Advertisement

Infrastructure: a reassuringly boring source of income

Income investors have poured money into infrastructure funds in the last few years, lured by yields of 4%-7% backed by government spending. David Stevenson picks a high-quality example for his income portfolio.

882_MW_P26_Income
HICL is managing risk with safer bets such as high-speed rail

This content is subject to copyright.

Income investors have poured money into infrastructure funds in the last few years, lured by yields of 4%-7% backed by government spending. For some listed funds, demand has been so strong that shares have shot up in value, with many now trading at double-digit premiums.

More recently, the collapse of Carillion and threats from the Labour Party about the future of private finance initiative (PFI) and public-private partnership (PPP) deals have alerted investors to the potential risks. But I also think that it's best not to get too carried away with the cynicism. Private capital will always be needed by governments, and even if the UK abstains for a few years, there's always international markets. Even a socialist government will find it difficult to wriggle out of existing commitments.

Advertisement - Article continues below

Yes, valuations got ahead of themselves but sometimes the inevitable recalibration presents fresh opportunities. That's why I'm adding HICL Infrastructure (LSE: HICL) to the cautious income portfolio this week (see below).

A solid infrastructure fund

HICL is a high-quality player in the core PPP and PFI sector, with a well-regarded management and a reputation for cautious valuations on its private investments. This doesn't mean it's immune from the risks: the fund took a 1.8% hit to its net asset value (NAV) as a result of Carillion's collapse (the firm managed some of HICL's projects). However, the damage-limitation exercise will curb those losses over the next few months.

Advertisement
Advertisement - Article continues below

Meanwhile, if a future Labour government tries to grab back any assets, my guess is that compensation won't be far off NAV (note that HICL has tried to diversify its assets, investing less in controversial pure PFI deals and more in PPP agreements, such as the High Speed 1 rail line).

Focusing on the core

The fund may not grow so quickly in future: it has already admitted that the market for new assets is fairly muted. But its trading statement for the period from October through to February showed that cash generation was stable across the portfolio of assets, which includes pure-play PFI, utility-like assets and transport infrastructure. A focus on core assets should continue to translate into steadily growing dividends.

Advertisement - Article continues below

Total dividends for the year through to March 2018 should hit 7.85p with a target of 8.05p for the financial year ending March 2019, rising to 8.25p in 2020. That puts the yield at 5.4% at the current share price (145p), rising to 5.5% the following year. Given that the shares trade slightly below NAV, that makes HICL a decent, hopefully boring, bet for more cautious investors. There is a risk that we could see more negative media attention on infrastructure, which could force the share price lower, but equally the fund may surprise to the upside.

The Labour threats might vanish, and new projects emerge. If so, HICL certainly has the firepower in terms of (cheap) debt to expand with a revolving credit facility of £400m. What's more, many of its projects will also experience increased cash flow if inflation rises the manager has figured in inflation of 2.75% for its models.

Advertisement - Article continues below

In a positive scenario, HICL's shares might even regain some of their past mojo and trade at a premium to NAV again, although I don't think we'll see a return to the premium of 18% that it was trading on less than a year ago.

My two model portfolios

The two portfolios I have been building on this page in previous issues are intended to deliver a robust, growing income (although both come with risks and are not a substitute for cash). The balanced or cautious portfolio aims to deliver a yield of 4.5% with underlying investments yielding a range of 3.5% to 5.5%.

This portfolio features more mainstream investments and most of them should be relatively liquid. The adventurous portfolio will target a yield of 5.5%, with underlying investment yields in a range of 4.5% to 6.5%. These will be more likely to include complex funds or individual corporate and retail bonds. The investments will often have higher bid/offer spreads and be less liquid.

What I have tipped so far

My previous selections for both portfolios include CQS New City High Yield, which holds a mix of bonds, preference shares and equities, and Gravis Clean Energy, which invests in renewables such as wind and solar. My two other picks so far are for the adventurous portfolio only. Sequoia Economic Infrastructure buys debt that backs projects such as roads, energy and data centres, while MedicX invests in medical facilities, such as GP surgeries that are leased back to the GPs.

FundTickerIssueDatePortfolioLatest yield
CQS New City High YieldLSE: NCYF86827/10/17Both7.66%
Gravis Clean EnergyN/A (open-end fund)87301/12/17BothN/A (target 4.5%)
Sequoia Economic InfrastructureLSE: SEQI87605/01/18Adventurous5.54%
MedicXLSE: MXF87605/01/18Adventurous7.42%
HICL InfrastructureLSE: HICL88209/02/18Cautious5.40%
Advertisement
Advertisement

Recommended

Visit/investments/funds/investment-trusts/600959/if-you-think-now-is-a-good-time-to-buy-look-at-these
Investment trusts

If you think now is a good time to buy, look at these investment trusts

With the latest market slides, an awful lot of assets are beginning to look very cheap indeed. If you are thinking of buying, Merryn Somerset Webb has…
10 Mar 2020
Visit/investments/funds/investment-trusts/600873/how-to-build-a-properly-diversified-investment-trust
Sponsored

How to build a properly diversified investment trust portfolio

Max King explains how to build a well diversified portfolio using one of our favourite tools – investment trusts.
25 Feb 2020
Visit/investments/funds/investment-trusts/600757/why-investment-trusts-are-the-best-vehicle-for-your
Sponsored

Why investment trusts are the best vehicle for your money

Max King explains the advantages of investment trusts – sometimes called closed-ended funds – over their open-ended counterparts (or Oeics).
11 Feb 2020
Visit/520115/investment-trusts-the-cinderella-of-investment-arrives-at-the-ball
Funds

Investment trusts: the Cinderella of investment arrives at the ball

Investors should look beyond the market noise of a single year and examine the bigger picture. Max King explains what we can learn from 25 years of in…
8 Jan 2020

Most Popular

Visit/investments/commodities/gold/601444/these-seven-charts-show-exactly-why-you-must-own-gold-today
Gold

These seven charts show exactly why you must own gold today

Covid-19 is accelerating many trends that were already in existence. The rising gold price is one such trend. These seven charts, says Dominic Frisby,…
3 Jun 2020
Visit/investments/stockmarkets/601460/disease-rioting-and-mass-unemployment-so-why-are-markets-soaring
Stockmarkets

Disease, rioting and mass unemployment – so why are markets soaring?

Despite some pretty strong headwinds in the last year, America’s S&P 500 stock index is close to all-time highs. John Stepek explains why markets seem…
4 Jun 2020
Visit/economy/eu-economy/601463/why-a-stronger-euro-is-good-news-for-investors
EU Economy

Why a stronger euro is good news for investors

The fragile state of the eurozone has for a long time brought the threat of deflation. But the ECB’s latest moves have dampened those fears. John Step…
5 Jun 2020