The insatiable need for global infrastructure investment
Infrastructure investment across the globe is set to grow strongly over coming decades. We believe that growth will, by necessity, be increasingly funded by the private sector including via the global listed equity market.
For investors, and their advisers, global infrastructure will increasingly offer an outstanding opportunity to gain access to very attractive assets as well as participate in the long-term development of crucial infrastructure around the world.
Below we address the three key questions that explain why private sector infrastructure investment is set for strong growth.
1. What are the driving forces behind this insatiable need for infrastructure investment?
Over the past 50 years there has been a chronic infrastructure underspend by governments across the globe. This has been driven by several factors, including governments looking for short-term electoral success and prioritising near-term fiscal handouts at the expense of longer-term investment.
In addition, the global financial crisis (GFC) had a profound impact in changing government spending priorities away from investment towards then-more pressing needs, such as propping up banking systems.
However, as the world increasingly moves out of the post-GFC shadow, there are numerous strong currents underpinning a need for infrastructure investment.
Synchronised global economic growth
Commencing late 2016/early 2017, we now live in a rare economic environment – one of synchronised global economic growth. The recovery looks to be strengthening and potentially even accelerating.
Economic growth in a country brings a number of consequences, including an expanding economy which itself demands new/better infrastructure arteries to support that growth and standard of living.
Global population growth: 11.2 billion people by 2100
Despite an expected flat-lining in population growth in the developed world, the earth’s overall population is still anticipated to grow strongly for the remainder of this century.
In 1900 the global population was 1.65 billion, by 2000 it was more than six billion, and over the next 100 years an estimated additional five billion people are expected to inhabit the globe.
This anticipated population growth raises many critical issues, such as how all these people will be fed, housed, cared for and educated given the world’s finite resources.
Maybe a somewhat more mundane – but ultimately important – issue is from where the funding will come to provide the necessary infrastructure to support a global population of this magnitude.
Here comes the middle class
Research by the Brookings Institute predicts that the global middle class will grow by 160 million people per year for the next five years, with 88 per cent of that growth occurring in Asia. In contrast, the middle class in the US, Eurozone and Japan is only expected to grow at 0.5 per cent per annum.
We continue to believe the emerging middle class will be one of the most enduring investment themes for the remainder of the century. The consequences of this demographic change will be both profound and long-lasting.
Middle class and income growth: essential services are indeed essential
China and India have almost tripled their share of the global economy over the past 20 years, with growth expected to continue.
As personal incomes rise the expected standard of living also rises, triggering a demand for new and improved infrastructure such as the supply of essential utilities – clean drinking water, waste water services and power.
Middle class: overseas and domestic travel to grow strongly – airports and ports needed
As disposable income has grown in China, so too has the amount of travel undertaken by Chinese residents, both domestically and overseas.
We expect this trend to continue and be exhibited more broadly across Asia. New improved airports/ports will be demanded by these newly affluent travellers domestically and internationally.
Middle class: Increased motor vehicle penetration – improved road infrastructure demanded
There is a natural correlation between growth in GDP per capita and vehicle ownership. China, India and Indonesia all currently have very low levels of vehicle ownership.
However, this will grow as each nation’s GDP per capita climbs. As a result, demand for new cars can be expected to be strong, as will demand for new and improved road infrastructure.
The new ‘Silk Road’ will transform Asia and propel its growth and infrastructure development
The new Silk Road in Asia, or more formally the Belt and Road Initiative (the ‘BRI’), is a major foreign policy and economic strategy of the People’s Republic of China.
The term derives from the overland ‘Silk Road Economic Belt’ and the ‘21st-Century Maritime Silk Road’, concepts introduced by Chinese President Xi Jinping in 2013.
These are the two major axes along which China proposes to economically link Europe and China through countries across Eurasia and the Indian Ocean. The BRI also links to Africa and Oceania.
Formally, the BRI emphasises five key areas of international co-operation. However, it is the huge investment in infrastructure needed to facilitate the BRI’s trade objectives that has received the most attention.
While the quoted numbers tend to vary, in broad terms China is spending roughly US$150 billion a year in the 65 countries that have signed up to the scheme, with potentially up to US$1 trillion to be invested over the next five years.
BRI projects already stretch widely across Asia. From Bangladesh to Belarus, railways, refineries, bridges, industrial parks and much else is being built. A new city is taking shape in Colombo, near Sri Lanka’s main port, with the total investment estimated at US$13 billion spanning about 25 years.
China Merchants Port Holdings (CMH, a Chinese government majority-owned, listed port operator) owns the Colombo port and is backing a much-needed second terminal. CMH now owns ports across all five continents, facilitating global links.
A freight route linking China’s east coast and London has already commenced operations. Stretching over 12,000 kilometres and passing through nine countries, the railway allows cargo to travel across the Eurasia continent in less than 20 days.
2. What do the investment ‘think tanks’ make of these growth factors?
Not surprisingly, the major institutions charged with putting numbers around the above themes come to very similar conclusions: much needs to be done!
US$3.7t pa needs to be spent on economic infrastructure out to 2035 (McKinsey Global)
The McKinsey Global Institute calculated US$2.5 trillion was spent on economic infrastructure globally in 2015 and an estimated US$3.7 trillion p.a. is needed out to 2035 to meet expected demand. That leaves a funding shortfall of ~US$1.2 trillion p.a. just for economic infrastructure.
US$94t needs to be spent by 2040 (World Bank Group)
The Global Infrastructure Hub (part of the World Bank) estimates US$94 trillion needs to be invested by 2040 and that, on an individual country basis, the investment shortfalls are significant.
3. How will this much-needed infrastructure get funded?
The long-term, traditional provider of infrastructure has always been government. However, following the GFC and the funding demands that presented to the public sector, few nations are in a financial position to deliver on these clear and present infrastructure investment needs.
Government balance sheets remain stretched since the GFC
Our research, illustrated in the following chart, shows that debt levels in virtually every nation have increased since 2012, despite a post-GFC economic recovery being underway and indeed a synchronised global recovery more recently.
Sovereign balance sheets remain stretched – they simply do not have the necessary financial firepower to fund all the infrastructure investment needed.
Private funding, including the listed market, is an essential part of the funding solution
The huge infrastructure demands facing the world will not be able to be funded by government in a manner similar to the past. By necessity much of the necessary funding will have to come from private sources, including the global listed equity market.
Indeed, US President Trump’s plan to rebuild America’s infrastructure explicitly targets the private sector to provide the majority of funds.
Mr Trump’s plan (announced on 12 February) to provide US$200 billion in Federal funding over 10 years is intended to attract a huge amount of additional money from US states, localities and private investors.
The goal is to generate a total pot of US$1.5 trillion to upgrade the country’s highways, airports and railroads.
However, key to securing federal money for a project will be sponsors acquiring funding outside the government. At least 50 per cent of the formula for choosing infrastructure projects for federal money is based on how successful the project has been in raising non-federal money.
Conclusion
The global infrastructure investment task continues to swell as global growth, population expansion, demographic changes and policy initiatives take hold.
Yet government balance sheets remain stressed, and a major infrastructure financing need and opportunity is emerging for the private sector. Given the huge scale of the task at hand, we believe this theme will prevail for decades, albeit with even bigger future numbers.
Infastructure as an asset class and investment opportunity is set for a long period of rapid, inevitable and very necessary global growth.
Greg Goodsell is global equity strategist at 4D Infrastructure, a Bennelong boutique.
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