According to Standard & Poor’s study titled Global Infrastructure: How To Fill A $500 Billion Hole, the funding needs for infrastructure around the world will be over $3 trillion annually over the next 16 years. Yet capital investment by governments in the U.S. and Europe has dropped from about 3% to 2% of GDP since 2009, leaving a gaping hole in funds that are required to pay for economically-vital transport, power and water projects.
This leaves an opportunity for investment institutions such as insurance companies and pension funds to fill the breach. The report estimates that investors’ allocations to infrastructure worldwide could rise to an average of about 4% of assets under management over the next five years, more than double the current level.
That could potentially provide about $200 billion per year in additional funding for the sector. Alongside a continuation in bank lending at today’s levels of about $300 billion a year, these new inflows from the private sector could fill the void left by government budget reductions.
The report notes that some institutional investors, principally pension funds, have already raised their target allocations to the infrastructure sector to between 3% and 8% of their assets under management. Standard & Poor’s expects that other institutions will also increase their commitments, attracted by the match these assets can offer against their long-term liabilities and the higher yields available on infrastructure debt.
The creditworthiness of infrastructure debt, as measured by Standard & Poor’s default and recovery rates, is also relatively strong, and we expect this to continue. The average annual default rate for all project finance debt rated by Standard & Poor’s since 1998 is just 1.5%–less than the 1.8% default rate for corporate debt issuers in the same period. And project finance debt also delivers a better rate of recovery when defaults do happen.
“The need for infrastructure investment worldwide is massive, the attractions of the asset class are clear, and the appetite of investors for infrastructure assets is growing. All that is needed for more institutions to get involved are the right conditions and incentives,” Michael Wilkins, Managing Director in the project finance ratings team at Standard & Poor’s and lead author of the study, said.
Measures that will encourage fund managers to invest in infrastructure debt include a clearer pipeline of projects, more standardization of deal structures, policy stability, and better information about the performance of projects at their various stages.
“Prudential regulation needs to be carefully calibrated too, in order to avoid raising unintended barriers to infrastructure investment,” Wilkins added.
In Europe, for example, risk capital charges proposes for insurance companies under Solvency 2, scheduled to take effect in 2016, may discourage insurers from providing infrastructure financing, as it could penalize them for holding long-dated, low to mid-investment grade project debt.