It is unlikely that July’s general election will move the dial for the UK stock market – the outcome is seemingly well-known and, anyway, both main political parties seem to be business-friendly.
Still, many column inches have been used up debating whether the FTSE will prefer a Conservative victory, or a Labour triumph, and which sectors might benefit from either outcome.
Of the many investment company sectors that look cheap today, infrastructure and renewables must be close to the top of the list, and there are some potentially positive snippets in manifestos to confirm that.
The valuations of the assets owned by infrastructure and renewable energy investment companies are sensitive to changes in interest rates, so rates’ astonishing ascent have hit them hard.
In addition, with a return of well above 4% still available on safe assets such as UK government bonds (gilts), some may wonder why they should take on the equity risk provided by listed infrastructure or renewables trusts?
These companies were popular in a world of near-zero interest rates because their yields, which were typically in the range of between 3% and 7%, offered a big advantage over gilts, where the yield was as low as 0.25%.
The drawback was that this meant they traded very expensively, with double-digit premiums not uncommon. Those days are well and truly over. The median discount in the infrastructure sector is about 21%, and in the renewable energy sector it’s 31%, according to the Association of Investment Companies.
The big factor driving share prices over the past 12 months or so has been expectations of just how fast interest rates will fall. The European and Canadian central banks have already cut once, but the Bank of England and the US Federal Reserve are expected to hold off for at least a few months yet.
The potential for higher for much longer clearly isn’t ideal and increases the risk, so share prices have waxed and waned alongside rate cut expectations.
Yet perhaps now is the perfect time to start looking at the sector again. The yield spread over gilts is looking healthier once more, with the median infrastructure trust offering 6.3% and the median renewable energy trust offering 8.2%.
There’s clearly a political will to improve the UK’s infrastructure, as there is for pension funds and retail investors to take bigger stakes in domestic assets. Aside from UK equity funds, the infrastructure and renewables sectors provide us with an opportunity to do just that.
But deep-lying issues remain, not least the fact that the UK’s planning laws desperately need reforming. It takes four years to sign off major infrastructure projects, for instance.
Both Labour and the Conservatives are committed to reducing this, and encouraging more private investment in UK infrastructure, but this is neither going to be easy nor quick.
Not only do investment companies provide the opportunity to invest in British infrastructure, but they also offer investment opportunities in other jurisdictions. Geographical diversification is important in infrastructure assets, as well as in equities.
BBGI Global Infrastructure’s globally diversified portfolio of 100% availability-style social infrastructure assets provide it with highly predictable revenues and strong inflation linkages. It can maintain its dividend for more than a decade without having to make any new investments.
Its biggest investments include bridges in California and Ohio, Australian prisons in Northern Territory and Victoria, a health clinic in Liverpool, and motorways in the Netherlands and Germany.
On the renewables side, not only does Octopus Renewables Infrastructure invest across several different countries, including the UK, Ireland, France and Finland, but its carefully thought-out approach to diversification also means its portfolio is spread across several different proven technologies, such as onshore and offshore wind, solar and energy storage systems.
We may not be returning to zero interest rates, so perhaps big premiums for infrastructure and renewable energy companies are a thing of the past, but a shrinking in discounts seems likely.
Falling interest rates should make these trusts attractive again and while politicians’ ability to get their agendas through is questionable, there’s a positive direction of travel, so perhaps big discounts will end up being well in the rear-view mirror, too.
David Brenchley is an investment specialist at Kepler Partners. The views expressed above should not be taken as investment advice.