(pictured: Gerald Stack)
by David Chaplin
Listed infrastructure is currently trading at a 15-30 per cent discount to comparable unlisted assets, according to Magellan global head of infrastructure, Gerald Stack. It’s suffering from too much money but there is a disconnect between listed and unlisted assets.
Stack said that while academic theory suggests listed infrastructure should trade at a premium, the weight of global pension fund investments pouring into unlisted infrastructure assets over the last few years had pushed valuations up. “There’s a lot of pension fund money chasing illiquid assets,” he said.
However, Stack said, the listed infrastructure space wasn’t as crowded, offering savvy investors plenty of opportunities to generate solid returns.
Infrastructure, he said, should be viewed as an all-weather asset class, providing long-term 5 per cent real returns (or nominal 7-8 per cent) “no matter what”.
But hitting such reliable rates of return year-in, year-out depends largely on “tightly” defining the infrastructure sector, Stack said.
He said the broad definition of infrastructure refers to assets that are “essential for the efficient functioning of a community”, which implies a predictable demand and revenue stream.
Magellan, though, adds a further filter requiring that the earnings of target stocks “are not sensitive to competition, commodity price movements or sovereign risk”.
In New Zealand last week ahead of Magellan’s listing of its infrastructure fund on the ASX, Stack said the manager’s two-tiered definition reduces its potential investment universe down from 230 stocks – with a market cap of close to NZ$2 trillion – to about 140.
The Magellan definition cuts out between 40-70 per cent of companies included in common infrastructure benchmarks, with the group’s own index containing approximately 90 companies.
For instance, he said the sovereign risk filter cuts out all Chinese stocks, despite the plethora of otherwise good infrastructure assets in China.
Likewise, Magellan won’t invest in power generation companies, given the wide swings in electricity spot prices.
“In Australia, for example, the price per mega-watt hour can go from $10 to $10,000 – so earnings are not reliable,” Stack said.
Magellan also splits its infrastructure portfolio between regulated utilities such as water and power (transmission and distribution rather than generation or retail) and non-utilities, which includes airports, toll roads etc.
Stack said the performance differential between the two components can be significant with utilities typically grinding out annual returns of about 9 per cent while non-utility stocks can return between 20-40 per cent.
Utilities make up about 60 per cent of the Magellan infrastructure universe, he said.
Overall, though, Stack said investors should see listed infrastructure as a low-risk, low-return sector that also offers significant downside protection.
But, again, how managers define infrastructure can affect the protective features of the investment, he said.
According to a Magellan analysis, during the GFC, the standard global infrastructure index closely tracked the MSCI while the manager’s core strategy outperformed both by a wide margin.
In a serious market slide, infrastructure should capture about 60 per cent of the price fall while remaining unaffected by a “normal” share market dip, Stack said.
He said during the recent Brexit blip, infrastructure indices rose in the US and UK, held steady in Australia and NZ, but dropped in Europe.
The almost AU$1 billion Magellan Infrastructure Fund has achieved an annual return of 14.61 per cent over the last five years compared to the benchmark 10 per cent, according to a Morningstar Australia report released last week.
“The strategy’s long term performance relative to peers is highly creditable,” the Morningstar report says. “Nonetheless, the annual management fee could be lower given inclusion of a performance fee.”
Morningstar says global listed infrastructure “should be used as a supplementary allocation within a broader, diversified portfolio”.
“It may be considered as a niche defensive equity exposure, or within an allocation to listed property,” the report says.
The Australian-domiciled global equities specialist, Magellan, reported total funds under management (FUM) of over AU$42 billion as at the end of May, of which about AU$12.5 billion was classed as retail (it is understood more than $1 billion has been sourced from NZ investors).
Magellan also recorded institutional FUM of over AU$30 billion including close to AU$4.6 billion from Australian and NZ investors.
David Chaplin is publisher of Investment News NZ