Since the Great Recession, infrastructure asset values have climbed higher and expected returns proxied by discount rates have generally fallen. One of the reasons for rising valuations is not specific to infrastructure; due to declining interest rates and the immense liquidity provided by loose monetary policies, asset prices have trended upward in many asset classes. A distinct reason for the price increases in the infrastructure space is the ongoing infusion of capital into the asset class. Investors have increasingly recognized the importance of an infrastructure allocation, and assets under management have grown substantially in recent years. While valuations have risen, investors are still under-allocated relative to their targets. Infrastructure continues to offer diversification, inflation protection, and yield that investors may struggle to find elsewhere in a challenging, low-rate market environment. Consequently, we believe that infrastructure valuations have room to increase further.

Infrastructure assets’ future performance may vary considerably across geographies, transaction sizes, and sectors. Countries like Australia and Canada, with a longer history of infrastructure investing, have informed pools of local capital and fuller valuations. Conversely, the U.S. infrastructure market is fragmented and more difficult to access. Increased competition for larger, “trophy” assets has caused their multiples to decouple from smaller, mid-market transactions. The former are more common among transportation assets, while the latter are more prevalent in the U.S. and in the power sector.

While infrastructure valuations have generally increased since 2010, performance has varied by sector. Transportation assets have had the strongest growth, while power generation investments — particularly those with commodity exposure —have trailed. Transport is the most GDP-sensitive sector, so the post-recession rebound in throughput has buoyed revenues.

A positive economic outlook could signal further increases.

A positive economic outlook could signal further increases. Regulated utilities have been relatively resilient, as allowed rates of return have declined less than the cost of debt. Utilities valuations are positively correlated with inflation, so higher price levels may enhance their performance. Power generation investments have experienced mixed results. Contracted assets have typically fared well in the low interest rate environment, which has made the contracts’ cash yield relatively more attractive. Merchant power generation assets have suffered from a drop in power prices due to cheaper natural gas and expanded renewables capacity. For contracted projects, debt typically matches the contract tenor, so higher interest rates would not affect cash flows, though higher inflation could reduce earnings if contracts are not indexed to inflation.

Infrastructure remains an attractive asset class for institutional investors given its low correlations to other asset classes, relatively high yields, and the positive outlook for investor demand. Given the substantial differences across assets and sectors, investors should diversify within the asset class and make sure that their allocation matches their risk profile.

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