Hot market cools sovereign funds’ appetite for infra

Intense competition, high valuations and regulatory uncertainty have led SWFs to shift from infrastructure to public equities – at least in developed markets, a new report finds.

Sovereign wealth funds’ investment activity in private markets slowed in 2017 – most significantly in real estate and infrastructure, the International Forum of Sovereign Wealth Funds said in its latest annual review.

“The number of infrastructure investments made by sovereign wealth funds dropped by 15 percent year-on-year from 33 in 2016 to 28 in 2017,” IFSWF found, sourcing data collected from the more than 60 sovereign funds that comprise the organisation’s membership.

“I don’t think that sovereign wealth funds are cooling on the asset class, per se,” IFSWF’s director of strategy and communications Victoria Barbary, told Infrastructure Investor. “It’s more that it’s harder for them to find deals that they think are decently priced and that they have access to,” she explained.

In addition to heightened competition that has led to higher prices, IFSWF’s head of data, Enrico Soddu also pointed to regulatory challenges as a factor that is driving sovereign wealth funds from the asset class, at least for the time being.

“It really depends on the regulatory environment,” he said, when asked whether the dip witnessed in 2017 is expected to continue. “The most important thing for sovereign wealth funds when they invest in infrastructure is to have a stable regulatory environment. At the moment, there are some uncertainties in the US – actually, in the US it’s really hostile – and in Europe, which is less hostile” he said.

“So, there are really only a few developed markets that are left, which is basically Australia and some [parts] of Asia-Pacific. If this improves, I don’t think there will be further cool-off in the sector,” Soddu remarked.

According to IFSWF’s review, Asia and Latin America were the exception, with sovereign funds completing 17 direct investments in emerging market infrastructure totalling $3.8 billion, compared with 11 investments totalling $4.2 billion in developed markets.

“Although this is not a new trend, it has intensified over the last year,” IFSWF stated in its report.

The reasons sovereign wealth funds may be turning to emerging markets for infrastructure investments, include lower political risk with lower barriers to entry for foreign investors, less complex deals and lower execution costs resulting in lower third-party operating risk.

“As a result, emerging-market infrastructure can be more attractive than that in the US, Europe and Australasia,” IFSWF said.

Although it’s too early to deduce whether the findings illustrate the beginnings of a trend or not, Soddu does not expect a reversal in sovereign funds’ direct infrastructure investment activity in developed markets this year.

Barbary agrees: “I can’t see the politics – either of the EU or the US – changing dramatically in the next six to eight months. I think that even if we suddenly had a policy change, given that [infrastructure] deals have quite a long lead time, you wouldn’t see the results for quite some time.”