globe to its partnership. The collaboration now represents $8.7 trillion USD in AUM and over 1,400 underlying portfolio companies. The group is working to streamline the industry’s historically fragmented approach to collecting and reporting ESG data, enabling greater transparency and more comparable portfolio information for LPs. With increased portfolio company representation, the partnership will continue to expand its collection of industry representative data which is expected to increase the quality, availability, and comparability of ESG data in private markets. (Private Equity Industry’s First-Ever ESG Data Convergence Project Announces Milestone Commitment of Over 100 LPs and GPs | Pictet)