Have we passed the peak of the pandemic? The numbers of infections and deaths are dwindling. However, the economic fallout is likely to persist for a long time, even after lockdowns are relaxed. While this is bad news for some sectors of the economy, such as hospitality and retail, it also provides opportunities for others. One key beneficiary of the post-coronavirus world, in which governments look set to embark on a spending spree, should be infrastructure.
From support to stimulus
Government spending has hitherto focused on measures “to prevent firms going bust”, says Shaniel Ramjee, senior investment manager with Pictet Asset Management. This is understandable given that reducing the number of bankruptcies “gives the economy the best chance to minimise structural damage”; bankrupt firms “no longer employ people [or] contribute to economic activity”. Wage support measures and job retention schemes, such as the UK scheme that pays 80% of the salaries of those furloughed by their employer, will temper any surge in unemployment, thus bolstering consumption.
However, policymakers are beginning to realise that such measures are, at best, a short-term sticking plaster, not a long-term solution, with a growing realisation that merely “returning to the normal pace of activity will not be enough to regain lost growth”. While money-printing was the preferred policy option during the last crisis, this time it is likely to be complemented by an aggressive fiscal policy in order to “stimulate demand more effectively”.
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Plenty of bang for your buck
Viewed in this context, infrastructure spending is particularly attractive because it not only increases overall demand but also helps rectify the problems created by “decades” of under-investment. What’s more, it can “boost the underlying rate of economic growth through increasing productivity”. Studies certainly suggest that it has a beneficial effect on the economy’s long-term growth potential. According to the US Economic Policy Institute’s review of previous studies, every $100 spent on infrastructure boosts private-sector output by an average of $17 in the long run.
If governments are as serious as they claim to be about investing in infrastructure, then the spending is likely to cover a wide range of areas, says Mark Mobius of Mobius Capital Partners. For example, in the energy sector, solar and wind power projects could help speed the transition to a low-carbon future and help governments meet their targets to reduce emissions. High-speed railways and new underground systems could help move people towards public transport and away from cars. Finally, there is a strong case for spending on physical infrastructure ranging from “bridges to school buildings”.
This all bodes very well for the companies involved in the sector, says Mobius. These include the major engineering and construction groups “capable of planning and executing large projects”. Companies that “supply the tools and equipment required to execute such projects” also stand to make money.
Where Asia will spend its money
Asia was the first part of the world to both experience the coronavirus and contain it, says Freya Beamish, chief Asia economist for Pantheon Macroeconomics. So, it should come as no surprise that they are ahead of the game when it comes to infrastructure spending. China famously chose to respond to the recession that followed the financial crisis of 2008 with a blitz of infrastructure spending “so successful” that growth rapidly eclipsed pre-crisis levels.
For now it seems the Chinese government isn’t going to be launching a package quite on the scale of 2008-2009. Still, there is plenty of evidence that Beijing’s plan to compensate for the “huge drop-off” in external demand will involve much extra infrastructure investment. The Chinese government has been historically reluctant to reveal the specific detail of its spending programmes, which makes it difficult to gauge how much is being spent. Still, state newspapers are already talking up the new infrastructure projects that have been announced.
Meanwhile, local governments “are also issuing a lot of special infrastructure bonds”, typically a sign that they are swinging into action since these bonds apply specifically to infrastructure. Survey data appears to confirm this, with the construction sector the “star performer” in recent surveys of economic activity.
With China running out of “rail, road and bridge” projects to invest in, Beamish expects the latest round of Chinese spending to focus on digital and environmental infrastructure, especially given mounting popular anger at high levels of pollution, which officials are worried could feed through into more general discontent.
Japan “has also carried out a lot of infrastructure projects in the past”, says Beamish. Indeed, it has probably overinvested, with many projects producing little or no economic benefit and increasing Japan’s national debt, leading some experts to joke that they make as much sense as “paving Mount Fuji”. Still, she thinks that there “will definitely be more infrastructure spending” as it “always looks good for politicians to be associated with big public projects”. South Korea is also likely to be a “big spender” in this area over the next year too.
