Most of the commentary on infrastructure investment this year has focused on traffic forecasting in the transport sector and wider recessionary risks in the economy. There has been less written about how fund managers have changed behaviour as a result of the COVID-19 pandemic and the events that followed.

The answer is, in the vast majority of cases, they haven’t.

In a survey conducted by Inframation of 50 fund managers globally, working across infrastructure, power and energy, the resilience of the asset class to short-term shocks and the acceleration of several macro trends already in train were revealed.

The survey showed that only around half of the fund managers saw their investments affected by the pandemic. Around two-thirds saw the value of their investments increase or stay the same. The negative impact was predictably high on transport-related investments, non-existent on telecommunications and more limited on renewables. More managers saw a decrease overall on their power and social infrastructure investments, than an increase.

What is perhaps more surprising is the reaction of managers to this impact.

Only 18% have changed their investment strategy as a result of 2020

Eight of 10 respondents claimed ‘no change to overall strategy’ due to the pandemic.

As an illiquid asset class, the ability of infrastructure managers to move around allocations in the short-term is limited but for new funds the question now is ‘How will a post-COVID infrastructure portfolio look?’

“There has been little ability so far for fund managers to respond to the crisis in terms of divestments or portfolio allocation,” says Serkan Bahçeci, head of research at Arjun Infrastructure Partners. “Institutional investors are very patient, and they are more than aware of allocations. It’s too early to tell, but maybe in a year or so we will see how investors’ sector preferences have changed.”

"Infrastructure is doing what is says on the tin in terms of how it is meant to perform in a crisis"

“There is only a relatively limited number that can be nimble enough to change their strategy [based on where they are in their fund’s evolution],” says Darryl Murphy, head of infrastructure at Aviva Investors. “It’s unlikely that every manager is sitting there thinking ‘I need to do something different’.”

Specialised funds in areas such as energy transition and digital infrastructure have come through the past 10 months the strongest. In more globally diversified infra funds, with exposure to transport or GDP growth, some “tinkering” is to be expected but this would not represent a ‘change of strategy’, says Declan O'Brien, head of infrastructure research and strategy at UBS Asset Management.

“There is a scale of what that question means: are you fundamentally rewriting your investment thesis [due to events of this year]? If you believe in upstream oil and gas as a long-term theme do you double-down on it, or do you abandon what you’re good at and the hundreds of experts you have in the sector, and try to do something else?”

“As a diversified infra fund we have clearly dialled down looking at transport investment opportunities and dialled up sectors that are a bit more COVID proof – is that changing strategy? You would be foolish not to.”

The role of the infrastructure fund manager has not changed, but their focus may have.

“Managers have to think about how they marry together what investors want and what the market can offer,” says Murphy. “You have to adapt to the market ahead of you. I don’t think, in terms of overarching strategy, COVID does a huge amount to change that. It won’t change strategy, just asset selection.”

For the 18% that did note a ‘change in strategy’, new vehicles for high-yield or mezzanine debt or switching between closed and open-ended funds seem likely options in the current climate, says O'Brien.

A third of fund managers added staff to their investment teams in 2020

Out of 48 fund managers who responded to the question, only one said that their investment team had reduced in size as a result of the pandemic. The other 47 either increased or maintained the size of their teams.

“I expect a bigger move to lower risk, core assets – and I define ‘core’ based on the forecastability of cashflows [rather than using a sector such as transport]. The immediate flight to safety will go on for while,” says Bahçeci at Arjun.

Definitions of ‘core’ will likey become even less relevant in 2021.

“It’s harder at the moment to find value in the core area,” says Murphy. “People are having to redefine ‘core’ to mean something else. When long-term, stable cashflows are harder to find you need to assess what ‘lack of volatility’ really means.”

Renewables, telecoms and transport is where these teams expect to see the most activity in 2021, according to the survey results

Geographically, fund managers also appear focused on their home markets with North America-based managers expected to be the most active globally in the year ahead.

Around a third of those surveyed expect to see the ‘most activity’ in greenfield investment, perhaps as a result of new government spending plans. But it is no coincidence that the strongest sectors of 2020 – renewables and fibre broadband – are also both predominantly greenfield sectors, with high levels of government support.

“Generally, people are more comfortable with greenfield for renewables and telecommunications,” says O’Brien at UBS. “Renewables are much easier to get off the ground, compared to a road or a bridge. Fibre-to-the-home is also a relatively straightforward [construction] process. I think you will find more and more funds looking at platforms where capex is required, and greenfield tolerance is a growing trend.”

