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Nick Langley and Richard Elmslie are senior portfolio managers and founders of investment firm RARE Infrastructure.

Infrastructure as an asset class offers investors the prospect of attractive returns, at relatively low risk. This has certainly been the track record of infrastructure companies over the last fourteen years. Over that period, an index of the largest liquid infrastructure companies (and our investment universe), the RARE 200, has given better returns than equities as a whole, with lower volatility of returns.

Performance in past recessions has been mixed

Most of the companies that we include in the RARE 200 weren't listed for much of the twentieth century, as private-sector ownership of infrastructure only re-emerged as a theme in the latter part of the century. It is therefore hard to draw firm conclusions about performance of infrastructure through recessions.

The main set of companies that have been listed through several macroeconomic cycles are the US utilities, but performance of these companies is different in each cycle. In some (like the 1980s and 1990s) the value of US utilities remained broadly stable as equities were volatile. But in the last two recession periods, performance has been linked more closely with equities as a whole. Our analysis shows how infrastructure companies have a lower structural correlation with equities as a whole, and can be considered a separate asset class, but there is still a link to the economy.

Performance depends both on macroeconomics and the type of asset

We think it is important to appreciate that the performance of infrastructure as a whole depends both on the macroeconomy and the assets, and we illustrate this here with a discussion of two types of company: Severn Trent, which has low exposure to GDP growth but strong inflation protection, and MAp Group (MAP), the performance of which is strongly linked to economic growth.

Severn Trent (SVT) is one of the UK's largest water and sewerage companies. The revenues for its main water business are regulated by the UK Water Services Regulation Authority (Ofwat). The regulatory process allows SVT to earn a pre-specified return on a measure of its invested capital, the regulatory capital value (RCV). Inflation protection arises in two ways. First, short-term protection is given because revenues increase directly with increases in inflation. Second, long-term protection is given because the regulatory capital value is also increased with inflation, ensuring that the real value of investors' capital is protected. We calculate that increases in inflation lead to a slightly higher expected return from SVT.

A very different type of asset in our portfolio is MAP. MAP owns a controlling stake in the Sydney Airport in Australia, as well as stakes in airports in Copenhagen and Brussels. In common with many airports, revenues are regulated using a "light-touch" approach, with explicit agreements about charges for airport use, but less supervision of other ancillary assets (such as retail and car parks). Overall revenues and value depend on the number of passengers passing through airports, and this is in turn dependent on GDP growth. We estimate that a 1 per cent increase in GDP leads to a 0.7 per cent increase in the expected return from MAP. 

Inflation increases will in time get passed to charges, but the structure of regulation means that it is not as direct as it is for the UK water industry. GDP-sensitive and GDP-insensitive stocks do perform very differently over the course of the cycle. We have split the RARE 200 into two categories based on their GDP sensitivity.