India, along with the rest of South Asia, looks set to remain a key target for the China-backed Asian Infrastructure Investment Bank (AIIB), such is its gaping infrastructure gap.

Dubbing it a "priority market for AIIB”, Rajat Misra, a principal for private-sector operations at the multilateral development bank (MDB), said in an interview last month.

And that's despite the fallout from the default of quasi government institution Infrastructure Leasing and Financial Services (IL&FS). 

“About 29% of our [AIIB’s] investments to date have been into India and we still see it as a very attractive market for an MDB,” he told AsianInvestor.

That equates to about $2.2 billion out of the $7.5 billion it has invested so far in 35 projects across Asia since its establishment in 2016.

In the main, the Beijing-headquartered institution has funded traditional urban redevelopment projects in India including rail, water supply and power transmission assets, Mishra said. It is also an anchor investor in the fund of funds set up by India’s quasi-sovereign wealth fund National Investment and Infrastructure Fund, with investments of up to $200 million.

And this year, AIIB has pledged to approve up to $4 billion for projects across Asia as it attempts to ramp up its infrastructure development drive.

Misra did not say how much of that would go towards Indian projects, but he said AIIB is conscious of putting too many investment eggs in the India basket.

“We would like to avoid concentration risk to any single country. But, at the same time, the requirements of infrastructure and population demands, means that South Asia will continue to account for a substantial portion of our investments for years to come, especially given the supply-demand gap,” he said.

Rajat Misra, AIIB

Indeed, in the list of 25 projects in which it proposes to make investments, 20 projects are based in South Asia. Aside from India, there are projects in Pakistan, Bangladesh, Nepal and Sri Lanka.

A World Bank study back in 2014 estimated that South Asia needed to invest between $1.7 trillion and $2.5 trillion to close its yawning infrastructure gap over the proceeding 10 years.

FLUCTUATING SENTIMENT

Nevertheless, the IL&FS fiasco will prompt institutional investors such as AIIB to assess future projects with a more critical eye.

“When we are looking at other projects in India, we are looking more carefully into where the equity will come from, what the leverage of the holding company is, and so on,” he noted. “But I do not think project fundamentals have changed because of this [issue].”

IL&FS defaulted on its debt last year. Considered a quasi-government institution (because close to 50% of its shareholders are state-owned institutions) with a $15 billion balance sheet, news of the default in September shook markets.

Initially, the debt woes seemed to be restricted at the parent company level, but in recent months a growing number of its 160-plus subsidiaries and joint ventures have started to have problems too. In January, two special purpose vehicles (SPVs) operated by IL&FS also defaulted on their debt obligations.

Inevitably, there is some talk that the IL&FS defaults could dampen enthusiasm for infra investing among institutional investors.

Local insurers, for instance, had been looking at SPV structures for infra financing, noted Sudhakar Shanbhag, chief investment officer at local insurance firm Kotak Mahindra Life Insurance Company.

“However, recent issues being raised with respect to SPVs, where the sponsor is in financial trouble, will add to the risk premium demanded in such financing structures,” he told AsianInvestor.

Kotak Life has about 17% invested in infra and housing, partly driven by local regulations that require insurance firms to hold a minimum of 15% in both sectors to promote economic and social development, Shanbhag said.

And while the government has generally been the main driver of infrastructure investments in India, in recent years a few large global institutions such as Canada Pension Plan Investment Board have waded into the market as new financing vehicles, infrastructure investment trusts, have made their debut.

INVESTING CHALLENGES

One of the big issues facing investors looking to invest in infra projects in emerging markets is that the regulations are continually evolving, which can affect investments already made and impact how new investments are assessed.

“Unexpected changes are always at the back of the minds of investors,” AIIB's Misra said. "This is where an MDB can play a role because with governments as our shareholders, we can work with countries on policy issues and political risks.”

“And we can have a strong voice when speaking to governments, especially when there are many MDBs in a project, to help them understand how any changes can affect their ability to attract private investment [in the future].”

But a bigger challenge is to find bankable infrastructure projects, said one senior executive at a Canadian pension fund that has invested in India and “sees exciting opportunities in emerging markets”.

“There aren’t enough bankable and well-structured deals in the infrastructure space,” she told AsianInvestor in November, but declined to be named. "As the pipeline of good deals increases, more [private] capital will be attracted to this sector.”