Global Mid-Market Infrastructure White Paper

FOREWORD by Ciaran Henry, Fiera Capital

The outcomes from investing in mid-market infrastructure are ideally placed to respond to the financial circumstances of the Local Government Pension Scheme (LGPS) where funding levels are relatively high, fund maturity is increasing and pension benefits are explicitly linked to (CPI) inflation. The reasons for this assertion are threefold.

Firstly, mid-market opportunities across the infrastructure asset class are global and so offer investors access to a combination of regulated, contracted and long-term assets as well as GDP growth across multiple geographies. In addition to strong diversification provided by a global portfolio, it also facilitates the selection of investments based on attractive value/risk balance characteristics present at a certain point in time across multiple geographies.

Secondly, infrastructure can offer an explicit or implicit positive correlation with inflation.

Thirdly, as a long-term advocate of investing through open-ended vehicles, we believe in a fund structure that not only aligns with the long-term pension liability profile of the LGPS but also the long-term nature of infrastructure assets and their corresponding return profile.

An open-ended fund structure allows investors to hold attractive infrastructure assets and be insulated from the pressure of selling due simply to the set timelines imposed by closed-ended funds. The closed ended structure perpetuates an approach where existing or prospective investors are approached to buy-back similar assets in a ‘new’ closed-ended fund, primarily for the benefit of the manager. We believe this investment behaviour is sub-optimal and encourages the practice of deploying capital into long-term assets but over relatively short investment horizons, thus creating a significant mis-match.

In addition to being a desirable investment in the context of meeting pension liability obligations, mid-market infrastructure provides strong diversification, active risk management and facilitates consideration of ESG issues. These are all factors which are positively encouraged by the Local Government Pension Scheme (Management and Investment of Funds) Regulations 2016 and the accompanying Statutory Guidance.

The LGPS is in a strong financial position as outlined in the Government Actuary’s Department report of September 2018 on the 2016 valuation. It’s our contention that the 2019 Valuations will show continued improvement in the funding levels in the context of strong financial markets. This continued upward trajectory means the LGPS Funds are in a favourable position to further diversify from traditional equities and fixed income into less volatile and more stable real return growth and income generative asset classes such as mid-market infrastructure.

Simultaneous to the higher funding levels, evidence suggests a trend of increased maturity levels whereby the proportion of active members is declining relative to pensioner and deferred members. This trend, which is set to continue in a climate of severe local authority and wider public sector finance constraints, is resulting in increasing numbers of LGPS Funds needing to generate additional and reliable income streams as Employee and Employer Contributions become increasingly insufficient to cover pensioner benefit payments. Mid-Market Infrastructure is one solution to help the LGPS provide stable cash flows to meet this need.

LGPS benefits are explicitly linked to and increased in line with CPI inflation. The Bank of England has a 2% inflation target and actively seeks to meet this target through policy action. Therefore, the LGPS needs to take action to address the inflation risks it faces now and in the future. An array of mid-market Infrastructure projects can help provide inflation linkage.

This document explores the appeal of open ended mid-market infrastructure investing to the local government pension scheme.

Whitepaper Contents

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1. The Appeal of Mid-Market Infrastructure Investing
1. Executive Summary
2. Definition of Infrastructure as an Asset Class
1. Long-lived assets
2. Regulated or substantially contracted revenue stream
3. Limited demand and usage risk or well-established usage pattern
4. Strong competitive positions with high barriers to entry
5. Strong margins and stable cash flow
6. Positive correlation with economic growth and inflation
3. The Development of Infrastructure as its Own Separate Asset Class
4. The Benefits of Infrastructure in a Diversified Portfolio
1. Diversifying asset class
2. Low correlation with traditional asset classes and economic cycles
3. Stable and predictable cash yield with potential for capital growth
4. Protection against inflation, including inflation-linked returns
5. The Future Demand for Infrastructure
   1. Government spending
   2. Enviromental considerations
   3. Aging infrastructure
   4. Financial and human resources
   5. Increasing demand
6. What is Mid-Market?
7. Why is Mid-Market Attractive?
8. Finding Success as an Investor in the Asset Class
   1. Leverage of long-standing relationships
   2. Thorough deal-screening process
   3. Prudent risk management
   4. Active asset management
9. Fiera Infrastructure’s Differentiator as a Global Mid-Market Manager
10. Disclaimer