Private investors care more about whether an investment is based on established practices than if it is "greenfield".
Many policymakers believe that private financiers are only really interested in investing in projects that already generate an income and do not want to invest in building new infrastructure. This is an oversimplification. There is little about the design, construction, operation, or revenue structure of some new infrastructure that cannot be mitigated through contracts based on established practices. Securing private finance is a problem only when a project is very innovative or unusual, or involves new technology or markets, making its operational and financial performance difficult to predict. Explicitly recognizing and communicating these distinctions can attract private finance to new categories of infrastructure in the future.
Higher prices, shorter terms, and reduced capacity for large underwriting by banks may extend well beyond the current financial turmoil.
Overall commercial bank lending for infrastructure projects proved remarkably resilient in 2008 and 2009, despite the global economic crisis. But there was reduced lending in some sectors that rely on long-term lending, particularly concessions and public private partnerships. For all debt, there have been material changes to terms and cost. As a result, many transactions have proceeded with a "club" of banks collectively arranging the debt rather than using the traditional underwrite-and-syndicate process. Shortened terms may make bank lending more suitable for the construction phase of many projects.
Capital markets may help fill the long-term infrastructure finance gap - if several key obstacles can be overcome.
While there remains a market for well-structured transactions, overall demand for long-term infrastructure bonds has declined dramatically, despite the apparent attraction of such products for long-term investors, such as pension funds, that aim to match their assets with their liabilities. This decline is particularly noticeable in the bond market for public-private partnership and concession-type projects, largely because of the collapse of the monoline insurers. Apart from providing insurance against defaults and thus enhancing the credit rating of
the underlying investments, the monolines supplied the transaction skills and due diligence that many capital markets investors were unable to supply for themselves. The challenge now is to reinvigorate the capital markets for infrastructure. This may include changing the risk profile to raise the underlying rating, encouraging the development of substitutes for the guaranteed bonds the monolines offered, or building transaction skills in the banks involved in infrastructure bond issuance.
Applying a regulated asset-based approach such as those often used by utilities may mobilize more private investment.
Regulated infrastructure utilities have been successful in continuing to issue bonds in the current economic climate. This raises the question whether the regulated price and asset-based approach that underpins the utilities' business model should be adapted for other types of infrastructure, such as those projects more typically employing a concession-based approach. A regulated approach reduces long-term risk transfer to the owner or operator in exchange for limiting the upside of investment return. This may be attractive to many investors though governments will have to consider the risks they themselves will then incur. The specifics of each project and the policy priorities of governments will determine whether this approach will be appropriate.
Specialization will be important to the development of infrastructure funds.
There is currently a prevalence of general and private equity-type funds that focus on a range of different sectors in developed markets. Many also do not differentiate between transaction approach such as concession contracts and privatizations. By contrast to the general nature of many funds, the economic crisis has highlighted the variation between infrastructure types as some subsectors have been largely immune to the economic turmoil while others (such as those that rely on user demand) have been more exposed. We believe these variations in the performance and specific charateristics of infrastructure types will lead to the development of more specialized funds that will help investors discriminate between different opportunities. This may be an important factor in channeling the massive amounts of uncommitted capital that has been raised in recent years into viable investment opportunities.
The uneven availability of offerings in different markets may accelerate fund activity and investment in emerging markets, particularly the BRIC countries.
As the full effects of budget deficits materialize, there may be fewer opportunities to invest in established markets. Conversely, there may be more opportunities to invest in emerging economies that have increasingly stable political, legal, and economic regimes. This push/pull
effect may be dampened by the desire to offset budget deficits through asset sales that could maintain interest in established markets.
Retail participation in infrastructure projects is likely to grow.
Retail investors in infrastructure projects have experienced very mixed fortunes to date, and several serious obstacles must be overcome before involving them more widely. Nevertheless, there have been some successful examples of retail participation in the infrastructure markets. We think that retail participation will increase over the next few years, as understanding of the infrastructure offering improves.
Pension funds may not invest as much as many believe until key obstacles are overcome.
Many believe that the amount of money that pension funds invest in infrastructure will increase significantly in the short term. This may be true for some of the larger pension funds that have an established position in the infrastructure market. However, many pension fund managers, often from smaller funds, still regard infrastructure as a specialist investment. Moreover, there is a geographic mismatch between the places in which most pension funds are held and the places in which there are infrastructure investment opportunities. The infrastructure community must therefore help to develop a better understanding of the asset class within the wider pension fund manager and trustee community to promote a broader mobilization of institutional capital in the future.
Governments may increasingly become financiers as well as procurers of infrastructure.
The role of governments as financiers grew in the recent financial crisis as the amount of long-term debt available was severely constrained. Different countries have taken different approaches, and the means they have adopted to stimulate private finance vary accordingly and range from capital contributions to co-lending and debt guarantees. However, one common issue is how and when government support will be withdrawn. A second is whether countries should set up state-owned infrastructure banks. Several such banks already exist, operating at both national and regional levels, and we anticipate that more will be established in the next few years.