India, moreover, has already indicated that infrastructure spending will form a significant part of its current round of stimulus, says Ramesh Mantri of the Ashoka India Equity Investment Trust. For example, $13bn has been allocated towards agricultural infrastructure spending alone. Mantri also expects the crisis to prompt Indian prime minister Narendra Modi’s government to keep “stepping up” the amount that it spends on more traditional projects such as roads and power plants. Over the last few years investment in such areas has been gaining “serious momentum”. It is expanding at a rate of around 15% a year.
America is in desperate need of repair
With unemployment claims exceeding 25 million in the US since the start of May, infrastructure spending is an “obvious area where the federal government could deploy capital into a depressed economy”, says Jim Wright of asset management group Premier Miton. The precedent of the New Deal in the 1930s – when huge amounts of money were spent on projects such as the Tennessee Valley Authority in an attempt to combat the Great Depression – will also be attractive to both Joe Biden and Donald Trump, as they are “looking for vote-winning policies going into the November elections”. Just as the need to spend more on infrastructure provided “one of the few areas of consensus” between the two presidential candidates in 2016, both current contenders are likely to promise significant spending in this area.
One of the “most obvious” specific areas where money could be spent is transport, with most experts acknowledging that the highway and bridge network across the US is in “desperate need of repair and refurbishment”. However, investment in this area is complicated by the fact that control of the road network is divided between the federal government and states, cities and counties, each of which has their own priorities and interests. The partisan feelings generated by the upcoming elections, with both parties wary of doing anything that could be perceived as a “victory” for the other side, may also postpone any major transport spending until after November.
Still, Wright believes that the wrangling between the two parties will only postpone rather than preclude infrastructure spending, since the barriers to cooperation will disappear once the election takes place, irrespective of who ends up winning. What’s more, even if it takes a little longer for a transport package to be agreed, there are plenty of “less high-profile areas” that could enjoy both federal and private spending. One of these is renewable energy generation, “where tax credits have been used to incentivise spending on new wind and solar capacity”.
Another part of America’s infrastructure that needs an overhaul is broadband and communication networks. The recent lockdown and isolation has accelerated the transition to remote working but thereby also highlighted parts of the country where there is “limited or even no access to fixed or mobile broadband for work, education or social interaction”. This presents an opportunity for the US government to work with the network operators to augment investment in these areas. The Federal Communications Commission should ensure that any money allocated to this area improves internet connectivity in rural areas.
While America is pondering more infrastructure spending, Europe is already getting on with it, says Robert Alster, head of investment services at Close Brothers Asset Management. Even before the virus hit “some significant investment projects had... been signed off”, including the Grand Paris Express metro project. This scheme, which aims to build a new underground driverless metro network connecting the Paris suburbs with each other, as well as to major airports, adding 68 new stations and 200km of line, will cost around €39bn, with €12bn worth of work completed by 2022.
An undersea tunnel linking Germany and Denmark, which will be the largest road and rail tunnel anywhere in the world, has also been agreed in principle. The project should be signed off by the end of the year. Road projects taking place include the A3 autobahn expansion in Germany, the RCEA motorway project in central France and the enlargement of airport facilities in Lisbon.
Given that a lot of these projects involve transport, there is always the chance that they could be scaled back or cancelled if the collapse in travel as a result of the coronavirus proves permanent, cautions Alster. However, he thinks that this is unlikely. All the signs are that those under 40 are as enthusiastic about travel as ever, even if it takes longer than expected for a coronavirus vaccine to be developed. And airlines and rail companies “managed to take the security restrictions brought in after 9/11 in their stride”.
Post-Covid-19, there should be plenty more billions of spending to come. The initial emphasis in Covid-19 bailouts has been on social and welfare measures; Germany committed 10% of its GDP to a fiscal package comprising mostly recapitalisations and stakes in stricken companies. But with public debt at just 60% of GDP there is plenty of scope to increase spending on infrastructure, especially given widespread concern over the country’s notoriously shabby railways and roads.
Britain: levelling up the regions
It’s a similar story in the UK, says David Owen, chief European economist at Jefferies International. Prime Minister Boris Johnson knows that “he needs a long-term strategy to deal with the aftermath of the pandemic”. Johnson and senior advisers such as Dominic Cummings are aware that there is a “great deal of support for infrastructure spending, especially in the regions”. The government also feels that increased infrastructure spending isn’t just good politics, but also a way for it to make much needed “fundamental changes” to the economy on everything from climate change to “levelling up” the regions, says Owen. One sign of the “direction of travel” is its treatment of the controversial High Speed 2 rail project, one of the largest single infrastructure projects in the world. While many would have liked to see the government reassess whether it really represents good value for money, the government has continued with the project, with construction work going ahead through the lockdown.
