Private market: Investing in infrastructure debt with a positive impact for the climate

 

Par Pierre Husser
Investment Manager, Asteria Investment Managers, REYL Intesa Sanpaolo affiliate

 

Infrastructures are essential services central to a well-functioning society. Investments in infrastructure such as renewable energy, sustainable mobility or waste recycling are at the heart of this secular transition that shall enable security of low carbon power supply and long term sustainable economic development. Furthermore, addressing climate change is the most pressing requirement for the planet and society. Sustainable infrastructure is at the forefront of government’s policies. Particularly, due to the impact of the Covid-19 pandemic on governments’ budgets, private capital will play a critical role in supporting governments meet the objectives implied by the Paris Agreement. It is the biggest and most attractive private market opportunity that we currently see and will remain for the long term. In Europe only, in order to achieve the EU’s stated Net-Zero 2050 objectives, around €3 trillion of private capital to be invested in infrastructure will be required over the next 30 years[1].

Historically seen as the remit of governments, constraint public spending drove the increasing need for private capital to finance infrastructure assets over the last two decades. This favorable environment led to the growth of the unlisted infrastructure funds. The diversified, attractive and resilient nature of infrastructure assets attracted the interest of an increasing number of institutional investors. Allocation is currently $640 billion and is forecasted to reach $1.87 trillion by 2026[2].

 

The growth of the infrastructure private debt market

Once perceived as a sub-set of alternative investments, infrastructure is now fully recognized as a separate attractive asset class in its own right. Infrastructure assets are financed through a mixture of equity and debt. This principle inherently splits the infrastructure private market between two segments: private equity and private debt. Private debt is predominant in volume, because debt represents around 75% of the financing package needed to run an asset. The remaining 25% is the private equity capital. Massive and stable, the infrastructure private debt volumes originated is around $275 billion per annum since 2007[3]. The lower volume of private equity opportunities weights on the dry powder’s deployment, and ultimately affects allocation net returns.

The attractiveness of infrastructure private debt for portfolio diversification                                                                                                                                     Returns for infrastructure private debt transactions in developed economies are ranging between 1.5% and 3% for the core market segment and up to 7% for higher yielding assets. Infrastructure private debt, hence, can be considered as a viable higher yielding alternative to listed corporate bonds offering an attractive illiquidity premium. As of December 2021, at equivalent BB-B credit rating range European infrastructure debt offers an average return of 4.5% versus 2.75% for listed corporate bonds[4].

It offers investors a different exposure than private equity infrastructure. Firstly, private debt higher volumes fasten capital deployment. Secondly, private equity dividend stream can be extracted from the assets only after servicing the debt first that often contains a dividend lock-up. Most of the private equity capital returns materialize at a long horizon, often with the sale of the asset. The latter future successes may turn compressed given the current high valuation entry point. Lastly, infrastructure debt is safer than private equity as it benefits from downside protections. The strength of these protections has been demonstrated during the Covid-19 impacted year 2020 with the very limited credit rating downgrades (-0.3% of issuers)[5] while generally preserving coupon and principal payments. On the other end, private equity infrastructure internal rate of return was nil at -0.1% for that same year[6], albeit rebounding since but to varying degrees based on the asset’s business model and sub-sector.

Icing on the cake in these uncertain times, Infrastructure debt exhibits favorable recovery rates compared to listed corporate credit. Moody’s research shows an average 80% recovery rate in the case of default with a 100% recovery in almost two thirds of cases. At a similar BB credit rating the 10-years probability of default is 8% and 18% for European infrastructure debt transactions and listed non-financial corporate (“NFC”) bonds respectively. Average recoveries amount to 55% and 38% for unsecured European infrastructure debt and unsecured NFC bonds respectively.[7]

Biography

Pierre Husser has 11 years of banking and asset management experience in private debt investments in renewable and infrastructure projects. He gained his professional experience working in the Structured Finance EMEA (Energy, Infrastructure and Natural Resources) department of Credit Agricole CIB London and Norddeutsche Landesbank Structured Finance Europe team in London. In these positions, he worked in portfolio and origination to bring deals to a financial close as well as meeting potential clients to develop new business opportunities in Europe. For the last five years, he worked for M&G Investments in London as a member of the Project and Infrastructure debt team, where he was in charge of the sourcing, origination, execution/closing and management of private and public debt investments across renewable, infrastructure with a global mandate to invest throughout the whole capital structure.

Pierre holds a Master’s degree in Finance from the Dublin Institute of Technology, Master in Management from the Copenhagen Business School and Bachelor in Business Administration from Strasbourg Robert Schuman University.

 

[1] Goldman Sachs Equity Research: The EU Green Deal, July 2020
[2] Preqin’s ‘2022 Global Infrastructure Report’
[3] Dealogic, excluding refinancing & oils, gas &mining sectors.
[4] European Infrastructure debt margin: Asteria IM; Corporate Bonds: ICE BofA European High Yield BB-B Index (HE40) as of Dec-21
[5] Moody’s Default and recoveries: COVID-19 one year on – infrastructure proves its resilience, May 2021
[6] Preqin’s ‘2022 Global Infrastructure Report’. Past performance is not a guarantee for future results
[7] Moody's "Infrastructure Default and Recovery Rates 1983–2017“