Kempen Global Listed Infrastructure: Infrastructure review and outlook
A challenging 2020 for the Infrastructure sector - volatility turned into Alpha
The start of last year was still positive. However, the markets corrected strongly in the second half of February due to the adverse economic impact of lockdowns in response to the global coronavirus outbreak. With both the supply- and demand-side impacted, the consequences for certain infrastructure assets were significant. The lock-down of economies had a severe impact on toll roads and airports traffic volumes. In addition, the collapse of the oil price drove share prices of pipeline companies lower – despite the fact that they often have take-or-pay contracts (no volume risk). The relative inelastic demand of utilities and communication infrastructure made the companies more resilient. Digital infrastructure (data centers) were winners from the lockdown.
As lockdowns were eased in spring, markets recovered from their lows. However, the uncertainty of the impact of COVID-19 and the recovery made forecasting even more challenging, especially for the infrastructure subsectors for which volume is driven by economic activity and consumer confidence. Having said that, we saw early indications of a recovery in volumes for toll roads (-45-55% YoY in summer vs. -80%-85% in April), while passengers in airports remain depressed at -97%-98% given the travel ban.
News of the vaccine shortly after the US presidential election results caused a rally in the stock markets and a rotation towards value in November. The more cyclical infrastructure benefited from this. The sectors left behind during the COVID-19 pandemic – mainly transport infrastructure and energy transport - performed strongly in November. On the other hand, the digital infrastructure, which had benefited during the lockdown and working from home, and more defensive utility sector underperformed. Put simply, the market bought “going out”, and sold “lockdown”.
The rotation in the last quarter reduced the performance gap of Transportation vs. Utilities and Communication Infrastructure in the last quarter of 2020 – as seen in figure 1. Although the gap the narrowed, airports, toll roads and passenger rail were still down by almost 15-35% in 2020. On the other hand, ports and especially freight rail performed significantly better. The latter benefitted from re-stocking in H2, take-or-pay contracts and better PSR (Precision Scheduled Railroading). The demand for ESG themed stocks resulted in better performance for Electric and Water utilities over Gas utilities. Datacenters were the best performing subsector overall, while towers traded lower in H2.
Our fund was able to outperform the market in the initial downturn and the subsequent recovery – generating alpha in all quarters of 2020. As a result, the fund beat the benchmark by more c.520bps (net return, Class I) in 2020 – its second year of strong alpha generation. Overall, the fund was down 6.8% (net return, Class I) in 2020, while still being up 20% since inception (or almost 10% annually).
Stimulus and improved earnings momentum - underpinned by the search for yield
As we move into 2021, we expect the asset class to benefit from less restrictions, improved earnings momentum and increased infrastructure investments. The sector offers attractive value opportunities, which are again underpinned by the various takeover offers in the second half of 2020.
However it will get worse before getting better. The increased restrictions, fueled by worries over the virus mutations, will result in economic contraction again. In addition we have varying speeds of vaccine rollouts globally (where developed markets will have an advantage), add uncertainty to lockdowns easing given the interconnected world we live in. We believe that unprecedented fiscal and monetary stimulus will continue to support the economy, and with the re-opening of the economy on the back of the vaccine roll-out could result in inflationary pressure with yields increasing – albeit still from a low base.
Although infrastructure assets have contracts which are typically linked to inflation, long duration assets are more sensitive to rate increases. The return for regulated assets is adjusted every regulated period – allowing them to adjust the cost of capital for increasing yields.
After the vast amount of monetary stimulus to support the global economy we have seen in recent years, we are likely to see more fiscal stimulus. Infrastructure investment is an obvious way of further boosting the economy. In the US and Europe, existing infrastructure will have to be improved and new assets will have to be built. And of course there’s likely to be huge further infrastructure investment in China.
Looking beyond the pandemic - 2021 to complete our 3yr track-record
With the market turning more positive on the back of the vaccine roll-out since November, we are cautious about the overall valuation but still see opportunities. We have added more risk to our portfolio, by selectively investing in airports, since last summer. However, we reduced some active positions following the rally. We keep a balanced portfolio currently as the uncertainty in market – combined with the valuation – does not reward moving significantly up the risk curve in our view.
In 2020, the pandemic caused an unprecedented disruption to passenger travel. With the second wave and reinstated restrictions, the start of 2021 will remain sluggish. We expect the recovery to vary per sector, with volumes at toll roads recovering faster than airports. We still see the long-term growth prospects of the latter, but it will be less pronounced given the structural impact on business travel and environmental considerations. What is more, we expect short-term uncertainty to remain elevated with expectations getting ahead of reality. Having said that, we believe that European hubs with exposure to growth markets will outperform regional airports during the recovery in the mid- to long-term. Overall, we continue to favour toll roads over airports given the quicker recovery (i.e. you’ll be driving to work before you’ll be allowed to fly internationally).
We have seen Renewable Energy shares reweight strongly last year on the back of demand for ESG themed stocks, supported by the Blue Wave. As such, we believe there are more attractive risk-reward opportunities in the utility sector. We believe utilities continue to be the center of the new energy system, while significant investments will be required to facilitate the energy transition – driving further growth of the sector. We see the companies which embraced the energy transition at an early stage, continue to outperform and benefit from a growing, more mature market. In addition, we believe the required growth in transmission and distribution networks is not fully reflected by the market.
The digital infrastructure market was resilient in 2020. As COVID-19 has accelerated the digitalization of society, increased demand will continue to result in extra investments for both datacenters and communication towers. The long-term, inflation-linked, contracts provide visibility and stability, while market consolidation and expansion drives further growth. We believe that the rotation trade (towards value) has resulted in interesting investment opportunities in the space again.
In conclusion, the volatility of 2020 created longer term opportunities, and as well highlighting secular trends such as digitization and the energy transition, that we expect to continue for the years ahead.
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This document is prepared by the fund managers of Kempen (Lux) Listed Infrastructure Fund (‘the Fund’), managed by Kempen Capital Management N.V. (‘KCM’). The views expressed in this article may be subject to change at any given time, without prior notice. KCM has no obligation to update the contents of this article. As asset manager KCM may have investments, generally for the benefit of third parties, in financial instruments mentioned in this article and it may at any time decide to execute buy or sell transactions in these financial instruments.
This article does not contain investment advice, no investment recommendation, no research, or an invitation to buy or sell any financial instruments, and should not be interpreted as such.
This article is based on information that we consider reliable, but we do not represent that it is accurate or complete, and it should not be relied on as such. The views expressed herein are our current views as of the date appearing on this article. This article has been produced independently of the company and the views contained herein are entirely those of KCM.
Kempen (Lux) Global Listed Infrastructure Fund (the “Sub-fund”) is a Sub-fund of Kempen International Funds SICAV (the “Fund”), domiciled in Luxembourg. This Fund is authorised in Luxembourg and is regulated by the Commission de Surveillance du Secteur Financier. Kempen Capital Management N.V. (KCM) is the management company of the Fund. Kempen is authorised as management company and regulated by The Netherlands Authority for the Financial Markets. The Sub-Fund is registered under the license of the Fund at The Netherlands Authority for the Financial Markets.
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