Infrastructure: Through the eye of a needle

John Kimber

Infrastructure is not always infrastructure investment and those hunting for infrastructure opportunities for investment should not judge the book by the cover. The underperformance of certain listed and unlisted infrastructure investment funds has reflected investment in yield related utilities, offshore currency movements and asset allocations which were wide of the mark. Nowhere is active management more necessary than in Infrastructure assets, which after a stellar 2016 are facing rising interest rates, the hangover in valuations from high yield investing while rates were falling, and volatile commodities prices requiring a less than cloudy crystal ball. Infrastructure funds have traditionally required an appetite for large unlisted investments which by definition provide less liquidity and a much longer term investment horizon. We have focused in this report on liquid alternatives in infrastructure and the benchmarks for listed investments in infrastructure which can be readily measured and interpreted. Which offshore benchmarks are appropriate, how have they performed and what can we expect from active management in the year ahead?

Australian domestic investments in infrastructure, Transurban, Macquarie Atlas, Sydney and Auckland Airports, Qube, Aurizon, Duet, Spark, Ausnet and APA cannot escape the tidal influence of international markets or the impact of rising rates, a strong US Dollar, a world still hungry for yield and cash strapped governments trying to spend.

The following domestic infrastructure funds are benchmarked against domestic indexes and are rarely compared with global benchmarks.

The Argo Infrastructure Fund ALI (managed by Cohen and Steers) and the AMP International Infrastructure GLIN stand out with direct exposure to international markets.

The benchmarks may include the following

S and P Global Infrastructure Index (75 companies) 40 pct utilities 40 pct transport 20 pct pipelines

Dow Jones Brookfield Global Infrastructure Index (85 companies) 23 pct transmission 36 pct pipelines, 34 pct transport, 7pct water

UBS Global 50/50 Infrastructure/Utilities (100 companies) 50 pct utilities 50 pct transport

Macquarie Global Infrastructure (241 companies) 91 pct utilities 9 pct transport pipelines and telecoms.

Equally if not more important are the performance of listed infrastructure related Exchange Traded Funds ETFs.

There are no less than 20 ETF infrastructure related investments listed on American markets.

The entire sector peaked in about August/September crashed into mid November and has staged quite a recovery during the Trump rally.

The best performing ETF year to date has been Alerian Energy Infrastructure ENFR which led the entire sector for most of the year and is up 49 per cent over 12 months. The worst performer was Ishares Global Utilities JXI up 5 per cent for the year.

It is always interesting to note how the leading shares in a sector keep performing and the worst performers keep underperforming until they don’t.

Clearly Alerian has been the major beneficiary of the recovery in oil and gas storage and has been helped by its more than 70 per cent exposure to US investments.Its largest holdings include Energy Transfer Partners and Magellan Midstream.

Ishares Global Utilities JXI had almost 100 per cent in utilities and only 60 per cent in the US. It was hammered by a rising US Dollar and unwinding of the high yield trade in utilities.

Another good example of an interest rate/ currency dominated investment is Ishares Infrastructure Global IGF which was 40 per cent US and equally weighted in Energy Industry and Utilities., It managed a 15 per cent improvement in 12 months held back by a rising US Dollar and the impact of expectations about rising rates.

The largest holding in IGF is the Australian listed Transurban.

Over 50 percent of IGF is in electric and pipeline companies and less than 16 percent of it in engineering and construction. Expectations of rising rates and a rising US Dollar have overtaken expectations of rising infrastructure spending by a free spending new Administration.

So if we are looking for a major boost from Trump related infrastructure spending which are the ETFs with the lowest exposure to interest rate risk and the greatest exposure to US Dollars ?

Michael D Underhill is the Chief Investment Officer of Capital Innovations, the Wisconsin based manager of Capital Innovations a leading infrastructure investment manager.

“Increased investment in infrastructure in both the US and China which may benefit companies exposed to non residential construction and rising defense spending” will be two big trends that will matter most in 2017.

“The utility group appears to have little or no valuation cushion against another interest rate move higher”

“Tax reform is an overall net negative for the utility space.”

“We reiterate our Attractive coverage view of pipeline/MLP sector as we enter 2017”

The Alerian products including the Alerian Infrastructure MLP ENFR and the Alerian MLP ETFs fit the criteria for further improvement. Both are 100 per cent US and both are not subject to the same interest rate risk as other infrastructure funds exposed to utilities.

The Materials Selector Sector SPDR XLB and the Powershares Dynamic Building PKB are both 100 per cent US and both have significant exposures to stocks like Vulcan and Martin Marietta in the building supplies sector for infrastructure development.

We are indebted to AltaVista Research publishers of ETF Research Center for the following valuations

ALERIAN MLP AMLP 7.6 pct

MATERIALS SELECT SECTOR SPDR XLB 6.2 pct

ALERIAN ENERGY INFRASTRUCTURE ENFR 4.3 pct

POWERSHARES DYNAMIC BUILDING PKB 4.0 pct

The score is calculated based on the formula

Return on Equity / Price to Book less expenses.

(Return includes consensus forward earnings)

A rating of UNDERWEIGHT is assigned to ETFs with ALTAR Scores above 3.0% but below 6.0%.

Typically, funds in this category consist of stocks trading at relatively expensive valuations and/or having below-average fundamentals.

Average appreciation potential. A rating of NEUTRAL is assigned to ETFs with ALTAR Scores between 6.0% and 8.0%.

This indicates that valuations adequately reflect the fundamentals of stocks in these funds.


John Kimber

Over 30 years in Australia, South Africa, London and the United States John Kimber has worked in investment research, advisory, and corporate finance at Prudential Securities, BT Alex Brown and Ord Minnett. He completed his series seven...

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