According to Preqin, a research firm that investigates the private equity financing market, investors in infrastructure have poured $195.6 billion into unlisted infrastructure funds since 2004. The marketing materials that promote these funds commonly discuss two benefits:
- Diversification of the equity risk that is often present in the portfolios of sophisticated investors; and
- Hedge against the risk of inflation.
The fund promoters say these benefits accrue to investors because economic value of infrastructure projects are not driven by factors that commonly impact growth in the economy and the enterprise values of companies that commonly finance their activities in the equity markets. The projects are essential to the daily operations of households and businesses and their revenue contracts are often tied to changes in aggregate price indexes such as the Consumer Price Index in the United States.
We are nearly ten years on in the financing of infrastructure projects in the private market. Do these investment funds deliver the investment outcomes that they promise?
To address this question, we conducted regression analyses of the total returns of two infrastructure funds that invest in listed infrastructure: Fund A is a mutual fund sponsored and managed by a large U.S. fund company and Fund B is a closed-end fund traded on the NYSE that is sponsored by a U.S. fund company and sub-advised to the largest private equity manager in the infrastructure financing market. If the investment strategies were to accomplish what they advertise, we would expect to see a low correlation of the funds’ investment returns to the returns of the S&P 500 and a high correlation to the Consumer Price Index. We found the opposite. The total returns of the funds were highly correlated to the S&P 500 and not so well correlated to CPI. We offer greater detail in our report What Really Drives the Performance of Infrastructure Funds? posted on this web site.
We recommend that the sophisticated institutional investors who have committed nearly $200 billion to infrastructure funds critically analyze the nature of the returns that they are receiving. Our conclusion is that they are capturing the beta of the general equity market and doing so with an expensive private equity fee structure.
-William M. Fitzgerald
Researched by Kelsey Smith
October 18, 2012