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Why investing in schools and sewage could be the answer for income seekers

Written by: Giles Frost
In the current environment, achieving sustainable inflation-protected income from equity investment is increasingly challenging. Could infrastructure pave the way to real income in an uncertain world?

The hunt is on for reliable long-term yield and for investment assets that have a low correlation with the cyclical nature of stock markets. In an investment environment characterised by persistently low returns on bonds and continuing angst as to the sustainability of the long-term bull market in equities, the hunt has rarely been so hard. Couple this with rising inflation, now at the highest level for four years and perhaps further inflationary pressures as the impact of sterling depreciation and the unconventional monetary policies of central banks unwind and the picture becomes stark: achieving sustainable inflation protected income from equity investment is increasingly challenging.

One investment class has bucked this trend – infrastructure. The investment in the essential assets of our communities whether they be schools, gas pipes, electricity cables or sewage tunnels has offered investors exposure to very long-term assets that deliver very reliable cashflows often linked to inflation and typically underpinned by revenues either paid directly or regulated by government bodies. The market capitalisation of funds listed on the London Stock Exchange investing mainly in public infrastructure has grown over the last 10 years from around £1.3bn to more than £8.5bn.

Retail investors have always been told to diversify and not to put all their eggs in one basket. With low yields on bond returns and the real danger of capital values falling if interest rates increase, investors’ imaginations need to move beyond a vanilla 60% equity and 40% bond portfolio and consider the benefit of diversification. Infrastructure has shown it can provide low-risk, long-term, inflation-linked returns that match investors’ desire for real income typically offering yields of between 4% and 5% per annum and shareholder returns over the last decade exceeding 9% per a year.

Infrastructure is not a complex financial instrument and we need more of it. In the UK alone, the government has committed to invest over £100bn by 2020/21 (part of a £483bn pipeline) and has been clear that it needs the private sector to finance a ‘significant’ part of the ever-increasing demand for capital to build our schools and hospitals, to transmit our energy, protect us from floods and remove our sewage.

The common assumption, when people think of it at all, is that this remains the reserve of large institutional investors who have big cheques to write for multi-billion pound infrastructure projects. Indeed, since so many of the once publicly listed UK utilities have been taken private, notably in the water sector, the average retail investor has suffered reduced access to these utility-like assets and their predictable returns. Many investors don’t realise this but there are still effective ways to access these sorts of returns and to take a financial stake in the infrastructure assets that we all use day in, day out.

Investing in infrastructure fund companies listed on the stock market (which themselves own or invest in a portfolio of individual infrastructure assets or businesses) provides an opportunity to invest in assets frequently considered to be the preserve of large institutions. These listed funds are bought and sold just like any other listed shares.

With infrastructure funds their underlying cash flow is often government-backed or from businesses operating under a regulatory regime. So their revenues are very predictable and the returns generated for shareholders tend to be steady, inflation-linked, correspondingly secure, and are generally less correlated to GDP growth and many of the cyclical factors that apply to most equity investments.

Of course, care needs to be taken. Not every infrastructure investment is the same. Investing in a toll road where revenues depend on people paying to use it is a more risky proposition than investing in assets where the government pays a steady revenue in return for that asset being available to use. But different infrastructure funds have developed to offer investors a choice between these sorts of infrastructure asset.

Where income is concerned, predictability and reliability is the main consideration. Investment into infrastructure is both an investment in our futures and a source of sustainable, long-term returns.  There are few other asset classes currently offering the same opportunities for dividend growth, dividend sustainability and capital growth.

Giles Frost is CEO of Amber Infrastructure Limited

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