Jun 10

Infrastructure in an investment portfolio…diversification benefits?

Recent years has seen increased interest in infrastructure being included in investment portfolios. The justification goes that, infrastructure assets provide steady income streams linked to inflation from large, often monopoly assets (like toll roads, airports and the like), with long lifetimes that can reduce the capital volatility.

As the following ten year chart shows, global infrastructure (represented by the S&P Global Infrastructure index) has certainly outperformed global shares (represented by MSCI World GR index)…both asset classes are in Australian dollars and are unhedged to make an apples and apples comparison…but…the question is, does this past performance actually support the justification?

Source: Morningstar

To more closely examine Global Infrastructure I created 3 risk factors that are generally accepted as providing superior sharemarket returns…i.e. the market premium (MSCI World minus UBS Bank Bill); Value Premium (MSCI World Value minus MSCI World Growth ); and Small Cap Premium (MSCI World Small Cap minus MSCI World Large Cap)…using the statistical technique, OLS Regression, i then regressed these 3 risk factors against the risk premium that Global Infrastructure has provided (S&P Global Infrastructure minus UBS Bank Bills). All analysis was done in Australian dollars effectively removing currency effects that hedging one asset class might have.

This 10 year regression analysis yielded the following results for Global Infrastructure…

  • Market beta of 0.69…this means there is outperformance in bear markets but underperformance in bull markets
  • A very slight value premium…significant at a ~89% confidence level
  • No small or large cap bias, and
  • Very slight alpha…again significant at around the 89% confidence level
These relationships explain around two-thirds of the return variability so its a decent model. My interpretation of these results are that the jury is still out as to whether there is any true added value from global infrastructure, I’m surprised infrastructure doesn’t have a stronger value bias given its supposedly higher dividends (which aren’t too much more than 3% so nothing truly flash) and at this stage,  global infrastructure is primarily a low beta play on the global sharemarket …so if the global sharemarket market runs strongly, be prepared for disappointment.
Despite these results, I do believe they justify the inclusion of Global Infrastructure in portfolios. Because it is highly correlated with global shares (~0.8 plus also see below chart), it definitely should be regarded as a growth asset and should not replace the more defensive fixed interest allocation.
Source: Morningstar (Red line = S&P Global Infrastructure; Blue line – MSCI World GR)
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