Five reasons why investors avoid infrastructure

Absence of infrastructure development pipelines

Investors contributing to the WBEF report Bridging the gap: Private investment in future infrastructure provision cited the lack of ‘investible’ project pipelines as one of the key constraints within the infrastructure market. There are a lot of investors chasing what is essentially a very limited ‘product offering’ currently. This has culminated in a hardening in yields over the course of the last two years, leading many investors to question the ‘value’ attainable in the current global infrastructure market. Given the increased appetite for green infrastructure investment opportunities, the relative absence of active project pipelines in many countries continues to serve as the major constraint to private investment. To remedy this situation, governments need to demonstrate sustained commitment to infrastructure delivery in the form of tangible outcomes and to mobilise development pipelines beyond design and planning stages, in order to create ‘shovel-ready’ investable projects. This research identified political risk and lack of ‘active’ commitment to project delivery as the biggest single barrier to private investment.

Technological innovation

As well as providing new opportunities, technological innovation has the propensity to curtail the economic life of existing assets, with early obsolescence becoming an increasingly important risk consideration. From an investor viewpoint, it would be remiss not to acknowledge the potential ‘downside’ risks associated with technological innovation. This research found that many deals transacting in the market over the last five years have failed to adequately account for the risks posed by technological innovation. Even in cases where the threat of asset obsolescence has been acknowledged, the risk of obsolescence is rarely appropriately priced into deals. This is testament, perhaps, to the current frenzied state of the market and the pressures being placed on fund managers to get deals completed. 

Constrained supply of ‘investable projects’, increased competition and lack of sector expertise

The wealth of new infrastructure funds launched in the last five years has afforded a much more expansive range of routes to market for prospective investors. It is noteworthy, however, that not all the newly launched funds have appointed managers with a proven track record in the infrastructure sector. It is these funds that are struggling the most to place money. In essence, whilst  these managers have a credible track record in managing private equity funds, infrastructure funds are much more deal focused, with successful fund managers commanding higher fees as a consequence of their networks, which  facilitate access to deals and contribute to outperformance. It may be inferred that, such is the pressure to secure assets, many fund managers without the established infrastructure networks have ‘overpaid’ for deals that have transacted over the last 18 months in order to assemble their portfolios. A number of fund managers interviewed accepted that in some instances, investors with longer time horizons are able to adopt a long-term view on the assets they invest in. However, over paying for assets will put considerable pressure on some funds to deliver their projected returns, particularly those managing closed ended funds that have a defined time window – typically  10-13 years – in which to acquire, add value and ultimately liquidate their assets. 

Performance persistence

Interview-based evidence collated in the course of this investigation inferred that there was an element of ‘first mover advantage’ when it came to investing in the real estate sector post-Global Financial Crisis. Those that entered the market early realised significant returns on their investment. Given the influx of investors now entering the asset class and the competition for assets, maintaining levels of performance in the future will prove to be more challenging – particularly for investors unwilling to take on the risks of new build construction. Interviews with investors highlighted that there has been a marked hardening of yields, and the competition for brownfield income-producing assets resulted in pronounced price hikes, with many assets currently transacting well in excess of market valuations. The secondary market for infrastructure projects, that is the trading of existing assets between investors, is continuing to mature. However, with many investors adopting long-term perspectives, transaction levels in the secondary infrastructure market remain constrained. Investors have highlighted a noticeable increase in the capital values of assets transacting within the secondary market over the last five years. The growing intensity of competition led many experienced investors to question the ‘value’ available in the secondary market. Indeed, a number of investors have capitalised on strong market conditions to liquidate assets and reinvest the profits into greenfield projects.

Political risk and lack of enabling environment

Investment continues to be inhibited by political uncertainty and bureaucracy, disjointed decision making as well as procurement inefficiencies. Some national governments, most notably in the US, have stated their unfettered commitment to infrastructure provision. However, these ‘words’ and ‘manifestos’ must be swiftly translated into actions. By initiating viable project pipelines, governments can demonstrate the political will to move beyond declarations and towards creating projects and assets which facilitate investor participation. This issue of misalignment was prominent across the interviews with investors and prospective investors. The consensus amongst investors was that national governments needed to do more to involve the private sector in the delivery of key strategic or high impact projects. As highlighted by RICS in 2016, the ability of the state to gain benefit and capture value from private sector property investment generated on the back of public sector infrastructure provision could serve as a significant income stream to facilitate the provision of strategic projects which are otherwise not financially viable. Further work is needed to unpack the land value uplift resulting from major infrastructure investment, and how the uplifts can be most effectively harnessed (either as capital receipts or as an income base) to enable capital market borrowing for infrastructure.