“We’ve been raising money hand over fist in both structures,” one anonymous fund manager tells Infrastructure Investor, when asked to compare the merits of open-ended and closed-ended funds. But, he adds, some investors are “completely averse to one or the other”.
If you were hoping a consensus had emerged among investors on which structure works best for infrastructure, you will be disappointed. In 2018, there is still a clear geographic split on this: in Australia, open-ended funds are king, whereas in Europe and North America, closed-ended vehicles are the preferred option, with very few open-ended funds operating globally at any significant scale (though Blackstone’s $40 billion vehicle, currently being raised, might change that).
Why is this the case? Surely investors with long-term outlooks, such as pension funds and insurance companies, should have roughly the same desired outcomes when it comes to what they want from their infrastructure investments?
IFM Investors was one of the first managers to create an open-ended infrastructure fund. Its A$12 billion ($8.6 billion; €7.4 billion) IFM Australian Infrastructure Fund was established 23 years ago and is the largest infrastructure fund in the country, while the A$16 billion Global Infrastructure Fund was established in 2004.
“We believe that for core infrastructure, with steady cashflows and long-term assets, an open-ended structure is appropriate,” says Cara Elsley, director, infrastructure, at IFM Investors.
IFM’s Australia head of infrastructure, Michael Hanna, uses the firm’s investment in Brisbane Airport to illustrate this point, where a A$1.3 billion runway development is under construction and due to open in by 2020.
“That project kicked off in 2004-05, so it’s a 16-year process to deliver that runway. In a closed-end fund, that probably would never have happened,” he says. “It’s a good example of where an open-ended fund – and the open-ended mindset and approach from an asset-management perspective – is essential for these types of assets.”
Hanna points out, too, that the average concession length remaining in IFM’s portfolio is more than 80 years – a time frame that certainly seems intuitively more suited to an open-ended structure than a shorter closed vehicle.
Michael Cummings, head of infrastructure funds, Australia and New Zealand, at AMP Capital echoes this view, with his organisation operating several open- and closed-ended vehicles. He says that assets he classes as core or “super-core PPPs”, such as availability toll roads or regulated utilities, are the “right fit” for open-ended funds.
“That’s because your ability to really drive value by active asset management is significantly limited in those core assets, so it’s around long-term yield generation,” he says.
On the flipside, Cummings says that AMP Capital’s primary global focus now is on what he calls “value-add”, where the investment-management team can use more intense asset management to improve a given asset.
“It obviously comes with more risk, but we believe higher return. That type of intense asset management is better done, we believe, over shorter periods, and therefore best fitting in a closed-ended structure,” he says.
The type of asset should be a vital determinant in whether an open-ended structure is best, these Australian managers agree, perhaps partly explaining why open-ended structures are far more common in Australia.
The reason for this, argues Cummings, is the differing background to infrastructure investment in the respective geographies. In Australia, infrastructure was initially classed closer to property, where open-ended vehicles are commonplace. In Europe and North America, investors took a private-equity approach to begin with, so closed-ended structures prevail.
“The default position for an Australian superannuation fund here is that infrastructure is low-risk, high-yield – so they would then normally tend to want to go into an open-ended structure. But more globally we’re seeing that because of that private-equity background, while North American and European investors may be happy with some exposure to core, they also look to get wider diversification through core-plus [assets] and that’s through a closed-ended structure,” Cummings says.
Elsley adds that Australian investors are particularly tuned in to the alignment between open-ended structures and core infrastructure.
“As different markets have opened up to consider infrastructure, it has been an educational process. I think the investor appetite for open-ended funds has certainly grown globally over that period, and we’ve developed a lot of strong relationships in Europe, the US and Asia as they better understand what the open-ended structure can offer to core infrastructure investors,” she says.
Investors from new markets may also have other restrictions placed upon them that determine how they invest, regardless of how well the manager pitches a certain kind of structure to them. Cummings says that AMP Capital has noticed this with investors from South Korea and Japan – both relatively new to infrastructure as an asset class.
“Some of them can only invest in closed-end, some can only invest in open-end – it depends if they’re an insurance company or a superannuation fund, say, and what the specific regulation is in each country. That’s an evolving feature,” he says.
With history a big factor in the demand for open-ended vehicles, Cummings also believes there will eventually be a realignment in how investors split between open- and closed-ended funds, changing from a geographical split to one based around the type of assets in a portfolio.
“There shouldn’t really be any difference between Australian and overseas investors as to their appetite for open- or closed-ended,” Cummings says. “We think it’ll eventually be less driven by geography, although that’ll remain for quite some time, and become more driven by asset class.”
RISING RATES, RISING WORRIES?
A potential point of concern for open-ended funds comes in a rising-interest-rate environment, which the industry looks set to experience in the near future. This is critical for open-ended funds, in which investor returns are based on ongoing valuations of held assets, rather than asset sales before a set date.
Elsley says IFM’s independent valuations process is “very robust” and its valuers will typically not take the spot rate in the current environment when assessing what the risk-free rate benchmark should be.
“That means the fund is exposed to fewer extremes in times like the low-interest-rate environment we’re in at the moment, or a low cash-return environment. We haven’t seen the upswing of that yet, and we’re likely to see the downswing on the reverse of that,” Elsley says.
Cummings says rising interests are “definitely a concern” that AMP is hearing from its investors with regard to open-ended funds, but more in relation to core assets bought at the top of the cycle. “If you buy an asset that’s core at the top of the cycle, and get it wrong, there are very few levers you’ve got left to pull to get value,” he says
For the moment, though, historical geographical preferences – not interest rates – remain the biggest obstacle to significant growth in the open-ended space, even if there might be a gradual realignment, as investors consider whether these structures are better suited for their core investments, with closed-ended structures the default for core-plus assets.
Hanna has the last word: “In an open-ended construct, you’ve got no constraints on looking after what we think are the best interests of an asset and the people using it.