Download How are infrastructure stocks affected by rising interest rates?

A discussion paper from AGLI’s portfolio manager
How are infrastructure stocks affected by rising interest rates?
Rising bond yields have historically presented attractive entry points to the listed infrastructure asset class, while offering
active managers an opportunity to add value through subsector selection.
Robert Becker, Cohen & Steers Senior Vice President and Portfolio Manager
Benjamin Morton, Cohen & Steers Senior Vice President and Portfolio Manager
The global listed infrastructure market underperformed in the
first half of 2015, with some attributing this to rising bond yields,
spurred by improving global economic trends. Infrastructure
Average returns amid the largest increases in 10-year
treasury yield (a)
companies are often perceived as more sensitive to interest
rates in the short term due to their high dividend yields and
capital-intensive business models. This sensitivity has been
magnified recently amid volatility in global bond markets and
the looming prospect of rate hikes by the Federal Reserve.
We expect interest rates and bond yields will continue to have
a heightened influence on short-term returns considering the
potential turning points in global monetary policies and uncertain
economic trends. However, because of the strong fundamentals
for listed infrastructure businesses, we believe interest-
rate-driven corrections may present attractive entry points.
Rising Rates May Present Buying Opportunities
While infrastructure stocks may at first react negatively to
rapid increases in interest rates, performance has historically
improved over the long run as the initial shock of higher rates
At June 30, 2015. Source: Cohen & Steers, Morningstar.
Returns are in USD. Performance data quoted represents past performance. Past
performance is no guarantee of future results.
(a) Time periods determined by ranking 30-day increases in the 10-year U.S Treasury
yield since 2000 (discarding overlapping periods of lesser yield increases), measuring
average index returns in those 30-day periods and the ensuing 3-, 6- and 12-month
wore off and investors began to focus on the underlying
periods thereafter.
largest spikes in the 10-year Treasury yield since 2000. After an
the deduction of any fees, expenses or taxes. There is no guarantee that any historical
fundamentals. Exhibit 1 shows average returns during the 10
initial reaction, infrastructure stocks subsequently produced
strong absolute and relative performance.
An investor cannot invest directly in an index, and index performance does not reflect
trend illustrated herein will be repeated in the future, and there is no way to predict
precisely when such a trend will begin. There is no guarantee that a market forecast
made in this commentary will be realized.
Against a backdrop of broadly improving economic trends and
strong fundamentals, reactions to interest rates are generally
associated with a contraction in earnings multiples rather
than an indication of balance-sheet strength or cash flow
sustainability. Ultimately, we believe long-term returns will be
driven by fundamental factors specific to each infrastructure
Global infrastructure represented by the UBS Global 50/50 Infrastructure & Utilities
Index, a free-float-adjusted market-capitalization-weighted index that tracks a 50%
exposure to global developed market utilities sector (excluding the generation utilities
subsector) and a 50% exposure to global developed market infrastructure subsector.
Global equities represented by the MSCI World Index, a free-float-adjusted index that
measures performance of large- and mid-capitalization companies representing
developed market countries. Indexes are net of dividend withholding taxes.
business, subsector and region.
Argo Global Listed Infrastructure Limited
Websitewww.argoinfrastructure.com.au
[email protected]
Telephone
08 8210 9555
Postal Address
GPO Box 2692 Adelaide SA 5001
Registered Address
19 Grenfell Street Adelaide SA 5000
ACN 604 986 914
Share Registry
Computershare Investor Services
Websitewww.investorcentre.com
Telephone
1300 389 922 (in Australia)
+61 3 9415 4610 (outside Australia)
Postal Address
GPO Box 2975 Melbourne VIC 3001
A discussion paper from AGLI’s portfolio manager
How Macro Sensitivities Drive the Subsector Allocation Process
Macro factors such as interest rates and economic growth can affect infrastructure companies in different ways depending on
a company’s contract structure, financing needs and the factors that drive throughput and pricing. As a result, returns can vary
significantly across infrastructure subsectors. Because of this performance dispersion, an active manager who understands
these dynamics has the potential to add value for investors by tailoring subsector exposures for the current and expected macro
environment.
Looking at interest-rate sensitivity in Exhibit 2, electric utilities are at the top end of the spectrum due to their relatively bond-like
cash flows and high dividend yields. However, high yields do not automatically equate to high rate sensitivity. For example, while
many pipeline companies structured as master limited partnerships (MLPs) feature high distribution yields, rising interest rates
tend to be less of a risk to MLP performance due to the impact of economic growth on cash flows. Financial leverage can also
affect interest-rate sensitivity, as higher-levered companies are more sensitive to changes in the cost of capital. Electric utilities
and cell tower companies tend to carry higher levels of debt, whereas railways are generally underlevered relative to their balancesheet capacity, and are therefore less sensitive to interest rates on average.
Infrastructure subsectors also have varying degrees of sensitivity to changes in economic conditions. Marine ports are among the
most sensitive to economic cycles, as demand for port capacity is tied directly to global trade. Airports are impacted by changes
in business and leisure travel. Passenger railways and toll roads generally have a baseline level of traffic which is independent of
market conditions, but a stronger economy can mean stronger employment and greater commercial activity, which means more
usage. Cell towers are less sensitive to economic conditions, as wireless traffic is a secular growth story, driven by increasing data
intensity of mobile devices. At the bottom end of the cyclicality spectrum, utilities have the most inelastic demand, as people need
to heat and power their homes regardless of economic conditions.
At Cohen & Steers, we believe it is important to keep an eye on top-down factors, while focusing on bottom-up fundamental
company research, which is why we incorporate a macro framework into our investment process. In our experience, this approach
has demonstrated an ability to enhance total returns in a variety of market conditions, providing the potential for improved
investment results over time.
These views have been prepared by Cohen & Steers Capital Management, Inc. (Cohen & Steers), the portfolio manager to Argo Global Listed Infrastructure Limited (AGLI),
solely for the information of shareholders in AGLI. This is not investment advice and may not be construed as sales or marketing material for any financial product or service
sponsored or provided by Cohen & Steers or any of its affiliates or agents. Cohen & Steers’ views are current as of the date hereof and are based in part on third-party
sources it believes to be reliable, but Cohen & Steers makes no representation or warranty concerning the accuracy of any data and does not guarantee that any forecast or
opinion in these materials will be realized.
This report has been prepared by Argo Service Company Pty Ltd (ACN 603 367 479; AFSL 470477), as general information only and is not
intended to provide financial advice or take into account your objectives, financial situation or needs. You should consider, with a financial
adviser, whether the information is suitable for your circumstances before making any investment decisions.