Real assets, or infrastructure plays such as firms that operate toll roads and airports, account for about US$4 trillion in global publicly-listed investments. Yet as financially-challenged governments turn to external sources of capital to rebuild aging infrastructure or introduce new transportation links, that figure is expected to see a tenfold increase. Firms could spend about US$49 trillion by 2030, according to a study done by management consultants McKinsey & Co.
“We are seeing significant growth in the investable opportunity set within infrastructure, given that there is a massive need for infrastructure financing and spending around the world in order develop new infrastructure, but also importantly modernize the world’s [aging] infrastructure stock,” says Darren Spencer, San Diego-based client portfolio manager for alternative investments at Russell Investments. The firm manages the bronze-rated, Russell Investments Global Infrastructure Pool, which was launched in January 2013, and has $1.7 billion in assets.
“The projected US$49 trillion is a significant amount of money, whether it’s spent on airports or communications infrastructure such as cell towers and toll roads,” says Spencer, a native of Adelaide, Australia who has worked in the infrastructure field since graduating from Adelaide’s Flinders University with a bachelor of economics in 1994. After working for Aon Consulting in Australia and re-locating to Aon’s Chicago office in 2003, Spencer joined Russell Investments in New York in 2011. “The reality is that many governments around the world, whether they are federal, or provincial, are fiscally challenged. They simply don’t have the resources to spend on financing these investments themselves. We expect to see much more reliance on private sources of capital to help close the financing gap.”
Spencer notes, for example, that the U.S. highway system dates back to the 1950s and ‘60s, with little in way of rebuilding and improvements. Similarly, the U.S. airport network is aging and often lacks so-called “passenger-friendly” terminals. “The reality is that there needs to be a lot more money spent around the world to upgrade existing infrastructure or build it from scratch,” says Spencer. “It could be seen with some companies coming to financial markets to raise capital to finance growth. In other instances, there could be governments that are privatizing assets, or in some cases, listing those in public markets.”
Canadian pension funds and institutional investors are already active in this area, mainly because real assets offer generally consistent cash flows regardless of the economic backdrop. “You need to invest in assets that will help you fund your liabilities that go out 40 or 50 or 60 years. A high-quality infrastructure asset with long-term cash flows is an attractive proposition from the standpoint of many pension funds. They use those investments to drive their desired investment outcomes.”
According to the Pension Investment Association of Canada (PIAC), the typical pension fund in Canada has an average allocation of 19% in infrastructure assets. “Some of the largest pension plans, such as Ontario Teachers, have over 20% of their assets in these strategies,” says Spencer. “But there are still a lot of Canadian institutional investors, whether they are endowments or foundations, or pension funds, that don’t have anywhere near these levels. We see more institutions looking to increase their allocations to real estate, or infrastructure.”
Pension funds and institutional investors are drawn to real assets because they offer less volatility than equity markets and better yields than bonds. “The crux of the matter is that real assets give you a mix of three things: current income, portfolio diversification and attractive long-term growth opportunities.”
Spencer notes that the companies held in Russell Investments Global Infrastructure Pool Series F share three attributes. They provide essential services; they operate in monopoly-like environments and they generate long-term sustainable cash flows. “The cash flows are more resilient relative to a typical Canadian equity or global equity portfolio. What they [the infrastructure firms] do is more defensive in nature. They tend to be more consistent regardless of the economic environment.”
From an investment standpoint, the pool relies on three sub-advisors. About 38% of the assets are managed by Sydney-based Colonial First State Asset Management (Australia) Ltd., which uses a growth-at-a-reasonable-price stock selection methodology. Another 38% is overseen by Chicago-based Nuveen Asset Management LLC, which uses a value-based stock selection process. Another 19% is managed by New York-based Cohen & Steers Capital Management Inc., which has specialized in real assets for many years. Finally, the 5% balance is managed in-house by Russell Investments. “This is for risk-management purposes and helps to adjust exposures by the three sub-advisors.”
On a geographic basis, about 48% is invested in North American firms, 13.3% Asia Pacific ex-Japan, 23% Europe and the U.K., and smaller holdings in Japan and Emerging Markets. From a sector standpoint, about 31% is held in utilities, 18% energy, 16% toll roads, 13% airports and smaller positions, like communications services. The running yield for the pool is about 4-4.5%, before fees.
The pool is highly diversified and has between 160 and 170 holdings. One top-weighted name is Transurban Group, a Melbourne, Australia-based owner and operator of toll roads locally, as well as in Washington, D.C., and Montreal. “They operate toll roads in heavily-populated areas where you are seeing favorable population growth. Transurban is well-positioned to take advantage of that demographic.” A long-term holding, the stock pays a 4.19% dividend.
Another favorite is Aena SME SA, a Spanish state-owned firm that is the world’s largest operator of airports by number of passengers. “About 743 million people went through their airports over the last three years,” says Spencer. “Spain is a very popular country for tourism and Aena is poised to benefit from that.” The stock pays a 4.5% dividend.
Also among the top holdings is Florida-based NextEra Energy Inc. (NEE), the largest U.S. electric utility provider, which relies a great deal on solar and wind energy. “It is recognized as a world leader in clean energy,” says Spencer. “That’s reflected in things like its earnings growth and dividend growth over a long period. They provide essential services to a large portion of the U.S. population.” The stock pays a 5% dividend.
From a performance standpoint, the pool had a 5-year compound annual rate of return of 9.47% (as of April 29). It outperformed the Global Infrastructure Equity category by 3.1%. The compound rate of return includes calendar 2018 when the fund lost 1.36%, which Spencer attributes to negative market sentiment to infrastructure stocks. But looking ahead, Spencer sees continued positive performance.
“We won’t be looking to compound at 12% in the next quarter,” says Spencer, adding that the recommended real assets allocation for investors is 5% to 15%, depending on their risk tolerance. “As long as you have good quality assets, and cash flows, and the dividends keep growing, you will get paid to hold them. That will set the portfolio up for continued positive returns for the balance of the year.”
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