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Infrastructure as an investment has taken on a new appeal as the global economy enters a period of volatility with worries about rising inflation and interest rates.
While not recession-proof, these investments are recession-resistant. In good times or bad, we use roads and need electricity and natural gas to heat our homes. Infrastructure is the economy’s version of plumbing – the underlying systems we depend on in all conditions.
The companies tend to be large and are often monopolies or close to them given the size of their operations and the amount of money needed to invest in new facilities. But they come with predictable cash flows and dividend streams.
“Infrastructure is an unsexy investment,” says Chris McHaney, director and portfolio manager in the global structured investments group at BMO Global Asset Management (BMO GAM) in Toronto. “It’s not going to blow the doors off with high growth, but it’s a type of investment that’s showing its benefits in a market like this.”
While the sector was once the domain of pension funds, the proliferation of exchange-traded funds (ETFs) has made it more accessible to retail investors. Pipelines, power and water utilities are still its mainstays, but many include airports, toll roads and telecommunications companies.
Mr. McHaney manages BMO Global Infrastructure Index ETF ZGI-T, which was among the first ETFs BMO GAM launched in 2009. It has $453-million in assets under management (AUM) and 92 per cent of the holdings are in Canada and the U.S. About a third of the portfolio is in energy pipelines, another third in electric utilities, and 20 per cent is in real estate investment trusts that own such things as cell towers.
Himanshu Sharma, managing director and head of fundamental research at TD Asset Management Inc. in Toronto, says in an inflationary environment these firms have the added benefits of being able to pass on increases to their customers. An added appeal in the current environment is a strong post-pandemic rebound after two weak years.
“If you think about toll roads or airports revenue, they’re beneficiaries of reopening,” says Mr. Sharma, portfolio manager for the TD Active Global Infrastructure Equity ETF TINF-T, which was launched two years ago.
The fund has $88-million in AUM with holdings that are broader than the BMO ETF. About 60 per cent of its companies are in Canada and the U.S. and 40 per cent are in Europe and Asia, including 10 per cent in emerging markets.
Mr. Sharma has recently added a financial services component to his fund, arguing that companies that offer payment networks are infrastructure at a time when online transactions are growing globally.
“Payment networks are essential to any kind of economic activity,” Mr. Sharma says. “It’s just like a toll. If you think about it, each time we use Visa or Mastercard, the transaction flows through their network, just like a toll road.”
Both analysts see infrastructure as providing a good portfolio diversifier with a blend of conservative growth and steady income. Share prices are unlikely to rise quickly but appreciate slowly over time. For investors approaching retirement, the sector offers less volatility in share price; and for those with a long-term horizon, a way to grow with the economy.
“It is a stable foundation for any portfolio,” Mr. Sharma says.
What investors need to watch out for
Still, infrastructure investments carry some risks. There’s potential for government meddling as the services they provide are considered vital.
Hydro One Ltd. H-T investors learned that lesson when now Ontario Premier Doug Ford took aim at pay raises for executives during the 2018 provincial election campaign, somehow equating executive pay with high electricity prices. Once elected, Mr. Ford replaced the chief executive officer and board of directors and forced Hydro One to abandon plans to buy a utility in Washington State. Those moves sent the share price tumbling.
Mr. Sharma notes that during the pandemic, China’s government forced toll road operators to suspend tolls.
Another characteristic is the high levels of borrowing needed to build new facilities, which often take years to finance before they come on stream. In an inflationary environment, building costs rise as do debt servicing costs as interest rates rise.
Meanwhile, both funds have gained this year as investors view them increasingly as places of safety in a challenging environment. Year-to-date, BMO Global Infrastructure Index ETF is up 4 per cent, while the TD Active Global Infrastructure Equity ETF is up 1 per cent.
By comparison, the S&P/TSX Composite Index is down 6 per cent so far this year.
Adam Mayers is a contributing editor to the Internet Wealth Builder investment newsletter.
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