When it comes to infrastructure investing, there is a large disconnect between those who need the capital and those who have the capital.
Everyone agrees that the infrastructure financing gap is huge. Depending on your sources, between $50 trillion and $57 trillion is estimated to be needed worldwide between now and 2030 for new and refurbished infrastructure projects. This is more than the value of all the current existing stock. Additional estimates add $45 trillion to that figure for projects needed to mitigate the effects of climate change during the next 40 years. This means we need to spend more each year for the next 20 years than we have in the previous two decades put together.
Everyone also agrees that we need new sources of capital because banks and governments don’t have anywhere near enough.
Where the agreement begins to fall apart is in where those new sources of capital will come from. Government officials have looked around and have begun coveting the resources of institutional investors. They see huge piles of cash, and investors who typically are looking for income-producing, stable, long-term investments. On paper, it appears to be a match made in heaven. But appearances can be deceiving, and the devil is in the details.
Investors see lots of problems when it comes to investing in infrastructure — a lack of long-term data, an almost complete lack of liquidity, lack of transparency and the lack of a benchmark. But the main sticking point is no one wants to take on demand risk. The greatest need is in greenfield development. But investors don’t want to do that — nor do many managers — because there is no real way to confidently estimate the demand for the project when it is finally finished several years down the road.
At the Euromoney/OECD Infrastructure Summit in Paris last month, a slow tally of the audience showed that not a single person in attendance was investing in greenfield infrastructure.
Peter Johnston, executive director, infrastructure, at Hastings Funds Management, declared, “Greenfields aren’t for us.”
Nor are they for one of the largest infrastructure investors in Canada, the Ontario Teachers Pension Plan (OTPP), which has more than $10 billion in infrastructure AUM. Darrin Pickett, OTPP portfolio manager, noted, “Greenfield development is not in our mandate because we don’t want to take the risk. The need for infrastructure is in the greenfield space, but investors don’t want that. The solution would be for governments to build the projects, then sell them to investors and recycle that capital back into new infrastructure.”
But if governments could afford to build it, don’t you think they would? No mayor wants to look out the window of his city hall office and see cars plunging off a collapsing bridge.
Although municipalities don’t want to take on demand risk any more than investors do, they might be willing to do it because it’s the type of thing governments should do. But they need to get the financing for that first project. Local institutional investors would seem to be the perfect lender-of-choice because their constituents would benefit not only from the improved infrastructure, but possibly from the jobs the development would entail, and certainly from the returns that would fund their eventual pensions.
The Dutch government and its two largest pension funds announced just such a deal last year. The pension funds, ABP (managed by APG) and PfZW (managed by PGGM), agreed to lend €125 million ($170 million) for the country’s N33 highway project, which will link Assen and Zuidbroek. In return, the funds will receive an inflation-linked payment. It was intended as a pilot project, with more to follow.
Last week, however, the Dutch finance minister Jeroen Dijsselbloem announced that although the government is pleased with the results of the partnership, the N33 project would be the only one financed in this way. The problem? The government thinks inflation will go up and doesn’t want to include inflation-linked funding in its future deals. The pension schemes also think inflation will go up, and they therefore do want to include inflation-linked payments.
Having this inflation-linkage is crucial to get pension funds on board because pension schemes are often responsible for inflation-linked payments to their pensioners.
In a press release, Henk Brouwer, the president of ABP, is quoted as saying, “We can only meet the call to invest in Dutch infrastructure if the conditions are attractive to the fund and its participants. By rejecting the possibility of inflation compensation, the minister strongly limited the attractiveness of investing by pension funds in the Netherlands.”
The Dutch government and pension funds have a history of working together. If even they can’t agree on an investment structure, how are others going to do it?
In the United States, a consortium comprising the states of California, Oregon and Washington and the Canadian province of British Columbia is proposing a regional solution through the West Coast Infrastructure Exchange. Still in its infancy, the idea is to work together to encourage public-private partnerships (PPPs) across borders.
Will it work? Hard to tell. The history of PPPs isn’t pretty. Some high-profile failures, such as the London underground PPP, which failed within six years and saw the infrastructure revert to public hands, have made everyone cautious.
Infrastructure investing is so frustrating because it just seems so clear that it should work for all parties — so why isn’t it? The need is so obvious; why can’t we find the right solution?
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Sheila Hopkins is managing director – Europe and infrastructure with Institutional Real Estate, Inc.
