A report in the Telegraph this week exemplifies everything that is wrong with the UK pension fund sector in their grasp of infrastructure as an asset class.
According to the report, so-called ‘experts’ are unhappy that pension funds don’t have a “larger, safer and more investable gilt” to invest in. Oh dear oh dear. That word ‘gilt’ ought to start ringing alarm bells.
As I have blogged previously, getting pension funds to invest in greenfield infrastructure projects alongside other sorts of investor is widely agreed to be critical if we are to get the level of financing we need to keep the economy moving. So anything that persuades pension funds to invest should be a good thing, right? Wrong.
The ‘experts’ cited by the Telegraph correspondent Louise Armistead may be pensions experts but they sure as hell aren’t infrastructure experts. Roger Mattingly of the Society of Pension Consultants says:
“If pension funds are to invest in greenfield debt or undeveloped new projects, then they will need guarantees — most probably from Government — essentially underwriting the bond to make any infrastructure investment vehicle’s credit rating palatable to pension funds.”
This explains the use of the word ‘gilt’ earlier. What these people are looking for is basically a gilt (a bond issued by the government), because although the bond would be issued by the project company, the government would have to agree to step in at any moment and repay it if the project failed. It would be very low risk, because the risk of the Treasury not repaying bonds on maturity is very low. But it would not help attract investors into infrastructure.
As I wrote when discussing the government partial loan guarantee for the Drax power station, these blanket, irrevocable guarantees isolate investors from the nitty-gritty of the project and how it works, with the result that they never learn about the project risks. If they did, and if they really understood what it takes to make an infrastructure project meet its budget and output targets, they would realise that it’s not such a bad risk to take. If we are to increase the pool of finance available for infrastructure in decades ahead, we need to widen the pool of investors prepared to take on those risks, not narrow it – which is what will happen when banks leave the market and don’t get replaced.
Besides, why bother investing in a quasi-gilt when there are tons of real gilts to invest in? Take away the guarantee, and an infrastructure project offers an upside in the form of higher returns. Pension funds don’t put all their eggs in one basket, but seek a balanced portfolio of higher- and lower-risk assets. Infrastructure risk should sit nicely alongside sovereign (government) risk. And can governments afford to take on the liability for all this debt? Why not just cut out the middleman and let government borrow directly, saving financing and transaction costs?
Plenty of risk-averse institutional investors are happy to take on project risk, and enjoy the extra returns that come with those risks. Look at M&G, investing in the Alder Hey children’s hospital PFI. Look at Legal and General, investing in student accommodation. Look at Allianz, preparing to invest in a new French highway. Look at AXA, setting up an infrastructure debt fund. The problem is not the liabilities of pension funds – the problem is that too many of them still don’t ‘get’ infrastructure.