At a recent Infrastructure conference at the New York Society of Securities Analysts, investment professionals discussed the opportunities for investment in infrastructure projects.  Here are some of their salient points for investors:

First, what is infrastructure?

Infrastructure projects can range from bridges, roads, ports, power plants, railroads, electricity or water delivery projects, oil and energy pipelines.  Hospitals are sometimes added to the infrastructure category, especially if they are located in an emerging market.  Telecom investment too, can be considered infrastructure investment in lesser-developed economies.  Africa was frequently mentioned as an opportunity because the majority of the continent lacks electricity.

Why is infrastructure an important part of asset allocation?

The performance of Infrastructure investments is independent of financial markets and can therefore, lower the overall risk of an investor’s overall portfolio.  Because projects are inherently long-term due to multi year schedules to plan, build, and finance (click here to see the Tappan Zee replacement project), investment returns need to be evaluated on a project or multiyear basis.  It behooves the investor to be patient until a project is completed and operational for the bulk of the investment returns.

Financing long-term projects can be complex and the way they are paid for is changing.  Historically, municipal bonds raised the revenue for public projects.  Post global financial crisis, however, public and private partnerships have become a more popular vehicle for raising funds.  Conference speakers noted that pension funds, for example, find infrastructure investments an attractive way to earn long-term positive returns in a low-interest rate environment.  They may join forces with a public authority as a partial investor or be part of a group of private investors.

State of infrastructure in the US – and how the investor can benefit

The US has fallen behind in infrastructure spending, both for maintenance and new projects.  While municipalities have historically financed projects on their own – thereby avoiding the Federal government log-jam – even cities are facing voter pushback.  In America, local governments pay for most infrastructure projects and repairs – while in other developed countries, such as Canada and Australia, centralized authorities authorize and finance costs.  On a per capital basis, the US spends far less than developed counterparts.  One speaker noted that the US spends $1200 per citizen annually, far less than the $2000 spent in Canada or $2400 in Australia.  In 2012, for example, the US government spent under $100 billion on infrastructure projects while spending $678 billion on defense.  In contrast, China spent $150 billion on infrastructure projects and $250 billion on defense.  Clearly we are piling up projects that have to be done sooner or later!

How to invest in infrastructure?

Several of the largest fund families have launched mutual funds and there are also several ETFs[1] that specialize in infrastructure investments.  Another way is to invest in companies that specialize in supplying the parts or logistics for infrastructure projects.  Most importantly, remember that this is a long-term investment theme, so consider your long-term strategic asset allocation when investing, rather than making a judgment on short-term performance..

Estimates total government shutdown costs to the US economy at $24 billion, about .6% of annual gross domestic product.  And although the standoff was resolved with a provisional agreement to raise the debt ceiling and pass a funding bill through February and January 2014 respectively, it’s hard to feel relieved that the showdown between lawmakers is over – because it isn’t.  Despite this negative overhang, markets like to focus on the here and now so the current preoccupation is company earnings.

A good year to be an equity bull – a top down perspective

Since the October 17^th resolution, markets have quickly rebounded and Bloomberg notes that the equity market is up 24% year to date.  Positives include:

• Company earnings have been generally favorable to support a continued stock rally.  Strategists are predicting that an expansion in price-to-earnings multiple may propel the next advance.
• Investors are seeking risker areas of the market to drive gains.  Small cap stocks, generally a proxy for economic expansion, are outperforming large cap stocks by about 6% year-to-date.
• Sectors with high proportion of overseas earnings – such as Technology and Materials –  are perking up from last year’s malaise as Europe emerges from recession, China appears to have stabilized, and select emerging markets are serving middle-class consumers, think Mexico.  Anecdotally, I recently spoke with a strategist who extolled investment opportunities in Ireland and Spain financials, recently considered areas to avoid.  And Abe-economics has stoked the Japanese market to outsize gains around 38%.