Bertrand Cliquet is a Portfolio Manager and Analyst on the Global Listed Infrastructure and Global Equity Franchise teams with Lazard Asset Management in London. Before joining Lazard in 2004, he worked for Goldman Sachs International as a Research Analyst, and in the Mergers and Acquisitions group at Deutsche Bank. He also did an internship at Enskilda Securities in Paris. He holds a business degree from HEC in Paris, with a major in Finance and is a CFA® charter holder. Here he takes us through the benefits of investing in infrastructure equities, how they have performed historically and some common misconceptions about the sector.
What are the benefits of investing in infrastructure equities relative to other sectors?
Infrastructure equities provide a compelling diversification benefit, provided the assets have unique characteristics that will distinguish them clearly from an average company. This is why we coined the term “Preferred Infrastructure” that gathers a restricted number of infrastructure assets. They will possess long-lived, highly predictable cash flows that have the added benefit of a strong inflation protection. We believe that this is an essential element for the consistency of the risk metrics of the portfolio, markedly lower than equities.
Relative to global equities and other sectors, how have infrastructure equities performed historically?
Preferred infrastructure companies have historically provided a risk profile substantially lower than equities, with beta of 0.5-0.6 very consistently (beta is a measure of a stock’s volatility in relation to the market). Return-wise, the key feature is the alpha opportunities that have been available, irrespective of the market environment (alpha is a measure of the active return on an investment).
There are some misconceptions about the infrastructure space. What does a good infrastructure company look like in reality? How does your “preferred” universe differentiate from the wider infrastructure universe?
Infrastructure companies will have different sensitivity to interest rates. However, it is usually a misconception that they are bond proxys (appearing safer or more stable). On the one hand, Preferred Infrastructure companies with a strong inflation-linked tariff mechanism will be protected in a rising bond yield environment if bond yields increase due to a spike in inflation. On the other hand, if bond yields increase as a result of an increase in the real bond yield, there are a number of adjustment mechanisms, especially for regulated utilities. Indeed, regulators fulfilling their duty have to strike the right balance between consumers and capital providers. As a result, essential services companies that operate in highly regulated assets will see their returns fall in a falling bond yield environment (for example UK Water companies) or rising in a rising interest rate environment (for example Italy’s National Grid of electricity, Terna, during the 2011 Italian sovereign crisis). As such, most of them are more akin to floating rate notes than bond proxys.
However, some pockets of the infrastructure sector have not seen returns fall with bond yields. This is particularly the case for US regulated utilities. The market has interpreted this lag in the return adjustment as a windfall, assuming long term benefit to shareholders, rather than an ultimate benefit to consumers. The consequence is that for those stocks, the market has reflected meaningfully higher valuation levels, leaving them highly bond yield sensitive.
What environment does infrastructure perform best in?
Moderate markets and bear markets are environments where relative performance should be best. We expect infrastructure to lag sector specific driven bull markets (dot com bubble for instance) and in general sharply rising markets.
Considering how late we are in the cycle, what are the biggest challenges facing some of your top conviction names in this space?
The sector is likely to benefit from very strong fundamental support as our infrastructure ages (post WW2 infrastructure renewal – or Victorian water pipes in the UK) and we transform into a greener society with huge changes ranging from wind farm and other renewables connection to a power grid, self-generation of electricity by water companies to power waste water treatment plants or waste to energy facilities. This is likely to underpin long term returns consistent with our inflation + 5% target, the market being subject to its usual more erratic movements.
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