Allocations to infrastructure by pension funds could be about five times higher if the correct benchmarks were used, Singapore-based research institute EDHECinfra has suggested.
While global allocations to infrastructure average about 2 percent of portfolios, according to the OECD, the latest paper by EDHECinfra says this could be about 10 percent if investors were using the correct benchmarks. LP appetite for the asset class is certainly there, with 38 percent of investors surveyed in our LP Perspectives 2021 study saying they are underallocated to the asset class.
However, “investors have been using the wrong data to assess the role of unlisted infrastructure investments in their global allocation”, EDHECinfra said in a statement. According to the paper, many LPs have been using listed infrastructure benchmarks or appraisal-based indices provided by fund managers, but these “cannot be used to perform a serious asset allocation exercise”, it stated.
“With listed infrastructure, because it’s perfectly correlated with stocks, the asset allocation review says to invest nothing more in infrastructure because you already have stocks,” Frédéric Blanc-Brude, director of EDHECinfra and co-author of the report, told Infrastructure Investor. “With the appraisals, the volatility is artificially low. Neither are representative of the infrastructure asset class. There’s a much bigger component in infrastructure of cash return than capital return than you would have in the stock market.”
He added that the suggested 10 percent allocation would have flexibility between equity or debt, depending on the requirements of the investor.
“US pension funds are underfunded so tend to invest more in risk and infrastructure equity is almost the entire 10 percent,” he explained. “On the other hand, a well-funded, conservative German insurer will allocate almost entirely to infrastructure debt because it’s more attractive than bonds but also has characteristics more like debt.”
EDHECinfra’s paper suggested investors should be using its infra300 index, data it says capture the fair market value of 300 infrastructure companies in more than 20 countries and worth about $180 billion. This has been produced on a quarterly basis, although this is set to change.
“We’re going to start producing our indices on a monthly basis from next month,” Blanc-Brude outlined. “There’s a strong demand from investors, especially German and Nordic, to report on a monthly basis because they have to from a regulatory standpoint, and that was one of the reasons why they were using listed benchmarks.”
The latest results of the infra300 released last month indicate a 4.7 percent fall in value for 2020, reflecting a 12.6 percent drop in capital value and a 7.9 percent increase in estimated year-on-year cash yield.