In the latest installment of Head of Real Estate and chartered surveyor Simon Burgess' overview of infrastructure investing, he examines the factors commonly affecting pricing and value while identifying what impact the coronavirus (COVID-19) pandemic may have on market activity.
The impact of COVID-19 on infrastructure activity
In my two-part infrastructure series in 2019, I talked to the effect of an increasing global population creating ever greater demand for infrastructure and the current trajectory of apparent under-investment. The outbreak of coronavirus during 2020 will constrain supply further as governments' priorities shift and planned infrastructure projects are put on hold. Prior to the pandemic, doubt had been expressed that there was sufficient capacity in the construction industry to fulfil these planned projects. The implications of the pandemic have now applied a new pressure on the supply side as the construction industry grinds to a halt and contracts to a level that will be difficult to rebuild quickly. This will give the valuers and analysts even more to think about when assessing existing investment opportunities, and will inevitably push up values. However, one of infrastructure investing's most attractive factors is delivering relatively stable returns over the long term and weathering shorter term shocks.
Infrastructure: the attractive alternative
In the 12 months to June 2018, The California Public Employees' Retirement System (CalPERS) reported a 20.6% return from its infrastructure portfolio, a timely demonstration of why the asset class has continued to be of such interest to investors.
In search of transparency
While the number of specialist managers focused on infrastructure investment assets is relatively concentrated to a small group, the appeal to institutional investors is on the rise and as such, there is a demand for greater transparency in pricing and valuations generally. The G20 has also responded with an express objective to develop a global infrastructure asset class and a number of core benchmarks such as industrial activity, geography, corporate governance and interest-rate risk.
However, given the eclectic range of underlying investments, the challenge for infrastructure funds revolves around the perennial issue of identifying, valuing or assessing and then monitoring actual risks of each individual investment. This can be even more challenging when assets are held in unlisted or private market structures akin to private equity real estate funds.
While most infrastructure assets never come to the market, for those that do, each investment can have a unique market position, management, customer base, regulators and array of real estate assets - such characteristics throw up challenges for boards approving the underlying valuations. Boards also need to consider conflicts of interest between managers and valuers, appropriateness of discount rates applied to discounted cashflow models and other assumptions that may be used. A level of objectivity is essential, similar to that within larger funds or leveraged funds that are subject to the Alternative Investment Fund Managers Directive (AIFMD).
Some will argue that these private markets offer greater returns in part because of their opaque nature, but it's still challenging for illiquid infrastructure assets where the information needed to asses the risks is not always available. Both investors and managers therefore have to make their own estimates of the risks and price them accordingly. Great reliance is also placed on professional valuers to assess the intricacies of each investment in forming their opinion of market value.
In part two of this article, we will examine the benchmarks used to identify different infrastructure types and how they influence valuations.
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