A wake-up call for markets’ infrastructure dreamers

COLOMBO, SRI LANKA - OCTOBER 15: A Chinese laborer works at a construction site at the hotel complex construct by Chinese company on October 15, 2015 in Colombo, Sri Lanka. Sri Lankan new government under the President Maithripal Srisena administration has temporarily suspended China funding US$ 1.4 billion Colombo Port City Project (CPCP) and unhurried support for some China projects. The Colombo Port City Project has been temporarily suspended by government on 6th of March 2015 which was launched by the previous government of President Mhainda Rajapaksa. China has funded many infrastructure projects during Rajapaksa governing period. (Photo by Buddhika Weerasinghe/Getty Images)©Getty

It starts with a wobbling tower of wooden blocks, train track laid end to end, sticks and stones to dam a stream. It is an instinct that leads to grand designs and mega-projects.

The same impulse also explains, perhaps, why infrastructure is becoming investors’ favourite answer to every current problem. Is this nostalgia for a can-do time? We should match Victorian mastery of sewerage, or Eisenhower’s interstate system to connect a vast country, enduring physical legacies of public Works.
Desperate for growth? Just look at the Chinese miracle, a modern economy wrought from concrete and steel in two short decades, entire cities built from scratch.

In the developed world, money for building becomes investment or stimulus rather than everyday spending, a way to sidestep the politics of austerity. Infrastructure, in the abstract, has the attraction of the simple grand plan.

Indeed, it is one of the few policies on which the candidates in November’s presidential election agree, differing only in the size of their ambition. Hillary Clinton intends $275bn of investment over five years, while Donald Trump has talked of a trillion dollars’ worth, not counting a border wall — for that, the bill goes to Mexico.
For pension funds, helping the world to build also offers hope, of the chance to buy assets that will accrue profits reliably in the decades ahead. Investing in long-dated government debt, as is traditional, may not provide the income to meet promises to retirees because bond yields around the world have dropped to record lows.

Yet big ideas tend to gloss over troubling details. Building an airport, bridge or water treatment plant can create a project ready-made for the financial and legal gift-wrap that allows it to be sold to investors, such as pension funds.
What developed countries need, however, tends to be improvements to what exists, the more boring business of resurfacing, widening or repainting. The US federal government spent $46bn on roads in 2014, a quarter of US public spending on highways, and the non-partisan Congressional Budget Office argues the economic benefits of new tarmac have diminished over time, increasing the importance of maintenance instead.
Special-purpose vehicles to raise funding — and the bankers, accountants and lawyers who create them — are also redundant when the cost of borrowing is so cheap. A worldwide collapse in bond yields is sign investors are falling over themselves to fund any and all public spending, so it would be odd for a government to choose to pay more.

Infrastructure branded bonds would be an easy sell, but then what bond is hard to sell today?
Indeed, if direct and explicit financing of government spending by central banks appears to be the logical extension of quantitative easing programmes, claiming it’s to fund long-term investment may be a way to sell the policy to a public wary of so-called money printing.
There will, of course, still be opportunities to invest in ownership of long-lived fixed assets such as pipelines and toll roads. The point is that while infrastructure investment may be a neat thing for a consultant to suggest to one pension fund looking for ideas, the nature of markets means the value of a good idea is diluted the further it’s shared.

For instance, the Canadian Pension Plan has put money into infrastructure since 2005, and as of March it had C$21bn invested, or about 8 per cent of the scheme’s assets. Investment returns have been pretty good, averaging 10 per cent annually since 2007, the first year they were disclosed. It is also cost-effective, with running costs for the infrastructure team last year amounting to just 30 basis points of the capital invested, less than many stockpicking mutual funds.

Such performance does not go unnoticed, however. The pension fund describes intense competition for limited numbers of infrastructure assets, as new investors pile in: “the deals that did materialise were priced high”, said this year’s annual report.
At heart, struggling pension funds face a world where economic growth and inflation are weaker than expected, less than the assumptions built into the architecture of retirement schemes. A desire to pay for new landmarks on the horizon is just the latest way to restate what long-term investors want and need: growth, activity, investment.

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