Global Listed Infrastructure Monthly review and outlook

Global Listed Infrastructure climbed in November on hopes that interest rates may increase at a slower pace than previously anticipated; and on indications that China was considering lifting its strict covid restrictions.

The best performing infrastructure sector was Other (+9%), consisting of ports, satellites and merchant power operators. Although part of the broader infrastructure opportunity set, these companies are not included in our Focus List. They tend not to demonstrate the key infrastructure characteristics that we seek; namely pricing power, barriers to entry, predictable cash flows and structural growth. Gains were led by Emerging Markets port operators. Even the worst performing infrastructure sector for the month, Airports (+5%), delivered healthy returns as passenger volumes continued to trend positively in October.

The best performing infrastructure region was Asia ex-Japan (+10%), after investors’ views towards Chinese infrastructure stocks inflected positively. The worst performing infrastructure region was Latin America (-1%), reflecting a cautious response from financial markets to left wing candidate Lula’s win in Brazil’s presidential election at the end of October.

The Portfolio invests in a range of listed infrastructure assets including toll roads, airports, railroads, utilities and renewables, energy midstream, wireless towers and data centres. These sectors share common characteristics, like barriers to entry and pricing power, which can provide investors with inflation-protected income and strong capital growth over the medium-term.

Toll roads represent the portfolio’s largest sector overweight, via positions in European, Asia Pacific and Latin American operators. The sector is set to benefit from inflation-linked toll increases, with year-on-year toll uplifts of between 5% and 7% likely for many developed market roads. We expect this will lead to healthy earnings growth; while higher tolls may reduce demand to a certain extent, they don’t usually have a material impact on traffic volumes. We are alert to potential headwinds, such as an economic slowdown leading to a dip in truck traffic on longer distance roads; or lacklustre commuter traffic levels on some intra-city roads as the return-to-office trend settles. Overall however we expect toll roads to be strong performers in 2023 as toll increases support earnings growth, and demand proves more resilient than expected by the market.

The portfolio has a small overweight exposure to Towers / Data Centres. Consumers and businesses alike continue to move activities onto digital platforms, underpinning growing demand for communication infrastructure assets. 2023 is likely to see the continued rollout of 5G mobile technology, which will require tower leasing. In data centers, we expect users to seek IT efficiencies through a combination of colocation (facilities in which users operate their own data centre hardware) and cloud (the delivery of computing services, run from the cloud provider’s data centre) services. While the revenue outlook remains robust, we are conscious that rising interest rates may be more of a headwind to EPS growth than in previous years.

A substantial part of the portfolio consists of Utilities / Renewables stocks. Decarbonisation, electrification and resiliency spend represent large and growing investment opportunities for these companies. These investments drive utilities’ rate base growth, leading in turn to earnings growth. However, in the near term this growth is likely to be tempered by rising interest costs. There is also scope for greater regulatory and political risk. As higher energy prices push energy bills up, regulators and politicians may seek to offset this by setting lower allowed returns for utilities, or by introducing windfall taxes or price caps. Despite these headwinds, we still expect utilities to deliver reasonable earnings growth in 2023, underpinned by plentiful capital investment opportunities and aided by limited sensitivity to a weaker economic backdrop.

An underweight position has been maintained in the Energy Midstream sector, with exposure consisting of high conviction positions in companies that have secured long term contracts with reliable counterparties; or that are positioned to benefit from growth in US LNG exports. We remain conscious of the structural headwinds that Net Zero initiatives may present to this sector in the longer term.

Source : Company data, First Sentier Investors, as of 30 November 2022.