MicroStockHub/iStock via Getty Images Given that inflation is soaring to its highest levels in four decades and interest rates remain near historic lows, the real interest rate is about as negative as it has ever been. This bodes extremely well for cash flowing real assets as it means that the replacement cost of these assets is soaring while also making their income generating capability extremely attractive relative to the yields on bonds.
Furthermore, reliable income sources are in high demand as developed economies age and soaring growth in developing economies has resulted in a severe shortage of essential infrastructure.
On top of that, heavily leveraged government balance sheets is leading to increased privatization of infrastructure assets and – last, but not least – the 4th industrial revolution is driving aggressive modernization of infrastructure.
As a result, we are very bullish on infrastructure ( IFRA ) and are allocating more capital to this sector and related sectors than any other in our portfolio.
In this article, we will discuss these bullish indicators, highlight a few risks, and mention a few of our top picks in the sector. #1. Negative Real Interest Rates
Soaring commodity prices and labor costs along with severe supply chain challenges mean that replacing or competing with existing infrastructure assets is more expensive and difficult than ever. This immediately establishes a moat of sorts around infrastructure assets by providing another barrier to entry and increasing their pricing power.
On top of that, the historically low interest rates mean that the relative value of the income stream from cash flowing real assets is higher. While it is likely that interest rates will rise in the coming months and years, the massive public and private sector debt burdens mean that policy makers will be limited in how far they can raise interest rates without risking crashing the economy and driving sovereign governments to insolvency.
On top of that, infrastructure assets are typically fairly recession resistant given that they generally deliver essential goods and services to society and – while the demand level may fluctuate some with economic activity – the demand level therefore is pretty stable. #2. Aging Demographics
The developed economies of the world such as the United States, Canada, Japan, China, and Europe are all aging fairly rapidly due to years of declining/low birth rates.
As a result, in order to generate the stable income to fund retirements in the countries where most of the world’s wealth is concentrated, there will be a premium put on income generating assets in the years to come, especially if interest rates remain near the lower end of the historical spectrum.
Brookfield Asset Management ( BAM ) projects that institutional funds will therefore increase their allocation to real assets from a mere 5% in 2000 to over 40% by 2030. The ongoing flood of tens of trillions of dollars into infrastructure assets will likely drive valuations significantly higher. #3. Massive Global Infrastructure Deficit
On top of the increased demand for income in developed economies, Guggenheim Investments research suggests that developing economies will also be driving demand for infrastructure: Insufficient infrastructure leads to constrained economic growth, inefficient energy production and utilization resulting in greater carbon intensity, and a degraded quality of life and negative social impacts for those living under developing economies. With an estimated $2.5 trillion annual global infrastructure investment shortfall in which 663 million people still lack access to clean water, 1.1 billion people lack access to reliable electricity, and a whopping 2.4 billion people lack access to basic sanitation, the need to erect new infrastructure is massive.
This should provide a major growth catalyst to global infrastructure companies by opening up a vast runway for growth projects. #4. Heavy Sovereign Debt Burden
U.S. debt to GDP has soared above 125% thanks to the impacts of the COVID-19 outbreak. Other governments are facing similarly cumbersome debt burdens. As a result, global infrastructure investors are increasingly being given access to invest in or even acquire entirely trophy infrastructure assets that were previously wholly owned by governments.
This provides an additional growth opportunity for infrastructure investors and should only accelerate moving forward as interest rates begin rising and countries are increasingly driven to invest in defense spending as they deal with rising geopolitical tensions. #5. The 4th Industrial Revolution
With the exponential growth of technology and technology-powered industries that has given rise to the disruptive technology investing trend powered by Ark Invest ( ARKK ), the need for modernized infrastructure is more important than ever. This includes property technology companies Zillow ( […]
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