Infrastructure: risk and return profiles by sector
Infrastructure offers investors the opportunity to own the utilities and facilities that provide essential services and help drive economic growth and productivity.
With governments around the world increasingly looking to the private sector to fund new infrastructure investment, infrastructure is presenting attractive opportunities for SMSF investors. In this article, we provide an overview of the risk and return characteristics of the various types of infrastructure assets.
Risk and return profiles by sector
Whilst the infrastructure asset class is generally defensive in nature, there are still differences in the risk and return profile of assets across the infrastructure spectrum.
Source; AMP Capital, for illustrative purposes only
Social infrastructure assets, which include hospitals, schools and education infrastructure, tend to generate extremely stable long-term cash flows on the basis that they are provided on an availability basis.
Regulated utilities are businesses which provide essential services such as water supply, sewerage, electricity or other types of energy. These types of utilities tend to be regulated across most jurisdictions because of their essential importance to daily commerce and life and pricing is often set by the regulator. Performance of regulated utilities tends to be relatively resilient, regardless of the ups and downs of the economy, due to the essential nature of the services they provide.
Transport infrastructure includes toll roads, and is classed as a patronage asset. This means its performance depends on how much the service is used. Patronage can be impacted positively and negatively by many factors, so the risk associated with transport infrastructure tends to be higher compared to that of regulated utilities and social infrastructure. For this reason, investors expect a higher relative return for investing in transport infrastructure.
Ports and airports
Ports and airports are predominantly patronage assets. The more that people use them, the better they perform. Ports and airports by their nature are linked to the strength of the economy. Strong trade and a strong economy translate into greater usage and greater revenue. Of course, when the economy falters and contracts, these assets experience contraction in usage and ultimately revenue. So for ports and airports, investors expect a higher return because of this higher patronage risk, and the greater volatility in earnings this implies.
Communications infrastructure, such as telecommunications and towers, mixes availability with patronage in a technology and communications environment where usage patterns can vary. Communications infrastructure is exposed to greater competition than other patronage assets such as ports and airports. Moreover, communications infrastructure dates rapidly compared to other infrastructure because of the pace at which technology develops and changes. For this reason, there are additional risks that investors require greater returns to cover.
Increasing privatisation creates opportunities for SMSF investors
Over the past few decades governments around the world have faced increasing budgetary constraints. With greater knowledge of the world’s capital markets, and realising that policy outcomes can be achieved without owning or operating key infrastructure assets, governments have crystallised some of their massive investments in infrastructure through ongoing privatisation and partnerships with the private sector.
Nowadays, policy development has seen a growing reliance on private sector funds and public markets to fund the core infrastructure that countries need to support and sustain economic growth.