Regulators must offer ‘stronger support’

What are your views on the current investment climate for the infrastructure asset class, both globally and in North America?

DS: There is a strong demand for infrastructure investments and a lot of capital waiting to be deployed. However, there is uncertainty related to certain regulatory and political environments around the globe. For long-term infrastructure investors, these uncertainties may negatively impact their underwriting thesis and/or the overall performance expectations.

Most infrastructure assets are providing essential services, and if these assets need stability and private investment, there should be stronger support from regulators and governments to provide a very transparent and long-term certainty to projects.

As much as there is demand and capital, the investment pace has been slow both in North America and globally. From a valuation perspective, it seems like capital is chasing core operating assets and valuations have spiked for these types of assets. Investors are cautious not to overpay, and therefore the deployment of capital is slower than expected.

What is most attractive area right now for investors/CalSTRS? (Unlisted infrastructure, listed infrastructure, direct infrastructure, infrastructure debt?…)

DS: CalSTRS constantly reviews all of these strategies and the current deal pipeline has a good mix of these strategies, with more deals seen in the unlisted infrastructure space.

Given that the portfolio is still under development, the focus has been on unlisted equity strategies. Over time, and based on market fundamentals, the portfolio will diversify into the other strategies.

Direct investing is sought after by many large investors that have the internal resources to manage such assets. However, for smaller investors or investors that have not yet built up their internal resources to manage direct investments, the unlisted equity infrastructure funds tend to be the most attractive. Unlisted infrastructure fundraising also seems to be strong currently, which shows there is more appetite for those infrastructure exposures.

The investor universe also seems to be growing and, based on each investor’s investment strategy and risk/return expectations, listed or infrastructure debt could be more favoured as opposed to unlisted infrastructure.

Which sectors and geographic regions are expected to present good investment opportunities in the next 12 months?
DS: Based on the more recent deals that have closed globally, it seems like midstream energy and power (including renewable) investments are more attractive to investors.

In the US, the power sector and the midstream sector seem to be active and the transportation sector is looking to get active as well.

Outside of the US, the renewables sector is strong given that most countries and regions are focused on reducing their carbon footprint and have mandates in place for achieving renewable targets. The water and waste water sector is also starting to see some momentum.

The sectors that tend to have good regulatory environments, and countries that have good legal and contracting processes, tend to be more favourable to long-term investors.

How is infrastructure performing against other asset classes?

DS: The CalSTRS infrastructure portfolio is relatively new to compare against other asset classes in the fund. However, within the three years since investments started in this asset class, performance has been above target levels.

In general, infrastructure assets tend to provide a more stable return than other private assets given that most of these assets are backed by long-term contracts or are regulated, and therefore provide more visibility to the revenue streams.

The portfolio mix of infrastructure investments of each investor can play a role in performance as well – for example a portfolio heavily weighted towards core assets versus a portfolio weighted towards value-add/greenfield assets will generate different performance figures and different risk profiles.

Going forward, will investors be increasing, decreasing or maintaining their level of investments in infrastructure?

DS: In general, it seems like the infrastructure investor base has expanded. Based on some recent surveys conducted by industry groups, a majority of the investors have an interest to increase allocations to infrastructure. There has been an increase in interest from US investors as well as sovereign wealth funds.

Also, what we are seeing is new allocations to the infrastructure space, be it falling under the investor’s real asset, real estate, inflation-linked or ‘other asset’ category. The appetite for steady cash flows and revenues tied to inflation are generating new and increased interest for infrastructure investments.

*Diloshini Seneviratne is portfolio manager, infrastructure, at California State Teachers’ Retirement System (CalSTRS) in Sacramento