Tim Humphreys, AMP Capital's head of global listed infrastructure
Over the past five years there’s been a noticeable rise in allocations to infrastructure by both institutional and retail investors. This has been driven by a desire from investors for income, inflation hedging, a low correlation with other asset classes, and, where possible, liquidity.
Unlike other asset classes, investors use infrastructure for a variety of different roles in portfolio management. This is evident from the variety of benchmarks that are used for infrastructure investment. However, despite this, there does appear to be a consensus among institutional investors that infrastructure fits somewhere between regular equities and fixed income on the risk-reward spectrum. Generally, investors will look to infrastructure to provide equity-like returns with bond-like risks and serve as a first-order proxy for long-dated liabilities.
Historically, institutional investors obtained exposure to infrastructure by investing directly in infrastructure assets. Now, this exposure can also be obtained by investing in listed infrastructure funds that invest in the shares of publicly listed companies which own and operate infrastructure assets.
Listed or unlisted....making the case for both
Economic theory might suggest it shouldn’t matter to an investor whether an asset is in a listed or an unlisted form. In reality, however, it does matter, as there are material differences between the listed and unlisted sectors of most asset classes.
The notion that listed and unlisted infrastructure are complementary to each other (and cannot simply be substituted for one another) is based on the differences between the two assets. Differences include variants in the investable universe, and over the short-term there are structural differences relating to liquidity and volatility.
When performance is viewed from a short-term perspective using monthly or quarterly data, returns on unlisted assets lag their listed counterparts and have significantly lower volatility and correlations, thereby behaving in a complementary fashion. As the time frame lengthens, risk and returns for listed and unlisted infrastructure tend to converge so they become closer to being substitutes. Nevertheless, there is still enough of a difference in the underlying exposures and the drivers of risk and return to ensure that listed and unlisted assets are never complete substitutes.
Academic studies have shown that by adding listed infrastructure to a mixed asset portfolio, performance can be enhanced. Using the longest time series available and recognised benchmark indices, we found that, overall, combining global listed infrastructure with unlisted infrastructure has a neutral to positive impact on raw performance. We found that only in one year out of the entire observed period, would the addition of listed infrastructure have been a negative factor on absolute performance.* Overall, combining global listed infrastructure with unlisted infrastructure has a neutral to positive impact on performance, with the additional benefits of liquidity and risk diversification.
How much to allocate?
How much an investor chooses to allocate to each component will depend on their tolerance for illiquidity and volatility. Investors with a strong need for liquidity would be best served to place tight constraints on the use of unlisted assets. Time horizons can also influence the degree to which listed and unlisted counterparts might be viewed as substitutes or complements to each other.
Practical applications of listed infrastructure
We believe there are a number of ways listed infrastructure can be applied to portfolios. As the global search for yield continues, defensive asset classes such as fixed income and cash are expected to generate increasingly lower returns. This means that ‘bond proxy’ asset classes such as infrastructure will continue to be supported by ongoing capital flow. We note that some institutions are transferring their exposures from global bonds or global equities to listed infrastructure, either for reducing volatility within equity holdings or to enhance total returns from fixed income portfolios.
This is because infrastructure stocks are traditionally less volatile than general equities and at the same time provide a consistent yield.
Listed infrastructure can also be added to an unlisted infrastructure portfolio to provide a liquid source of long-term income, as well as inflation-hedging properties and low correlations with other asset classes.
Among these include the use of fixed blends (70/30) of global unlisted and global listed infrastructure to enhance risk-adjusted returns and liquidity. Another option is to use an actively managed listed portfolio to provide exposure to asset and industry types not accessible through the unlisted market. The flexibility of global listed infrastructure allows it to play many roles in an overall portfolio, such as diversification, relative value and liquidity. These characteristics are being more and more recognised by sovereign wealth funds and pension funds globally who are increasingly seeing global listed infrastructure as an important component of their overall infrastructure portfolio.
* Consilia Capital, Bloomberg, September 2014. For further details on how performance has been calculated please contact Consilia Capital.
All investing involves risk, and you should consider investment risks before making an investment decision. One of the key risks of investing in infrastructure assets is illiquidity, and it should be noted that this risk still remains even if listed and unlisted infrastructure assets are blended. While every care has been taken in the preparation of this paper, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) and makes no representation or warranty as to the accuracy or completeness of any statement in it including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This paper has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this paper, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This paper is solely for the use of the party to whom it is provided and must not be provided to any other person or entity without the express written consent of AMP Capital.
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