A monthly review and outlook of the Global Listed Infrastructure sector.
Market Review - as at September 2018
Global Listed Infrastructure declined in September as a combination of rising interest rates, political interference and equity issuance dampened returns.
The best performing infrastructure sector was Railroads (+4%) after Union Pacific announced a change in operating model to improve efficiency of its US freight operations after years of lagging performance. Japan passenger railroads also performed well as the market started to value their defensive qualities.
The worst performing sector was Ports (-6%) as the market feared an escalating trade war between the US and China would impact global trade. Pipelines (-3%) lagged on delayed projects and an overhang from equity issuance.
The best performing region was Japan (+8%) as investors searched for defensive exposure outside the expensive US market. The worst performing region was Australia NZ (-3%) reflecting higher-than-normal political and regulatory uncertainty and some indigestion from the large Transurban equity raising.
Asset Allocation (%) 1
Top 10 holdings (%) 1
The worst performing stock in the portfolio was Brazilian tollroad CCR (-10%) as economic and political turmoil and an investigation into corruption continued to weigh on the stock. While these concerns should not be dismissed, at current levels of 8x PE and 8% yield the market is heavily discounting the existing concessions and attributing no value to the company beyond. Passing of the election and a negotiated settlement could shift investor attention back to its fundamental value. In Australia, a consortium led by Transurban (-6%) bid A$9.3 billion for a 51% stake in Sydney’s WestConnex motorway network. While a full price was paid, key construction risks remain with the government and the operating synergies and debt structures were better than expected. The deal also cements the company’s presence in the Sydney market and enhances the optionality from future connecting tollroad projects. Similar to the 2015 acquisitions in Brisbane, we expect the stock to recover once the large rights issue is digested and further details on WestConnex come to light.
In the UK, the prospect of a “no-deal Brexit” weighed on the local market. Threats to return regulated utilities to public control were repeated by the opposition Labour leader, impacting Severn Trent (-8%) and National Grid (-2%). Severn Trent now trades at a 10% premium to regulatory capital value, a small premium given its material outperformance of allowed recoveries on operating and capital costs. Meanwhile SSE (-9%) warned of lower than expected profits for the year, as poor wind conditions and high gas prices worked against their hedging positions. While a disappointing outcome from a usually conservative management team, this activity will be curtailed with the planned demerger of its retail business.
Pipelines including TransCanada (-5%) and Williams (-7%) were impacted by rising interest rates and project delays. Recent equity issuance in the sector may have created some short-term overhangs, but the resulting simplifications are a long-term positive.
On a more positive note, a number of stocks bucked the negative trend. Gibson Energy (+7%) continued to execute the sale of non-core assets with proceeds likely to be at the high end of prior guidance. Hydro One (+3%) recovered after the Ontario utility confirmed the appointment of a new chair and the extension of their merger with US utility Avista. Norfolk Southern (+4%) continued to rise with US freight rail volumes up nearly 5% in the third quarter, the 8th consecutive quarter of growth for the sector.
Japan was the standout performer with Osaka Gas (+8%), West Japan Railway (+7%) and East Japan Railway (+6%) delivering positive outcomes. Investors are searching for defensive names beyond the increasingly expensive US market. The railways trade at appealing valuation multiples and offer exposure to steady growth in shinkansen business passengers supported by an increasing share of international tourists.
1 Source: Lipper & First State Investments. Single pricing basis with net income reinvested. Data as at 30 September 2018. Fund since inception date: 3 March 2008. *Inception - 31 May 2008: S&P Global Infrastructure Index. 1 June 2008 – 31 March 2015: UBS Global Infrastructure and Utilities 50-50 Index. From 1 April 2015: FTSE Global Core Infrastructure 50/50 Index.
Market Outlook and Fund Positioning
The Fund invests in a range of global listed infrastructure assets including tollroads, airports, ports, railroads, utilities, pipelines, and wireless towers. These sectors share common characteristics, like barriers to entry and pricing power, which can provide investors with inflation-protected income and strong capital growth over the medium-term.
Tollroads represent the Fund’s largest sector overweight. Tollroad operators provide an essential service in congested corridors. Traffic volumes tend to be resilient and inelastic to price increases. Transurban has a dominant market position within Australia’s largest cities and significant optionality to further enhance its networks. Peers in Europe, China and Latin America face greater political and economic challenges, but these risks are fully discounted in current valuations.
Energy pipelines offer exposure to regulated or contracted assets. Sentiment towards the sector is improving as companies have taken steps to sell non-core assets, reduce leverage and simplify corporate structures. The sector is well positioned to benefit from structural growth in North American energy exports.
The Fund remains underweight airports and some US utilities. Despite strong growth prospects and high quality assets, many companies in these sectors are trading at valuations that we find difficult to justify based on company fundamentals.
Overall, recent performance has been impacted by rising interest rates and political interference. With these key risks now discounted into valuations, there should be greater confidence in future returns.
This document is prepared by First State Investments (Singapore) (“FSI”) (Co. Reg No. 196900420D.) whose views and opinions expressed or implied in the document are subject to change without notice. FSI accepts no liability whatsoever for any loss, whether direct or indirect, arising from any use of or reliance on this document. This document is published for general information and general circulation only and does not have any regard to the specific investment objectives, financial situation and particular needs of any specific person who may receive this document. Investors may wish to seek advice from a financial adviser and should read the Prospectus, available from First State Investments (Singapore) or any of our Distributors before deciding to subscribe for the Fund. In the event that the investor chooses not to seek advice from a financial adviser, he should consider carefully whether the Fund in question is suitable for him. Past performance of the Fund or the Manager, and any economic and market trends or forecast, are not indicative of the future or likely performance of the Fund or the Manager. The value of units in the Fund, and any income accruing to the units from the Fund, may fall as well as rise. Investors should note that their investment is exposed to fluctuations in exchange rates if the base currency of the Fund and/or underlying investment is different from the currency of your investment. Units are not available to US persons. Applications for units of the Fund must be made on the application forms accompanying the prospectus. Investments in unit trusts are not obligations of, deposits in, or guaranteed or insured by First State Investments (Singapore), and are subject to risks, including the possible loss of the principal amount invested.
Reference to specific securities (if any) is included for the purpose of illustration only and should not be construed as a recommendation to buy or sell the same. All securities mentioned herein may or may not form part of the holdings of First State Investments’ portfolios at a certain point in time, and the holdings may change over time. In the event of discrepancies between the marketing materials and the Prospectus, the Prospectus shall prevail. First State Investments (registration number 53236800B) is a business division of First State Investments (Singapore). This advertisement or publication has not been reviewed by the Monetary Authority of Singapore.
Commonwealth Bank of Australia (the “Bank”) and its subsidiaries are not responsible for any statement or information contained in this document. Neither the Bank nor any of its subsidiaries guarantee the performance of any investment or entity referred to in this document or the repayment of capital. Any investments referred to are not deposits or other liabilities of the Bank or its subsidiaries, and are subject to investment risk, including loss of income and capital invested.