Why there is currently not enough infra debt to go around

The answer in the short term is most certainly yes, but in the longer term probably no.

Infrastructure – the combination of physical structures that are essential building blocks of society – has been supported and, in the past, predominantly funded by the public sector.

The role of the public sector will continue to shrink, and more and more borrowing will be carried out by private entities

That has been either with direct sovereign or municipal borrowings or via state-owned enterprises and regulated utilities. 

With the declining financial flexibility of the public sector and the migration of infrastructure assets into the private sector there has been an increasing demand for private debt.

This debt, more than $100bn (£59.5bn) a year over each of the past four years, has been provided mostly by banks through their project finance departments. 

However, with the rise in funding margins between 2008 and 2010 caused by banking regulations, and the recognition that the credit characteristics are particularly attractive, a number of pension plans and insurance companies allocated significant quantities of capital to the area. 

These investors have found the long-term amortising nature of the cash flows, combined with the non-volatile valuations with minimal correlation to alternative asset classes, particularly desirable.

However, this steady increase in demand combined with the newfound willingness of a number of banks to maintain or increase their presence in the segment – due to a normalising need for immediate liquidity – has led to a subsequent ease in the funding margin environment, and borrowers have capitalised on the situation. 

While this decrease in margins has been meaningful, on a relative basis to alternative credit investments, the reduced margins still remain attractive for many investors.

The public-private shift

Recent transactions in the UK core-infrastructure market that have cleared syndication with significant oversubscription have been pitched in the sub-200 basis point range over Libor, still providing investors with an approximate 80bp premium over similarly rated public debt.

Looking to the future, the role of the public sector will continue to shrink, and more and more borrowing in the sector will be carried out by private entities. 

In addition, due to postponed maintenance and replacement during the great recession, forecasts for global infrastructure capital expenditures over the next 10 years are in the tens of trillions of dollars. 

The vast majority of this will be debt, as infrastructure assets can accommodate relatively high loan-to-value ratios.

This increase for new and replacement infrastructure is well beyond the financial capacity and willingness of the public sector and will lead to a rapidly increasing demand for private sector involvement. 

There has been strong pressure brought by the governments to encourage long-term investors to put proportions of their portfolios into the infrastructure sector, but even the most optimistic aspirations will be well short of the needs of society. 

In addition to the moral argument for pension plans and insurance companies to invest in their local infrastructure, there are likely to be regulatory revisions that will encourage such behaviour, either directly in their local economies or indirectly through pooled and actively managed funds. 

All of these combined would lead to the expectation that infrastructure debt has a robust and vibrant future, most probably limited only by the capacity of the public sector to legislate, license and permit such projects.

Bob Dewing is managing director for infrastructure debt at JP Morgan Asset Management