Report: UK plans capital market for infra financing

The government has been in talks with key industry figures on creating conditions for pension funds to become cornerstone investors in infrastructure. Mervyn Davies, the trade and investment minister, said the government could cover construction risk to attract pensions.

The UK government has approached key industry figures with a proposal to create a new capital market for infrastructure financing, the Financial Times reported this morning.

Mervyn Davies

The effort is being spearheaded by Mervyn Davies, the trade and investment minister, together with Infrastructure UK, the new Treasury body chaired by Paul Skinner, formerly the head of Rio Tinto. “The big prize would be to set aside part of the long-term pension industry and get them to invest,” Lord Davies said at a recent infrastructure conference, according to the FT.
To sweeten the deal and overcome pensions’ traditional reluctance to invest directly in infrastructure projects – which are typically rated below investment grade – Lord Davies said the government and other agencies are willing “to take some of the building risk before converting it [infrastructure investments] into long-term loans”.
The European Investment Bank (EIB) could be one of the agencies to lend its support to such an initiative, at least for projects that form part of the Trans-European Transport Networks (TEN-T), the EU's multimodal project to link transport networks across states. In a paper last October, the EIB said it was considering guaranteeing bonds issued by project companies building TEN-T projects in an effort to attract institutional investors.
Following the demise of the monoline insurers, which traditionally insured bonds issued for infrastructure projects, institutional investors have found it hard to access the infrastructure market.  The chief problem is that they do not have the in-house expertise to deal with the construction risk infrastructure projects carry – and which initially consigns most to a BBB rating.
This has killed the once vibrant UK market, where “historically, there was considerable investor appetite for infrastructure bonds”, the EIB wrote in its paper.
Tim Breedon, the head of Legal & General (L&G), the UK’s largest pension fund manager, told the FT the government should create an infrastructure bank that would help projects get started. This bank would then siphon-off debt to insurers and pension funds at credit ratings they would find attractive.
The idea of an infrastructure bank is being debated in the government and has even managed to garner some cross-party backing. It is part of Davies’ and Infrastructure UK’s work, which also includes producing a list of priorities among the infrastructure projects needed for the next five to 50 years. Their proposals should be delivered in time for this year’s budget, which the Treasury says should be presented in the Spring. 
According to government estimates, the UK will need to spend £434 billion (€497 billion; $700 billion) upgrading its infrastructure by 2020. The lion’s share of investments will be spent in the energy sector (£264 billion), followed by the transport (£120 billion), water (£45 billion) and communications (£5 billion) sectors.