[Editor’s Note: Do not read the following article as a recommendation to invest in infrastructure ETFs. Like all investments, infrastructure has risks. The sector is sensitive to interest rate rises and some infrastructure companies have high levels of debt. ETFs that track an underlying infrastructure index can provide a negative return if that index falls. Unhedged ETFs have an additional layer of currency risk. Do further research of your own or talk to a licensed financial adviser before acting on themes in this article.]

Infrastructure investing is coming into greater focus amid persistent high inflation, global spending on infrastructure assets, and disruption happening across sectors such as energy, mobility, and digitisation.

For many years, ownership of infrastructure assets has been dominated by institutional investors. The fund houses, insurers and pension funds usually have longstanding relationships with infrastructure asset owners and the internal resources to run a fine comb over these assets. 

The advent of infrastructure-focused Exchange Traded Funds (ETFs) globally and in Australia is paving the way for retail investors to invest in the infrastructure sector and diversify their portfolios. 

In BlackRock’s opinion, infrastructure investing potentially allows investors to navigate today’s economic turbulence, while positioning for future growth opportunities.

What are Infrastructure assets?

Infrastructure assets touch each one of us. Every day, we either directly or indirectly use infrastructure assets such as roads, railways, airports, bridges, water lines, sewage, energy grids, and telecommunications and satellites. The build, upkeep and upgrade of these assets calls for trillions of dollars in annual investment. These are either built by governments or in partnership with the sector. 

These assets typically are allowed to charge a user fee such as a road toll to make them viable and attractive for both debt and equity investors.  

The Global Listed Infrastructure Organisation (GLIO) estimates that US$3.4 trillion of investment annually is needed based on current trends to support the global economy. The biggest requirement is seen in energy, followed by road transport. [1] GLIO counts regulated utilities, transportation infrastructure, communications infrastructure, and energy transportation among its members.

Infrastructure and inflation 

Typically, infrastructure tends to straddle value-oriented sectors such as utilities, industrials and materials where valuations are driven by near-term cash flows and stability over the long term. 

Some infrastructure assets also have additional defences against inflation, such as:

1. 10- to 20-year contracts that reset their pricing in parallel with changes in inflation.
   
2. Long-term fixed interest rate debt that erodes in relative cost as inflation rises (i.e. their interest payments remain the same, even as the dollar loses its value)
3. Tendency to pay large dividend payments — dividends often increase during inflationary periods.

Because of these features, infrastructure stocks have historically outperformed global stocks, bonds and real estate in inflationary environments like the one we find ourselves in today, as the chart below shows. 

Source: BlackRock

Note: Past performance is not indicative of future results. You cannot invest directly in an unmanaged index. High inflation periods are when monthly year-over-year U.S. CPI  > 2.5% . Returns represent the avg. of annualized returns across these periods (using end of month values). Source: Asset classes represented by S&P (Global Infrastructure: S&P Global Infrastructure Total Return Index), MSCI (Global Stocks: MSCI ACWI Net Total Return; Global Real Estate: MSCI World Real Estate Net Total Return Index), Bloomberg (Global IG Bonds: Bloomberg Global Aggregate Index); Bloomberg data as of 31/5/23 (monthly data since 2/2007).

Chart description: Column chart of average of annualized returns during periods of high inflation for global infrastructure stocks, global stocks, global IG bonds, and global real estate. The chart shows how global infrastructure stocks historically outperformed the broad market and other asset classes during periods of high inflation, on average.

Long-term outlook

There are several factors that support the long-term outlook for infrastructure, in BlackRock’s opinion. Global supply chains are re-orienting in response to unprecedented changes, such as input shortages, logistical bottlenecks, and geopolitical crises which are challenging the world’s multi-decade reliance on globalisation.

Building new infrastructure can facilitate and accelerate these efforts. Improving roads, airports, seaports and waterways is essential to ensuring seamless supply chains, reshoring and an amelioration of today’s pressures. 

In November 2021, US President Joe Biden signed the Infrastructure Investment and Jobs Act [2] into law, cementing the single largest infrastructure investment in U.S. history, allocating US$1.2 trillion of spending, including US$550 billion of new spending, over the next decade.

New opportunities are emerging in infrastructure.  These include next-generation investments, such as electric-vehicle (EV) charging networks, battery storage, hydrogen distribution, and smart motorway and rail technology, 5G telecom networks, and data centres. 

These assets exhibit many of the characteristics that infrastructure investors look for: real assets, protected market positions, and the potential to generate stable cash yields. Obviously, some assets are more evolved than others and the newer ones carry higher risk. 

Investors are moving. Allocations to externally managed infrastructure by institutional investors have grown from around US$300 billion to more than US$700 billion over the six years to 2021. [3]

Using ETFs

ETFs allow all types of investors to enter and own infrastructure assets with the added liquidity and transparency associated with publicly traded stocks. 

ETFs also offer investors greater diversity than simply buying individual stocks because they pool together different assets. This can reduce the risk in their portfolios and maximise their potential returns through diversifying their investments. 

ETFs are also transparent because they show the underlying investments. ETFs provide access to markets across the globe and are inherently very liquid, allowing investors to turn an investment into cash quickly, unlike a direct investment into an infrastructure asset. 

The management fees for most ETFs typically tend to be much lower than mutual funds, which means more money can be put towards a potential return in BlackRock’s opinion. [4] 

Risks

There are some risks with infrastructure ETFs. One is the currency risk if the ETF invests in global assets. This can be partly negated by hedged ETFs. Then there is the tax risk that international taxes can impact returns. 

Finally, ETFs act similarly to stocks so they can be bought or sold anytime during market hours and, given that they are traded throughout the day, price changes are more visible. However, individual risk or a stock-specific risk can be reduced by investing in a well-diversified portfolio, which an ETF usually offers. 

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Note: Past performance is not indicative of future results

[1] Source: Global listed Infrastructure Organisation outlook hub as at 23 June, 2023

[2] Source: Infrastructure Investment and Jobs Act 2021/22

[3] Source: McKinsey’s Global Growth Cube database

[4] Source: BlackRock, Explaining ETFs

Investing involves risk, including possible loss of principal.

International investing involves risks, including risks related to foreign currency, limited liquidity, less government regulation and the possibility of substantial volatility due to adverse political, economic or other developments. These risks often are heightened for investments in emerging/ developing markets or in concentrations of single countries.

Funds that concentrate investments in specific industries, sectors, markets or asset classes may underperform or be more volatile than other industries, sectors, markets or asset classes than the general securities market.

This material represents an assessment of the market environment as of the date indicated; is subject to change; and is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding the funds or any issuer or security in particular.

The strategies discussed are strictly for illustrative and educational purposes and are not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. There is no guarantee that any strategies discussed will be effective.