Market weekly – Infra debt: Investing in the backbone (read or listen)
Listen to the podcast with Karen Azoulay, Head of Infrastructure Debt, or read the article below.
Infrastructure Debt – A Source of Stable Income and Value
Investors continue to seek sources of income in the current context of low yield marked for example by modest returns on stocks and bonds, emphasizing the merits of an allocation to infrastructure debt.
This source of funding for large assets that provide essential services from airport facilities to wastewater treatment has many attractive features that could be summed up in sustainability.
Benefits for investors include high barriers to entry such as the large sums needed to build a power plant and regulatory limits on the number of toll roads in a country.
The prices of infrastructure services are often regulated, which can be seen on the one hand as a brake, but on the other hand, a source of income stability. Price indexation protects to some extent against the risk of inflation. Finally, the technological risk of infrastructures is low.
For investors, infrastructure debt offers a liquidity premium, rewarding them for holding assets that generally cannot be easily sold and that require a long-term investment horizon (see Chart 1). The advantage is that the performance of these assets is generally uncorrelated to that of the equity or bond markets, making an investment in infrastructure debt a valuable source of portfolio diversification.
Chart 1: Yield premiums on European infrastructure debt compared to equivalent rated corporate debt (in bp)
Source: BNP Paribas Asset Management, Bloomberg. Corporate bonds: Average spreads adjusted according to credit rating options for non-financial corporate bonds. European infrastructure debt: average estimated on the basis of a sample of market observations; May 2021
The pandemic – The first real test of the fundamentals
The resilience of infrastructure debt was highlighted during the pandemic, which marked the first major challenge since institutional investors began entering the asset class in 2012/2013. (Previously, this was a market dominated by bank lending.) Our analysis is that infrastructure debt has imposed itself brilliantly.
Volatility in this market has remained low and the impact on prices has been low. Admittedly, there were differences between asset classes: transport was hit the hardest by the decrease in mobility, but with the reopening of economies, toll roads, for example, experienced a rapid recovery so that traffic has returned to pre-crisis levels. However, it may take longer for airports to recover from the blow they have suffered.
Obviously, there were areas that weren’t affected or even benefited, such as utilities and telecommunications.
Telecommunications are among the segments that we see as particularly promising for the future. In all fairness, the rise of telecoms – and if you take a broader perspective, digitization – is a long-term trend already underway before the Covid crisis.
However, the rise of working from home, e-commerce and online entertainment during shutdowns can be seen as the precursor to increased (funding) demand for data mobility and connectivity infrastructure such as networks. fiber, data centers and telecommunications towers.
Likewise, the energy transition should be a major driver of infrastructure demand and this market should benefit from the strong political push in favor of clean energy and, ultimately, a net zero economy. This is not only to renew existing energy infrastructure, but also to finance the costs of utilities phasing out coal-fired power plants.
A more recent trend, accentuated by the health crisis, is the increase in transactions related to health care and other social infrastructure. The areas include specialized care facilities, but also affordable housing and recreational infrastructure such as sports facilities and even amusement parks.
Resilient by nature
The quality of the asset class and its ability to generate stable income regardless of market conditions should ensure that infrastructure debt is well positioned to perform in the years to come. The asset class is poised to benefit from strong favorable winds driving demand for infrastructure for the net zero digital economy of the future.
In addition, the infrastructure market is expected to continue to demand more funding for projects that provide essential services. Given this positive outlook as well as the main fundamental strengths of the asset class, we believe infrastructure debt looks set to remain an attractive investment opportunity.
For an overview of the role that European infrastructure debt can play in the post-Covid era, read European infrastructure debt: Resilient and essential in the post-Covid environment written by Karen Azoulay, Head of Infrastructure Debt and Head of BNP Paribas European Infra Debt Fund, a multi-award winning sustainable development fund.
All opinions expressed herein are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may have different opinions and make different investment decisions for different clients. This document does not constitute investment advice.
The value of investments and the income they generate may go down as well as up and investors may not get back their initial investment. Past performance is no guarantee of future returns.
Investing in emerging markets, or specialized or small sectors is likely to be subject to above average volatility due to a high degree of concentration, greater uncertainty as less information is available , there is less liquidity or due to greater sensitivity to changes in market conditions (social, political and economic conditions).
Some emerging markets offer less security than the majority of international developed markets. For this reason, portfolio transaction, liquidation and custody services on behalf of funds invested in emerging markets may involve higher risk.