OPINION: Making infrastructure more attractive to investors
September 25, 2017 |
Institutional investors are increasingly interested in infrastructure but face hurdles to increasing their exposure to it, writes the World Bank Group's Joaquim Levy
By Joaquim Levy
Institutional investors are increasingly interested in infrastructure but face important hurdles to increasing their exposure to it.
Pension funds and insurance companies have a natural interest in infrastructure as a long-term asset yielding predictable and robust cash flows, with low correlation to other assets. The risks of new (“greenfield”) infrastructure projects are, however, often well beyond the typical fixed-income risk appetite and the mandate of many managers.
The World Bank Group—which is being entrusted by governments to help crowd in new forms of private finance with longer tenors and lower interest rates than traditional project finance—can help bridge this gap by engaging with countries to enhance regulations and make innovative use of financial facilities.
The five World Bank Group institutions are committed to helping countries improve several key things: project design and preparation, the regulatory environment at both the sectoral and the broader investment policy levels, and the information flow related to infrastructure in the emerging markets and developing economies (EMDEs).
These actions, together with developing local markets and reviewing the regulatory constraints that institutional investors face in both developed and developing nations, can help match the risk profile of many infrastructure programs and projects to the risk capacity of institutional investors.
However, despite these efforts, many institutional investors might still not feel comfortable to participate in new projects, but instead remain focused on brownfield projects, i.e., those that are already operational, do not face construction risks, and have settled part of their demand risks.
Finding ways for institutional investors to invest in brownfield projects could help countries recycle their assets, raising resources to invest in new projects.
In Australia, where superannuation funds have long held as much as 12% of their investments in infrastructure (primarily domestic), the government recently established a fund to encourage such recycling of assets.
Similar approaches—securitizing revenues and then leasing or selling brownfield assets to turn the embedded value into money for greenfield investment—offers tremendous potential in Asian developing countries that have developed good assets but face a large public debt.
With adequate governance, roads and energy plants in these countries could attract resources from institutional investors and be recycled to create fiscal conditions for new investments. Such a strategy can also broaden investment opportunities for local insurers and pension funds and deepen domestic capital markets.
The supply of brownfield investments—at least those that produce enough revenue to cover their debt obligations—is limited, which has led to price inflation in this segment.
One can productively tap into this unmet demand by using financial facilities that help replicate the risk and financial features of mature projects when financing new, greenfield projects.
The World Bank can “synthetize” brownfield project cashflows by helping governments enhance the cash flow provided by public-private partnerships (PPPs) and similar projects to support their debt service during the construction phase, including if project completion is delayed.
Such an enhancement would respond to institutional investors’ demand for low-risk payments from the beginning of their investment. Synthetizing these features of brownfield projects offers advantages: providing predictable income streams for investors since the construction phase would broaden the range of potential investors, and under the right governance, helping address one of the most controversial aspects of PPPs—that private capital during the initial phase of infrastructure investments is too expensive.
There are various ways to implement this approach.
• One is to lend to governments that are committed to transfer the asset to the private sector upon completion. This would, however, miss the chance of mobilizing institutional investors from the beginning of the project, and may face time-consistency risks.
• A second, rather straightforward way is for the World Bank to enable the government to provide support, backing a government facility that will pay for the project’s debt service during construction, with a contingent amount to continue covering this service if delays in project completion occur. This facility would be a fairly simple sovereign operation and a transparent, effective way to foster immediate mobilization of private sector resources, covering the project debt as it is disbursed to finance the construction phase.
• A third way, explored by the World Bank Group’s Finance and Markets Global Practice, is for the World Bank to finance the government’s contribution to a fund that would back enhancement of the securities issued by the project sponsors. This fund could be open to other investors and would guarantee the service of the project debt until the project is fully implemented.
All of these options are self-sustaining, and their cost can be efficiently incorporated into the overall cashflow of the projects. If the contingent part is triggered, the additional cost can be gradually passed through tariffs if a sufficient cause is warranted.
The World Bank and its sister institutions, the International Financial Corporation (IFC) and the Multilateral Investment Guarantee Agency (MIGA), can also provide a suite of complementary products to cover other risks of cross-border investments, including breach of contract and convertibility.
From the World Bank Group’s point of view this approach is efficient, because it lowers the amount to be raised in the market by the World Bank, as well as the time that its resources are tied up to specific projects.
It has some similarities with relatively popular “mini-perm,” i.e., short-term, loans that are extended by commercial banks during construction with the aim of being replaced by long-term resources at completion of the construction phase.
However, the World Bank facility would allow institutional investors to receive interest during construction and avoids refinancing risks.
By taking concentrated risks, although not through subordinate tranches, such facilities crowd in private resources to support the surge in climate smart infrastructure in EMDEs that the world needs while still enabling the World Bank to hold a capital buffer proportional to its ultimate exposure to the country benefiting from the proposed facility.
The approach helps optimize the World Bank’s balance sheet, while creating new and important investment opportunities for domestic and international institutional investors around the globe.
Mr. Levy is the World Bank Group's chief financial officer.