The Infrastructure asset class has become a key component of diversified portfolios due to the stable nature of returns from long-term contracted cash flows and the potential for diversification across several subsectors. Infrastructure’s revenue streams are often linked to inflation (via contractual CPI adjustments) making the sector attractive to investors who have concerns about inflation. Additionally, the themes of carbon reduction, digital growth and sustainability are all continuing to create investment opportunities. Europe in particular is where these trends come together as even more of a focus caused by the continuing macroeconomic, political and regulatory trends in the region.
These factors contributed to high levels of deal activity in Europe, with more than US$40 billion being invested in European infrastructure in 2022, reaching a five-year high, according to Pitchbook.
Ardian Infrastructure also launched its latest Europe-focused flagship fund—Ardian Infrastructure Fund VI—with a €10 billion target, targeting brownfield transport, environment, renewables and energy assets in Europe.
It should also be noted that the second phase of the energy transition (the first phase being the de-risking and scaling up of core renewables technologies like solar and wind), started to become more apparent in 2023 and includes the development of the energy ecosystem to enable the carbon reduction efforts of economies. Together with the effects of the 2022 energy crisis, this means that the pace and scale of the transition have been amplified significantly. This second phase of the energy transition will most probably see investment into a wider array of infrastructure sectors and investment ticket sizes.
A barrier that is gradually being overcome to allow more capital to flow into the transition journey is a more common approach to definitions. Part of this work has been done through the adoption of the EU’s Sustainable Finance Disclosure Regulation (SFDR) for asset managers and other financial markets participants. This was established to facilitate capital flow towards sustainable finance. SFDR requires asset managers and other financial market participants to provide transparency on sustainability and imposes mandatory ESG disclosure obligations.
These regulations and the guidance given around fund objectives (e.g., Articles 6, 8 and 9 Funds) aim to create more transparency into their investment strategies and prevent greenwashing and claims that products are sustainable when they are in reality not.
Macroeconomic Issues
2023 has been challenging for EMEA infrastructure funds due to the ongoing macroeconomic issues. Increased inflationary pressure caused a rapid increase in interest rate hikes across EMEA. This has proved challenging for infrastructure funds, with higher interest rates contributing to increased yield expectations, leading to valuations being impacted. Additionally, returns in other less risky liquid asset classes have improved, leading to an increased level of sector rotation away from infrastructure.
It should be noted that declines in the attractiveness of infrastructure are primarily attributed to the external macroeconomic factors mentioned above, rather than inherent weaknesses in infrastructure fundamentals.
However, with interest rates expected to peak at the end of 2023 leading to a slowdown in revaluations, it is expected that this may lead to optimism returning to the market soon with some investors already taking advantage of improved valuations.
Outlook for 2024
Despite the macroeconomic challenges, the infrastructure market remains optimistic for several reasons, including:
As economic conditions improve and market sentiment shifts, infrastructure funds are poised to regain approval among investors seeking reliable income and capital appreciation. The outlook for the infrastructure sector remains promising, and with the right investment strategy and long-term perspective in place, infrastructure funds will continue to hold a crucial position in investors’ portfolios.
How SS&C Can Help
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References
1. Gravis Capital Navigating Macroeconomic Volatility in UK Infrastructure Funds, August 2023
2. DWS Infrastructure Strategic Outlook 2023, January 2023
3. White & Case Sector focus: European infrastructure financing flows, January 2023