David Holder: My name is David Holder, Senior Analyst at Morningstar. I'm here today to talk with Nick Britton, Head of Intermediary Communications at The Association of Investment Companies.
Hello, Nick.
Nick Britton: Hi, David.
Holder: Nick, we're here to talk about infrastructure. So, could you quickly or briefly explain about what infrastructure means within an investment context?
Britton: Well, infrastructure is a very broad asset class. It encompasses everything from the pipes in the ground like a gas transmission network or water network to airports, to social infrastructure such as hospitals, medical centres, libraries. But basically the easiest way to think about it is everything we really rely as an economy and as a society for our daily lives.
Holder: So, an extremely broad set of investment potential. We often hear about the parlous state of UK infrastructure. How much more do we have to spend or invest on infrastructure and where are those funds going to come from?
Britton: So, the Infrastructure and Projects Authority actually estimates we need to spend £600 billion on UK infrastructure over the next 10 years. And of that they are expecting about half to come from the private sector. So, that obviously raises quite lot of questions about exactly how we're going to fund it, what mechanisms are going to be used to allow private investors to access this asset class in a way that's both good value for money for the tax payer but also attractive for investors, and that's the real challenge, I think for the next few years.
Holder: OK. And what are the benefits, the investment characteristics of infrastructure?
Britton: Sure. Well, infrastructure has low correlation with other asset classes, although it depends a little bit on how you access it. But that certainly can be one of the benefits, low correlations, predictable revenue streams, cash flows which can convert into predictable dividends for investors, attractive levels of income compared to equities and bonds in an environment where obviously yields are being squeezed on conventional asset classes. So, it's got several attractions really for investors. But the important thing is that you don't necessarily access all of those benefits by investing in anything that's got the word infrastructure in the name of the products.
Holder: Sounds very promising for investors, but of course there is always risk with investment. So, what would you highlight in terms of the risk that investors should be aware of when considering an infrastructure investment?
Britton: So, because this is an asset class that is really built on predictable revenue streams, what you've really got to ask is what are the risks of those revenue streams becoming not quite so predictable. And so, you have elements of political risk. If you are looking at infrastructure which is, for example, contracts with the government or underpinned by regulation, what is the risk of political changes or regulatory changes that are going to adversely impact that investment.
Then at the other end of the scale, where you've got infrastructure, which is more exposed to the market or more exposed to demand, then obviously you've got to look at what factors could influence demand for the asset or you know in the case of market based infrastructure investing competition and the normal market forces we think about. So, it really depends on what kind of infrastructure you are investing in and how you're accessing that asset.
Holder: OK. So, those – the nature of the infrastructure investment at the sort of micro level, but for investors, how are they – what are the options available to them?
Britton: So, you basically got two options, you've got open-ended infrastructure funds and also ETFs which invests in quoted companies across the world with an infrastructure flavor. So, these will be trading businesses that might be utilities, for example, or companies that construct and operate and maintain infrastructure.
You've then got the closed-ended side, you've got – because of the closed-ended nature of an investment company, infrastructure investment companies that can access a much broader range of assets and contracts, so they could invest directly into an infrastructure project, for example, the contract to build and maintain a road for a 30-year period or something like that. And they can access more directly those predictable revenue stream that I'm talking about. So, you can do it in either way, but you have to be aware of the different risks there and the different return profile you are likely to get.
Holder: And with regard specifically to closed-ended investment, you know these trusts do not tend to trade around NAV, so they can move quite aggressively at a premium to a discount. So, that's an additional risk also that investors should generally be aware of.
Britton: That's absolutely right and you know these things are investing in unquoted assets and the valuation of an unquoted asset would always be an educated guess. And so, when you have these big premiums or big discounts, that's in effect the market saying, we don't really agree with the valuation that's in the latest annual report. And so, although the discounts and premiums move around quite a lot, it's really the income stream from these infrastructure investment companies that is key to keep an eye on, and they should of course be considered long-term investments because of the potential for share price volatility.
Holder: Absolutely. Thank you, very much. Very interesting.
Britton: Thank you.
Holder: My name is David Holder. Thank you for watching. Good bye.
This article is part of Morningstar's special report on What the Experts Say
