Quoted infrastructure again
In a blog a few months ago I noted that some quoted infrastructure funds were trading at unprecedented discounts to NAV after the collapse of Carillion. Since then they have recovered to zero or small premiums, but are still offering an inflation-correlated income stream of around 6% more than the risk free rate (index linked gilts). I’ve recently been engaged in a gentle debate in the FT comment columns on what happens to investor returns in the very long-term.
Beneath the bonnet are long-term infrastructure contracts and the funds’ published NAV is calculated from the Net Present Value (NPV) of the income streams derived from these. When the contracts are close to term, the NPV must start to decline sharply, as they will no longer have the annuity-like payment stretching out for years. So, unless the fund replaces them with new contracts, the NAV of its assets will also decline.
In practice, the funds probably will replace them, tapping investors for money via share placements to finance new investments. From an academic perspective, this is entirely correct, allowing shareholders to make a decision whether to invest in their new contracts. But investors who choose not to reinvest will find themselves diluted. For them, these infrastructure funds will bear some resemblance to a bond trading over par, effectively converting capital into income.
I still believe that at zero premiums quoted infrastructure funds are an attractive asset class particularly for long term investors, who place greater value on the predictable long-term and inflation-correlated income streams they provide. Others may attach more importance to the opportunity costs of locking in a return for a long period and find them less compelling: what happens, for example, if bond yields rise and the discount rate used to calculate their NAV rises?
Please do contact us if you have a different point of view.