A planet and a market heating up

Professor Jeffrey Sachs certainly had the large audience he would have been hoping for in order to get his call for help effectively communicated to the infrastructure asset class. As a rapt audience of 600 hung on his every word, the director of the Earth Institute at Columbia University proclaimed that the asset class needed to play a crucial role in sustainable development – but that, so far, not enough was being done.

Delivering the opening speech at Infrastructure Investor’s Berlin Summit 2014 in front of around 600 delegates at the Hilton Berlin, Sachs said that global economic growth and development over the next decade would need to be investment-led rather than consumption-led but the models to achieve this do not exist in most of the world, including North America and Europe.

He added that global infrastructure investment needed to be in the region of $5 trillion to $6 trillion a year – or around 4 to 6 percent of global GDP – but that it was currently around half this level or less. This was described as a “growth opportunity” for the industry and one that could help to combat climate change. Sachs said the planet could be “wrecked” if its temperature were allowed to rise by more than 2 degrees centigrade – but, if inaction continues, that figure could reach between 4 and 7 degrees by the end of the century.

‘Deep decarbonisation’

Sachs said a process of “deep decarbonisation” was needed, involving a fundamental revamp of energy systems. He told investors in the audience that if they were not financing low carbon, he would rather they were not financing energy at all. He added that, merely to adapt to existing climate change, infrastructure would need to be built with much greater resilience.

Sachs also called for greater regional cooperation and regional energy strategies. He said that even in Europe, where regional cooperation is most advanced and “good goals” had been set, countries still “can’t get together to plan for a regional grid” that is needed in order to overcome intermittency issues.

He said that the world had got used to thinking markets can solve problems but he expressed the view that they can’t do so without forward thinking and a policy framework – and that these elements were missing “in most countries”.

If nothing else, this was certainly a wake-up call to those present. Barely had they consumed their assorted pastries and drained coffee cups than they were being asked to help save the planet. But if the prospect of an overheating planet were sobering, then the panel that followed Sachs’ keynote – entitled “Bubble Trouble” – was not necessarily any easier to digest given its implications of an overheating market.

Nonetheless, while there was acknowledgment that some geographical markets and sectors were showing highly competitive tendencies (core infrastructure in Northern Europe for example), there was a lot of positive thinking about how to cope well with this set of circumstances.

Don’t compromise on risk

Peter Taylor of Australia's Hastings Funds Management highlighted the need to tie governments to contracts where there is a risk of negative interference. He specifically referenced his own firm's negotiations prior to its investment in Sydney Desalination Plant, where the historic ability of the New South Wales government to change terms of reference was removed. The basic point being that, whatever the pressure on returns, never be tempted to compromise on risk as a compensatory factor.

Another antidote to more intense competition was put forward by Charles Woodhouse of superannuation fund QSuper when he referred to the organisation's ambition to move quickly when the right deal comes along. QSuper has taken a practical step towards the realisation of that goal by boosting its tax and structuring resource to allow it to be better placed to meet deadlines.

Others alluded to the exploitation of niches as a counter-measure to the perceived flocking to core infrastructure opportunities. Talk of niches may prompt entirely healthy sceptical responses. Nonetheless, when Gavin Merchant of UK pension fund USS referred to his firm’s positioning as a partner of choice for foreign groups wanting to invest in the UK, it sounded perfectly reasonable given recent regulatory unpredictability in a market long perceived as a relative safe haven.

With many delegates still pondering the challenges posed by the two days of the Berlin Summit, no one was allowed to relax at the commencement of our co-located Renewable Energy Forum on the following day.

Jeffrey Altman, a senior advisor at energy specialist Finadvice, said in his keynote address that “enormous amounts” of government support and the swift build-up in European renewables capacity were responsible for “destroying the free market”, a source of major uncertainty for investors and operators alike.

“It is renewables subsidies, not technology, that have disrupted Europe’s power markets. These well-meaning policies have not been fully vetted by the industry,” he proclaimed ominously.

More regulation

In the short to medium-term, he argued, this would result in more – not less – regulatory interventions. The push would likely be driven by the continent’s embattled utilities, whose woes in times of economic downturn had been aggravated by the recent changes to the power sources merit order.

But while the transition to renewable energy has undoubtedly had – and will continue to have – market distorting effects, investors will always tend to see opportunity in the face of volatility.

“When new chapters begin, prepare yourself – there will be opportunities to create value,” said Ingmar Wilhelm of London-based fund manager Terra Firma.

The “new chapter” is the dismantling of renewable energy subsidy regimes and the progress of the industry towards grid parity.

Wilhelm pointed out that deal flow is strong as small wind and solar assets are brought to market in need of scaling up and utilities look to sell assets to shore up their balance sheets.

Rory O’Connor of BlackRock said that the transition of the market is in some respects favourable. “We prefer assets that are efficient and close to grid parity,” he said. “Over the next five years, a lot of the talk about regulation and tariffs will decrease.”

O’Connor added that a big theme today is “the marriage of institutional capital with utilities. That partnership is creating nice opportunities.”

‘At a cusp’

Thomas Rottner of Platina Partners memorably described the evolution of renewable energy as a change from “Will it happen?” to “It’s happened; oh my god.” He added: “Thousands of assets have been created, there has been massive diversification, but we need to make sure we harness all the benefits. Part of the solution will be international inter-connectivity.”

Rottner continued: “We’re at a cusp where the industry has benefitted from massive incentives which can’t carry on and we’re now moving into a new market-tested regime. The question is how do we get from A to B?”

This was an apposite question which was almost certainly on the minds of many of those gathered in Berlin. As the numbers present would suggest – as well as countless illustrative themes discussed across the three days – infrastructure has all the appearances of transitioning from a young, untested asset class to a more mature one coming under ever-closer scrutiny. How indeed does it get from A to B?