Investors are increasingly focused on the big numbers surrounding the remarkable capitalisations of Amazon (US$628 billion), Apple (US$909 billion) and Google (US$783 billion), and the meteoric rise of bitcoin. But did you know that the world needs to invest US$78 trillion in infrastructure over the next two decades, according to estimates from PwC? It’s a number that dwarfs big tech market caps.

Many investors know that infrastructure generates strong and reliable cash flow streams, yet fewer investors appreciate the sheer scope and dynamism of infrastructure and the range of opportunities that it presents to investors.

There are 5 key benefits that infrastructure delivers to portfolios which, when taken together, show the asset class not only helps deliver stable income and diversification, but also offers the prospect of capital growth. That powerful combination of income and growth is becoming increasingly vital, particularly for retirees seeking protection against the rising cost of living.

Defensive characteristics

Infrastructure’s defensive characteristics mean that it offers the potential for consistent returns through market cycles.  This is because infrastructure assets often provide services that are essential to the day-to-day operation of our society – things like the provision of water, electricity and gas. Other examples of essential infrastructure assets include school and hospital facilities, as well as roads and airports. Due to the nature of the essential services they provide, these types of assets are often less influenced by economic factors than many other businesses. In addition, infrastructure assets often enjoy the protection of monopolies, or operate in markets where the barriers to entry are high, meaning they are often free from the competitive pressures faced by many more traditional companies.

Inflation hedge

Many infrastructure companies have revenues which are linked to inflation.  This means infrastructure can provide a hedge against inflation, which gives investors – particularly retirees – protection against rising costs of living. Sure, inflation in developed countries is relatively benign, but as AMP Capital’s chief economist, Shane Oliver, has noted, inflation is likely to pick up in the US “as spare capacity is declining, wages growth is picking up and as higher commodity prices feed through”.

Portfolio diversification

One of the significant benefits that infrastructure offers investors is diversification, because infrastructure typically isn’t correlated to traditional asset classes such as stocks and bonds. This means including infrastructure in a portfolio increases portfolio diversification, and is an effective means of reducing overall portfolio risk.

Attractive yields relative to bonds and cash

Infrastructure also delivers attractive and consistent income yields to portfolios. This is because infrastructure asset revenues are often underpinned by regulation or by long-term contracts with highly creditworthy counterparties (which can include governments), this means there is a high level of certainty with regards to future revenues.

# Current dividend yield for shares, distribution/net rental yields for property and duration matched bond yield for bonds. ^ Includes forward points. * With franking credits added in. Source: AMP Capital. As at 30 November 2017.

As you can see in the table above (from this article), the yields for unlisted infrastructure compare favourably to bonds and global equities, but particularly favourably to cash which is currently yielding just 2.7 per cent, compared with a 4.8 per cent yield for unlisted infrastructure.

Strong long-term growth potential

But it is the long-term growth outlook for infrastructure that is perhaps least understood. The world has an ongoing requirement for infrastructure. Lots of it. As mentioned, the world will need to invest US$78 trillion in infrastructure over the next two decades, according to PwC.

This massive demand suggests that infrastructure will continue to deliver strong investment opportunities for investors over the medium to long term.

Infrastructure investment also creates a virtuous circle: when we invest in infrastructure it helps stimulate sustainable long-term economic growth. That growth, in turn, creates a fresh need for further infrastructure. Ultimately, infrastructure promotes higher living standards as it fosters economic growth and creates jobs.

A combination that creates an exciting investment

Infrastructure delivers powerful income, diversification and defensive benefits to portfolios. But the asset class is not just a yield and portfolio protection story. It’s also a growth story.

The infrastructure market is expected to grow significantly as a proportion of investable assets in global capital markets during the next 15 years, and the asset class is increasingly being recognised as an important component of a well-diversified portfolio.

John Julian
Fund Manager – AMP Capital Core Infrastructure Fund