Infrastructure investing: what the label doesn’t tell you

Office towers are essential, so are houses and yet neither technically fall within the infrastructure asset class. That distinction, as highlighted on the latest Investment Researcher podcast, gets to the heart of a challenge advisers now face. Recent product innovation has made private infrastructure more accessible, alongside global listed infrastructure. That means more choice for investors, but when two funds are both classified as ‘infrastructure’, what are investors actually investing in?

I put that question to Steven Kempler, Co-founder and Portfolio Manager at Maple-Brown Abbott Global Listed Infrastructure, and Kieran Zubrinich, Head of Transaction Strategy Asia Pacific and Lead Portfolio Manager of the Macquarie Private Infrastructure Fund at Macquarie Asset Management.

Despite rising bond yields, inflation linkage is supportive for infrastructure

Higher real interest rates compress the multiples investors pay for infrastructure assets, but pushing the other way is inflation and a record capital expenditure cycle. The inflation point is key for infrastructure. “There’s multiple forces pulling in different directions but it’s the inflation component that’s doing a lot of the heavy lifting for valuations,” Steven said, “because so many of these assets carry an explicit escalator through a tariff, toll or regulated asset base.”

Kieran added the structural drivers of digitalisation, deglobalisation, demographic change, and electrification to the list of asset class drivers. The last one is a shift from recent history. “We’re coming ouhat shift matters for returns. Demand growth is what drives the capital expenditure cycle and for regulated network owners, that spending converts into a larger earnings base. Kieran points to two sources: the electrification of cars, heating and homes, and the capital going into data centres.

Where each manager draws the line

Steven’s ‘infrastructure test’ is the commercial framework, not the asset type per se. Maple-Brown Abbott invests where revenue is long-term contracted, regulated, or granted under a long-term concession – seeking to avoid competition, commodity exposure and development risks. What fails Steven’s test is also revealing. Ports, rail, integrated utilities, satellites, data centres, with the common thread being competition. “When you’ve got competition, you compete on price and you compete on volume, and those characteristics themselves aren’t naturally aligned with a monopoly asset.”

Kieran’s private-side risk/return spectrum starts in the same place. “Once you start increasing additional elements of risk into the business, then you’re moving from core into core plus,” he said. Core is the familiar end of the spectrum, which Kieran describes as “toll roads and capital city airports and regulated electricity grids.” Core plus keeps those foundations but layers additional risk on top, and value-add takes on more risk again. There’s more competition, thinner margins, and some construction exposure, but if the boundaries are pushed far enough, the investment exits the asset class entirely. However, many private infrastructure managers including Macquarie are prepared to take more Core plus and value-add risk, as believe they can actively manage business plans and risks, earning higher returns above Core.

Data centres are the live test case

Maple-Brown Abbott doesn’t invest in data centres and that’s not because they’re poor assets, but more so because of the resilience of returns.

“Just because something provides an essential service doesn’t mean it’s classified as infrastructure. Office towers we use every day, but they’re not infrastructure. Houses are not infrastructure either.”

Their thesis starts pre-COVID where US asking rents for data centre capacity fell every year from 2017 through 2021, then AI demand arrived and they rose 10-15% a year. That’s a demand and supply market, not a regulated one. Steven also notes the major global infrastructure indices exclude data centres, whereas the REIT indices include them.

Kieran agrees that most data centres can look like property plays. However, to be an infrastructure asset, his team wants 10-to-20-year contracts, investment grade counterparties, and real infrastructure services attached, including substations, water and fibre connectivity. Kieran estimated global hyperscaler capital expenditure at US$725 billion this year, up from US$410 billion two years earlier. “As a share of GDP, that exceeds the Apollo space program and the Manhattan Project,” he said.

Shifting energy dynamics

Steven believes that the narrative around the energy transition has shifted. Decarbonisation policy has slowed as a driver and “what has replaced it has been an increase in energy demand generally.” Despite this, he believes renewable generation returns have been competed away, and the opportunity in listed markets has moved into transmission and distribution, which have been underinvested for over a generation. Steven’s case for regulated networks is about ‘insulation from the cycle’ – “the investment and the capex that ‘s taking place is completely disconnected from economic cycles.”

A take-private is where private capital buys a listed company outright and removes it from the share market. Take-privates of listed infrastructure have been a long-running Australian theme. “You’ve got private capital telling the market that at that point in time, this infrastructure was or is looking cheap,” Steven said. The most recent Australian example is IFM’s tilt at Atlas Arteria, which closed at about 67% ownership at the end of June. He also points out the trade can run the other way, with listed infrastructure trading at a premium to private at different points in the cycle. Kieran reframed the discussion. “It’s not so much that the listed market has mispriced those assets. It’s just you [private infrastructure] can do something in an unlisted environment to drive additional value.”

The takeaway

Infrastructure offers durable earnings, inflation linkage and lower correlation to the standard business cycle. Listed and private infrastructure share more characteristics than the debate suggests, but more importantly, allocations to both asset types can be highly complementary, offering diversification across market cap, subsector and active return drivers. However, not all infrastructure is equal and it’s important to know how a fund or fund manager defines infrastructure, in order to understand where an allocation sits on the risk curve and what this would mean for your client portfolios.

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