Infrastructure and real estate present varying ESG risks to institutional investors, but there are still opportunities to fund environmentally and socially responsible construction projects that offer acceptable returns.
By guest author Padraig Floyd, an Award-winning freelance financial journalist specialising in pensions, investment and wealth management matters and regularly covers business finance, insurance and governance issues. He is the former editor in chief of the UK pensions and investment group at the Financial Times.
Long-term infrastructure investments lie at the heart of Westminster’s latest plan to boost the nation’s economy. In the foreword to the government’s Build Back Better policy document, Boris Johnson writes: “We will redress Britain’s historic underinvestment in infrastructure, with GBP 600 billionn of gross public-sector investment over the next five years, so our United Kingdom becomes a truly connected kingdom.”
Infrastructure projects aren’t simply about building roads, bridges, ports and airports. They also deliver public institutions such as schools and hospitals. Social housing is also being targeted for investment. This is one of the main reasons why the government has been engaging with other big investors, such as pension funds, insurance companies and local authorities.
Investment is all about risk and reward. The bigger the risk you take, the more you should expect to receive in return. Infrastructure investments tend to tie up capital for longer periods. The so-called illiquidity premium they pay to compensate for this is what makes them attractive to investors.
Pension managers, insurers and sovereign wealth funds – for instance, the Saudi Arabian Public Investment Fund that recently bought Newcastle United Football Club – all take a long view when it comes to investment. Bonds – usually government-issued gilts – are a key component of their highly diversified portfolios, as these provide a relatively reliable income over the medium to long term with little risk. But the exceedingly low interest rates since the global financial crisis of 2007-08 have depressed bond yields, prompting investors to seek comparable returns elsewhere. This in turn is leading to increased allocations to asset classes offering a comparable balance of risk and return.
Many institutional investors have historically considered infrastructure projects too risky for the effort these tend to require. Their argument has been that you need specialist advice and the ability to negotiate the right price on the way in, or you’ll never achieve the returns you’re seeking. By contrast, they have seen real estate as a stalwart option for decades. Yet neither of those characterisations is accurate. The two sectors have experienced very different fortunes in recent years.