In the last 18 months, several financial services firms have formed a variety of global infrastructure indices and families of infrastructure sub-indices. However, most of them have been poorly constructed and simply lump together companies from common industry classification codes, and reflect a terribly inadequate understanding of the global infrastructure industry and what institutional investors are actually looking to gain from infrastructure exposure.

Generally speaking, what most institutional investors want from infrastructure is steady, inflation-linked cash flows derived from appropriately-levered assets with low technology, market, and development risk, which are long-lived and provide essential services to society, and typically are shielded from downside by a contracted, regulated, or natural monopoly.

However, most of the global infrastructure indices confuse these so-called core infrastructure companies, with all manner of other growth companies that sell construction, electrical, engineering, equipment, cement, and other products and services to the market. The performance of this latter type of company is not a "flatline cash flow" but is much more volatile, and is highly correlated to new infrastructure development activity and business cycle risk. Meshing "core" and "non-core" businesses into the same index creates an opaque risk-return profile that obscures the risks and returns of the core asset class.

Most of the indices are guilty of this to some extent! And this is one reason why the global infrastructure indices have not held up as well during the financial crisis --- because they are not actually constructed of the kinds of companies that derive their revenue primarily from the ownership of core infrastructure assets!

A. Here are some of the obvious culprits:

Goldman Sachs INFRAX Infrastructure Index - represents companies around the world in the transport (40%), energy (30%), construction (20%) water and wastewater disposal (10%). Sorry Goldman Sachs, you can do better!

FTSE IDFC India Infrastructure Series - designed to represent the performance of top 30 Indian companies that generate the majority of their revenue from infrastructure. (Again, confuses asset owners and growth companies serving the industry.)

CNX Infrastructure Index - focused on 25 of the most deeply traded infrastructure sector companies in India;

S&P Global Infrastructure Index - provides liquid and tradable exposure to 75 companies from around the world that represent the listed infrastructure universe, with balanced weights across three distinct infrastructure clusters: Utilities, Transportation and Energy. This index is tracked by an iShares ETF.

B. It is not clear if the following indices are neatly concentrated on owners/operators of infrastructure assets, as we would like, or if they have broad exposure to a "hodge podge" of growth companies that serve the infrastructure sector. For many of them, it does sound from their marketing brochures that they consist primarily of owners of assets, but I suspect that once you "look under the hood" and analyze the constituent companies that they are much more broadly construed.

Macquarie Global Infrastructure Index Series - designed to reflect the stock performance of companies within the infrastructure industry, principally those engaged in the management, ownership and or operation of infrastructure and utility assets; the series includes several sub-indices for Australia, Japan, Europe, etc. as well as a roll-up global index and a separate roll-up "top 100" index, which is the basis of an ETF.

MSCI Infrastructure Indices - aims to reflect the performance of the investment opportunities related to infrastructure assets; offers sub-indices for different geographies (Japan, Europe, etc.), and also sub-indices for developed versus developing countries. But it does not, unfortunately, offer subindices for core infrastructure companies and other growth companies serving the infrastructure industry.

Cohen and Steers Global Infrastructure Fund - Not an index, but a fund consists of listed companies.

C. Here is one index, which, at least on the surface, appears to offer a real proxy for "core infrastructure exposure":

Dow Jones Brookfield Infrastructure Indexes - Claims to "take a leading-edge approach to measuring the infrastructure market globally, covering only companies that exhibit strong infrastructure characteristics." (Sounds better!) Reading further down on the fact sheet: "More than 70% of estimated cash flows (based on publicly available information) derived from infrastructure assets which include: Airports, Toll Roads, Ports, Communications, Electricity Transmission & Distribution, Oil & Gas Storage & Transportation, Water and Diversified (multiple sectors)."

Posted by rjorr at August 15, 2009 1:10 PM