‘Relatively subdued impact’ from inflation on infra, says Fitch

Record-high inflation has been impacting investors’ returns globally – nevertheless, the credit impact on infrastructure assets has overall been negligible.

Inflation has been on investors’ minds for at least the past year or so, with some arguing that it was transitory while others expected it to be longer lasting.  Perhaps what no one expected at the time was that inflation would be hitting a 40-year high. April alone saw rates of 8.3 percent in the US, 7.4 percent in the eurozone and 7 percent in the UK.

While no asset class is completely safe from inflationary impacts, some are better insulated than others. In a special report released last week on global inflation and its impact on infrastructure assets, Fitch Ratings touted the “relatively subdued impact” that select infrastructure assets could provide for a portfolio.

What kind of infrastructure asset would this be? Gregory Remec, Fitch Ratings’ senior director of global infrastructure and project finance, tells Infrastructure Investor that the “ideal [infrastructure] asset would be one that has its revenues adjusted at the exact same level that the expenses are adjusted, so both go up in lockstep”.

Indeed, as the report shows, since infrastructure assets often are heavily structured with inflation-adjusted revenue contracts, the asset class has been able to maintain relatively stable margins during the macroeconomic crisis.

This is not true for all infrastructure assets, though. While airports and contracted thermal power plants, for example, are stable, the same cannot be said for renewables and other market sellers of energy. In the case of renewables, expenses related to production – such as labour, construction parts and maintenance – will be exposed to price increases. As for the latter, the prices of energy, particularly natural gas, are up, and sellers don’t have the immunity to fluctuations that plants have through contracts.

In terms of whether or not infrastructure assets in certain regions are more exposed than others, Remec says that is dependent on whether or not that region’s rate is relatively higher or lower. Europe, for example, will most likely see higher inflation than expected due to the ongoing war in Ukraine, while APAC is in general predicted to see lower inflation than the rest of the world.

Another factor to look out for? Volume risk. For the most part, infrastructure assets are shielded from demand impacts, as the services they perform are essential. However, certain assets, for instance toll roads, may see negative impacts on volume if their inflation-tied price hikes are deemed too high.

Overall, though, Remec’s – and Fitch’s – outlook on infrastructure is sunny. “It speaks to the resiliency of infrastructure as an asset class”, he says. “It performs well and stays stable, even in volatile markets.”

The rating agency’s outlook on inflation is also relatively optimistic as it expects US inflation to gradually fall to 4.5 percent by the end of 2022 and to 2.6 percent by the end of 2023. Fitch estimates that the Eurozone and the UK will follow a similar path.