O'Brien also expects to see more themed funds emerge is these areas during 2021.

75% were not fearful of the threat of recession to their funds

With the recent focus on traffic patterns and sector-based themes, there is a risk that fund managers may be distracted from some of the macro trends which underpin the asset class.

GDP growth, urbanisation and power prices have all been indirectly impacted by the lockdowns this year and unforeseen risks to sectors beyond transport cannot be discounted in the near-term. These risks may or may not be related to the pandemic.

“The question is ‘do we really understand the mega trends that are going to affect a sector?’ There are some very big players in the data centre sector, do we really understand how that market is going to perform over the long-term? I’m not sure. If you have a fund that can only do that kind of thing then you have no choice but to, and if there is a market price that is what you are going to be paying,” says Phil White, head of infrastructure at 3i.

When polled about the greatest threat to fund investments in 2021, one survey respondent cited “uncertainty due to potential regulatory changes, political influences, interest rates, general market volatility, ongoing or increased economic impact from COVID”.

"You have to adapt to the market ahead of you...[COVID] won't change strategy, just asset selection"

In a separate Real Assets survey carried out by Aviva in November, global institutional investors broadly agreed their economies should recover to 2019 levels by the end of 2022 or the beginning of 2023, with European investors the least optimistic by favouring spring or summer 2023 and those in North America at the other end of the spectrum, predicting June 2022.

"Even before the pandemic, the question [of a recession] was ‘when?’, not ‘if'"

Bahçeci agrees, but points to interest rates as a key indicator for infrastructure fund managers to watch over the period. “Both UK and the US are following the euro area in lower interest rates – is this permanent? Is it better to borrow or refi now or wait?” he asks.

Infrastructure has performed well as an asset class because it has been resilient but also because it has been yielding in a low interest rate environment. Low interest rates will keep valuations high but for fund managers with dry powder it will be more challenging to acquire new assets with ever declining expected returns for the same risk profiles if discount rates decrease, says Bahçeci.

“Fund managers are congratulating themselves for divesting assets in their existing funds but their newly raised funds are five times larger. Investing that large amount and expecting similar performance is a challenge if the discount rate keeps declining. The managers need to be more creative, which always comes with risk.”

But for many, a recession in 2021 will not come as a shock.

“You can’t be a long-term equity investor in infrastructure and be overly surprised about a recession,” says Murphy at Aviva Investors. “I would hope managers have learnt from the GFC. For most investment timelines, there will be a recession at some point, probability-wise. Even before the pandemic, the question was ‘when?’, not ‘if’. Most assets should be able to weather that storm, leverage has been maintained at a reasonable level and we wouldn’t expect to see the same impact as post-GFC.”

"Most fund managers have not delayed fundraising or exits this year"

The switch to a virtual fundraising has been widely celebrated this year and eight out of 10 GPs surveyed claimed they did not delay fundraising or divesting from a fund this year as a result of the pandemic.

Most of those who did hold off expect both processes to resume in Q1 next year.

The Inframation survey was carried out before the results of various COVID-19 vaccines were announced earlier this month, adding even more weight to the hope that 2Q21 and the second half of 2021 will herald a full return to business for GPs in infrastructure and power and energy.

"[If the discount rate keeps declining] managers need to be more creative, which always comes with risk"

When they do so, they will have a lot to talk over with their LP investors. Many of these LPs will have seen the asset class tested for the first time.

“LPs have the track record now of a global shock that has impacted portfolios so perhaps they feel better informed about some of the risks fund managers have been running than they would have before,” says White. “It puts LPs in a better position.”

A survey in November of institutional investors managing nearly USD 7trn of assets by fund manager Octopus Renewables found that they are planning to increase their renewable energy investments from 4.2% of their overall portfolio to 8.3% in the next five years and 10.8% within the next decade to about USD 742.5bn.

Although the outlook may have shifted between infrastructure sectors over the past 10 months, fund managers that have survived the crisis do have reason to maintain the strategy they began before it started. 

“Infrastructure is doing what is says on the tin in terms of how it is meant to perform in a crisis,” says O’Brien. “The difference is that some of the assets that were meant to be the most defensive or core and essential have been hit even more hard.”

So now it is not so much a question of ‘what next?’, but ‘where next?’, says White.

“Fundamentally we are an infrastructure fund so for the big strategic question ‘what are we going to do?’ we don’t have to answer that differently every time because we know, we’re going to invest in infrastructure, the question is what type of infrastructure, countries, and what type of risk or return are you going to get.”