Sister publication PDI caught up with IFM’s Rich Randall to find out more about energy debt investing and where the opportunity is today.
How active is the market for investing in energy debt?
The US infrastructure debt market is dominated by the power generation and midstream sectors. Most other sectors, such as transport and social infrastructure, are efficiently serviced through the municipal bond market, so the market for energy-related infrastructure debt continues to be very active. In Europe, decarbonisation continues to thematically play out. Financing for greenfield renewables activities is active today, especially in areas such as offshore wind.
How does that opportunity break down between traditional energy and renewables?
In the US, the majority of the financing opportunities continue to reside in traditional energy. The PJM [Pennsylvania New Jersey Maryland Interconnection] market continues to see greenfield build-out and wider market participation. And while there has been a flurry of M&A activity in the renewables space as well as greenfield build-out, the capital structure has been consumed by tax equity and aggressive financing from banks offering significantly discounted debt pricing. We envision this changing, however.
In Europe, the vast majority of the opportunity is in renewables: financing the greenfield build-out of offshore wind, solar PV and energy from waste.
What’s the hottest area of investment right now?
In the US, renewables and greenfield financing of conventional power generation in the PJM market continues to garner strong attention from traditional lenders, as well as overseas insurance companies. Similarly, in Europe renewables garner the most attention and represent some of the largest issuance volumes and opportunity sets.
How much competition is there overall?
The investment-grade market for energy-related infrastructure debt is increasingly competitive. Insurance companies and banks are crowding the space as a result of their regulatory frameworks and their wish to be perceived as financing “green” projects.
The senior-secured sub-investment grade market for energy-related infrastructure debt is less crowded. It offers risk-adjusted returns that are more attractive than those for investment-grade infrastructure debt and on a par with those for senior-secured sub-investment grade corporate debt.
What are the opportunities and pitfalls of the space?
Opportunities for direct club institutional syndicated deals are increasing. Sponsors are becoming more comfortable with these relationships and the surety of execution they can provide when compared with the more broadly rated syndication route.
The pitfalls are the erosion of lending standards and the mispricing of risk as we see yield chasing and aggressive deployment targets in the infrastructure space.
Has the market been treated well by the regulators?
There is financial regulation that is having an impact on lending activities and a myriad of regulations affecting underlying borrowers and sponsors. As a lender you need to stay abreast of financial regulatory requirements that are having an impact on your own activity and on the competition’s.
There has been a softening in the application of the leveraged lending standards recently, facilitating more aggressive issuance in the sub-investment grade space. There is generally a more favourable regulatory disposition to lending activities. Underlying borrowers, particularly in the conventional power, oil and gas space are benefiting from a more lenient regulatory environment.
What makes sense in terms of geographic focus?
We believe a global remit allows for the greatest opportunity to build a diversified portfolio and pursue the best relative value opportunities across multiple credit and market cycles. We would encourage a focus on risk/return profile, and for investors to be thoughtful about what returns are realistically achievable. All too often we see a disconnect on this front, where investors desire senior secured sub-investment grade-type returns, but are only willing to take on investment-grade risk.
What returns can investors reasonably expect?
The infrastructure debt market spans the credit-quality spectrum, from high investment-grade down through to mezzanine debt. We believe that across the credit spectrum investors should be achieving a premium versus comparably rated corporate debt. However, the degree of premium/relative outperformance differs significantly between investment grade, where it is modest, and senior secured sub-investment grade, where it is meaningful.
And what do they benchmark against?
Benchmarking varies from client to client. That being said, there should be an element of relative value benchmarking when investing in energy, when compared with providing debt in other sectors.
What will be making the headlines in energy debt this time next year?
Some potential headlines we envision are big offshore wind projects starting to come on to the market in the US, operators of LNG facilities seeking to take on additional debt on the back of export facilities becoming operational, continued development of the Permian Basin, and the economics of solar and wind power following the phasing out of government subsidies.
Infrastructure debt fundraising falls short
Investors say they are interested, but few are putting their money where their mouths are, finds PDI’s Rebecca Szkutak
Infrastructure debt fundraising hit a lull as the market entered the second half of the year. Fund managers had held final closes on a little more than $800 million across two vehicles, compared with $3.2 billion across four funds at the start of Q3 in 2018. The number looks increasingly bleak when stacked next to the amount of capital being sought by infrastructure debt managers. According to Infrastructure Investor data, funds in market are seeking more than $27 billion.
However, the lull may be temporary, as the strategy is viewed favourably by investors. LP Perspectives 2019, a limited partner survey from another sister publication, Private Equity International, found that 27 percent of investors were looking to increase their allocation to infrastructure. Within that, 92 percent of participants wanted to increase their allocation to infrastructure debt specifically or keep it the same, with only 8 percent looking to reduce it.
Notable infrastructure debt funds include the Westbourne Infrastructure Debt Opportunities Fund II, which is targeting $3 billion; the Global Infrastructure Partners Spectrum Fund, which is targeting $1.5 billion; and AXA European Infra Senior I, which is targeting €1.5 billion.