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Where infrastructure funds are hunting

Glenn Freeman  |  30 Jun 2020Text size  Decrease  Increase  |  
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Within the normally highly defensive infrastructure category, near-term revenue is most at risk among infrastructure companies exposed to travel, including Sydney Airport (ASX:SYD) and Auckland International Airport (ASX: AIA).

Morningstar senior equity analyst Adrian Atkins believes airports face a difficult near-term future because their recovery is likely to be hampered by ongoing border closures, a hesitant public, and general economic weakness.

“Airports are worst placed, with passenger numbers down more than 97 per cent and recovery hampered by ongoing efforts to stop the virus spreading,” Atkins says.

Australia’s flagship airline Qantas (ASX: QAN) recently announced a further round of job cuts, axing 6,000 staff and grounding 100 aircraft for at least 12 months. The national carrier accounts for around 30 per cent of Sydney Airport’s international passengers, adding to the bleak outlook.

Among roads, coronavirus lockdowns have created a persistent drop in usage, but traffic volumes are already rebounding, says Atkins.

Morningstar Australia’s manager research team have recently been reviewing the infrastructure-focused funds within their coverage universe. Each of these funds is recommended only as a satellite holding rather than a core allocation of your portfolio, given their holdings are a sub-category of global stocks.

infra funds

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“In general, there's been a significant rotation amongst managers to get out of airports, pipelines, and to a lesser extent toll roads as COVID-19 and the oil spat has resulted in significant demand destruction,” says Morningstar fund analyst Edward Huynh.

Huynh notes that infrastructure funds usually don’t place much emphasis on airports unless their research team has selected travel infrastructure as a focus area.

One such strategy is the Magellan Infrastructure Fund (15700), which had an exposure of around 20 per cent to airports as the coronavirus pandemic hit.

Since the 20 February sell-off, the manager has cut its airports weighting to around 4 per cent.

“Magellan had a big thesis on this. I’m not suggesting that what they thought was necessarily wrong, it’s just that the world collapsed around them,” Huynh says.

“I think that given the information that they had, they were pragmatic and had a good reason for [being overweight airports] and possibly didn’t expect COVID to be as bad as it was.”

Magellan’s methodical approach, where the investment team typically doesn’t make knee-jerk reactions, also hurt the fund.

“Inherently it’s a good thing, but in this instance it has hurt them,” Huynh says.

“But longer term, I see it as neither here nor there, but I see it as a good thing that they actually moved their position.”

One of Morningstar’s preferred infrastructure-focused funds is the Silver Medallist Lazard Global Listed Infrastructure (13457) strategy.

Lazard portfolio manager Warryn Robertson notes the fund’s turnover of holdings has been higher in recent months as the team takes advantage of buying opportunities.

“The interesting part for us is that it’s not the names that have changed, but the trims and the adds,” he says.

Robertson views airports as “monopoly-like assets with regulatory or inflation-adjusted returns.”

“They tick a lot of the really good boxes, and they’re stocks we would own.

“But Sydney Airport and Auckland International Airport have been priced at high levels, and we currently struggle to justify owning them.”

Lazard currently has only one airport in its portfolio, a small exposure to Fraport, which operates Germany’s Frankfurt Airport.

“We like airports, but it’s like any other investment: you can be the best business in the world but you don’t make a good investment if you can’t buy it at the right price,” Robertson says.

Going into the COVID pandemic, the fund had a higher exposure to utility and telecommunication assets, which are less susceptible to changes in national GDP — something that worked in their favour.

Robertson singles out Water UK as one example of a developed market utility the fund owns.
A couple of European utilities – both Italian – also feature in the portfolio. Terna Group is an owner of electricity transmission networks, and SNAM is a gas distributor.

From a country perspective, the Lazard strategy invests solely in the developed markets of North America, Europe and developed parts of Asia including Australia and New Zealand.
“We tend to find countries that are outside the OECD will have lower levels of governance in the companies themselves and higher geopolitical risks,” says Robertson.

“Today, we don’t see geopolitical risk as something we’re prepared to take on.”

Atlas Infrastructure added to Morningstar coverage

Atlas Infrastructure (41987) is the newest addition to Morningstar’s coverage list of infrastructure funds, having recently graduated to full coverage from New Prospects.

It is the most concentrated fund under Morningstar coverage, extending to just 18 companies.

“In terms of geographical leanings, they’re far more invested in the UK and Europe than the average manager, with lower weightings to North America,” Huynh says.

Atlas Arteria (ASX: ALX) is the fund’s largest weight, comprising around 8.5 per cent of the total portfolio.

A couple of other local names also make the top 10 holding list, including Kiwi telecommunications company Chorus (ASX: CNU) and Australian regulated utility AusNet Services (ASX: AST).

“Time will tell if they can maintain such concentrated exposures as their funds under management rapidly grows,” Huynh says.

With around $1 billion in funds under management, Atlas is one of the fastest-growing strategies Huynh has seen. But its relatively high fee of 120 basis points also ranks it among the more expensive.

Huynh says performance and valuations of individual stocks are less important than the contribution these make to the broader outcome and goals of the portfolio managers.

When weighing up a company, “they think about it in terms of how it would fare in a recession, in different types of inflation, or from a discounted cashflow standpoint.”

“They add all those points together and look at it from a portfolio view in deciding whether the stock makes it a better portfolio overall – it’s a multi-faceted approach to building the portfolio,” Huynh says.

is senior editor for Morningstar Australia

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