Infrastructure equities are seeing a growth inflection not yet recognised by the market, according to James Wigley, portfolio manager at Pictet Asset Management.
Infrastructure equities are seeing a growth inflection not yet recognised by the market, according to James Wigley, portfolio manager at Pictet Asset Management.
As investors increasingly concentrate into high growth technology stocks to get exposure to artificial intelligence (AI), infrastructure equities are looking increasingly attractive.
This is according to according to James Wigley (main picture), portfolio manager of the Pictet Global Income Quality fund which invests in ‘irreplaceable’ physical assets.
“We’re in the parts of the market where people aren’t, and you want to be where other people are not,” he told FSA in an interview.
“We own these irreplaceable physical assets; they are providing essential services, the backbone of the economy, and their growth has inflected because of AI infrastructure that’s required from them.”
“But they have very durable business models and high certainty of cash flows in the future.”
He pointed to US utilities as a prime example, where he argues there has been a major inflection point in their growth profile that is yet to be appreciated by the market.
“Five or six years ago, these companies were growing earnings maybe 5% or 6% per annum,” he said. “Now, table stakes, its 8% to 9%. There’s been a real inflection point because the electricity demand is growing again.”
“We’re done with the age of efficiency – getting rid of these incandescent light bulbs, putting in LEDs – that’s over. The US deindustrializing for the last 20 years. That’s over.”
“Demand is coming back for these companies, so they are reinvesting, and they have a huge inflation tailwind. When inflation is steadily growing but under control, you want to own heavy asset businesses.”
The main driver of growth for US utilities, however, is the rapid construction of data centres and the increasing cost required to build them, according to Wigley.
“For example, The Southern Company, a big utility company in Georgia, their demand for electricity was basically flat. They now forecast it’s going to be 8% or 9% going forward, and we think its accelerating, driven by the huge amount of data centres coming into their territory,” he said.
“This company then needs to go and create energy to supply these data centres with the power they require. Five years ago, it used to cost roughly $1 billion dollars to build a big power plant in the US that satisfies a million homes. Now it’s $3 billion.”
“Conventionally thinking that’s terrible, right? It’s brilliant if you’re a regulated utility, because you earn a margin on your capital investment. So, the more capital you invest, the more money you make.”
This is what is driving a lot of growth in the industry, with still a large runway ahead, Wigley argued, due to the long lead time in building new power plants.
“If you order a new power plant now, you might not get it until 2030, we can see it happening: these companies are now going into this higher growth period which we don’t think is being reflected in the market by their valuations.”
Although this rosy outlook may not necessarily be reflected in share prices, it is drawing the attention of more generalist investors into the space.
Wigley, who has been active in the sector for well over a decade, said he has noticed a lot of “tourists” at industry conferences where attendance has been very strong in the past few years.
Indeed, prominent fund managers such as Rajiv Jain, founder of GQG Partners, as well David Tepper of Appaloosa Management, have also recently made a foray into the space, betting on utilities and infrastructure names.
Despite the interest in utilities and infrastructure, Wigley believes investors at large are still missing the high-quality nature of the assets and the competitive dynamics around them.
“We’re investing in businesses, which are often monopoly businesses, with very strong competitive positions, because they act as natural monopolies,” he said.
“You’re investing in business with a high level of visibility and certainty. Then when they deploy capital, they’re basically redeploying it into a monopoly business. So, you’re compounding your capital in a monopoly business.”
For example he pointed to Aena, the Spanish airport operator and the fund’s largest position.
“They’re building another terminal at Barcelona, where it can have a monopoly,” he said. “Every time someone buys a beer for the next 40 years at that airport you are going to clip that coupon.”
But operating monopolies often bring regulatory scrutiny, which is why investors need to be selective in the space, Wigley warned.
“In the US, there are 50 different regulators: the local gas companies, regulated electric, water, etc. You might have multiple utilities in each individual state, and for history and different customers, they’re all treated differently,” he said.
“You better be right about the regulation, because you can’t take the asset with you. So we spend a lot of time understanding regulation.”
“Regulation is a surrogate for competition, so we want to understand places where we can profitably invest capital and that’s why understanding regulation is super important.”
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