Owen also thinks that the long-term shift to remote working will encourage the government to put more money into access to high-speed broadband and Wi-Fi. Johnson’s well-known love of cycling, along with his suggestion that people cycle to work, is also likely to lead to more money being spent on building dedicated cycle paths. We look at potential beneficiaries of these and other countries’ plans below.
What to buy now
One fund that specialises in infrastructure is the LF Miton Global Infrastructure Income Fund. At present it is mostly focused on utilities, telecom and energy companies, with some additional exposure to the transport sector. Managed by Jim Wright, the fund has returned a cumulative total of 12.7%, after annual charges of 1%, since it was set up in March 2017, outperforming both the FTSE All-Share and similar infrastructure funds.
Wright’s biggest holding, accounting for 5.5% of his fund’s portfolio, is NextEra Energy Partners LP (NYSE: NEP). NextEra, which is a listed subsidiary of the energy company NextEra Energy, invests in renewable energy infrastructure projects that should benefit from any push to decarbonise the US economy. Its projects are set up to generate stable cash flows, allowing it to continue to make money amid the collapse in global energy prices. The company has been growing revenue by around 20% a year, a pace set to endure. This justifies a 2021 price/earnings (p/e) ratio of 25.
More infrastructure projects should also lead to an increase in demand for construction equipment. This would be good news for Caterpillar (NYSE: CAT), the world’s largest construction equipment manufacturer and dealer.
A large proportion of its revenue now comes from China, so it stands to make plenty of money from any Chinese stimulus. Earnings per share (EPS) have expanded at an average annual pace of almost 20% over the last five years. It trades at 14 times 2021 earnings and yields 3.9%.
With the rise of remote working encouraging countries to pay more attention to the state of their digital infrastructure, Deutsche Telekom (Frankfurt: DTE) looks increasingly appealing. In addition to being the largest telecoms company in Europe by revenue, with subsidiaries around the world and a minority stake in BT Group, it is involved in the rollout of 5G mobile networks around Germany.
Between 2014 and 2019 it managed to increase sales by just under 6% a year while EPS more than doubled. Despite this strong record, it trades on a 2021 p/e of just 11.6, with a very attractive dividend yield of 4.8%.
One company that has a strong record when it comes to developing, financing and operating infrastructure projects is John Laing Group (LSE: JLG). Although based in the UK, it manages projects all around the world, with 33% of its investment projects in North America, 28% in Asia and 19% in Latin America. In the past few years there has been a shift towards transportation projects, which now account for two-thirds of its portfolio. It is on a 2021 p/e of just 7.4 and yields 2.8%.
One contrarian play is engineering and construction company Kier Group (LSE: KIE). Given that shares are still 35% below their March level and have slipped by two-thirds in the year since the company unexpectedly announced a profit warning, this is certainly not a stock for the faint-hearted. However, its involvement with HS2 should bring in £250m a year for at least the next six years, while it also has plenty of cash on hand. With shares in the company trading at a bargain basement level of three times 2021 earnings, the potential upside if its management team can steady the ship could be immense.
Matthew graduated from the University of Durham in 2004; he then gained an MSc, followed by a PhD at the London School of Economics.
He has previously written for a wide range of publications, including the Guardian and the Economist, and also helped to run a newsletter on terrorism. He has spent time at Lehman Brothers, Citigroup and the consultancy Lombard Street Research.
Matthew is the author of Superinvestors: Lessons from the greatest investors in history, published by Harriman House, which has been translated into several languages. His second book, Investing Explained: The Accessible Guide to Building an Investment Portfolio, is published by Kogan Page.
As senior writer, he writes the shares and politics & economics pages, as well as weekly Blowing It and Great Frauds in History columns He also writes a fortnightly reviews page and trading tips, as well as regular cover stories and multi-page investment focus features.
Follow Matthew on Twitter: @DrMatthewPartri
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