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The types of assets that large super funds select to generate investment returns for their members are often a bit mysterious, with many people complaining they should be investing more into Australian infrastructure. Farmers and rural communities have long bemoaned what they claim is a lack of super fund investment, with the government recently announcing an inquiry to look into super fund investment in Australian agriculture and agricultural infrastructure.
The reality is, many large super funds are already big investors in these types of assets. Industry super funds in particular have made a point of investing in Australian infrastructure, including significant infrastructure affecting rural communities. According to Industry Super Australia, in 2018 industry super funds have direct equity investments in infrastructure assets valued at around $17 billion in major airport, seaport, utility and community infrastructure directly benefitting rural living standards.
Industry super funds also directly invest in Australian and international airports, railway stations, electricity generators, gas pipelines, water treatment plants, roads, shopping centres, schools, aged care facilities, hospitals and courts. Retail super funds (such as those managed by the major banks) and SMSFs, tend not to be direct infrastructure owners, but often invest in these assets via the shares they hold on the Australian Securities Exchange (ASX). (For more information about the different types of super funds, see SuperGuide article What are the different types of super funds?).
So, what’s to love about infrastructure?
Large superannuation and pension funds have been keen on investing in infrastructure since the 1990s; when governments around the world began selling off key assets to balance their budgets. One of the big attractions of infrastructure investments is that they are tangible assets and represent many of the public utilities we need for everyday essential services, including:
- Regulated utilities: Electricity and gas supplies and water distribution systems.
- Transport: Roads, bridges, airports, seaports and railways.
- Social: Hospitals, courts, prisons and schools.
- Communication assets: Radio and TV broadcast towers, cable systems and satellite networks.
Examples of the infrastructure assets currently owned by large Australian super funds include many of our airports, the major motorways in our capital cities, the key port facilities in Sydney and Brisbane, oil pipelines in the US, shopping centres in the UK and several European electricity and gas networks.
Super funds and infrastructure: A match made in heaven
Super funds allocate fund members’ savings to infrastructure investments because these types of assets tend to be relatively safe investments that provide steady – if a little dull – investment returns. They also have other appealing characteristics:
- Market dominance: As many infrastructure assets are monopolies (for example, a capital city airport), they do not face significant competition.
- High barriers to entry: The high construction cost of these assets makes it very costly for potential competitors to try to move in and grab a slice of the action.
- Low ongoing operational costs: Once these assets open, the costs of operating and maintaining them are relatively low and predictable.
- Longevity: The assets generally have a long life (often longer than 30 years) and generate an income for their entire lifespan.
- Predictable cash flows: The income stream from these investments is generally secure, as they frequently include long-term contracts with the government.
- Protection from inflation: Often the rate of return from infrastructure investments is linked to changes in the inflation rate, so the value of an investor’s money is protected against the impact of inflation.
Spreading the risk: Putting your eggs in several baskets
For most super funds, one of the significant benefits of infrastructure investments is that the investment returns are much less volatile than those received from growth investments like listed shares. While investment returns from shares bounce around depending on what’s happening in the share market, with infrastructure it’s more a case of slow-and-steady returns.
When the economy slows, property or share markets usually decline, but returns from infrastructure assets continue chugging along as their income stream is more stable (for example, drivers still continue using toll roads and homes continue using the electricity network).
By mixing the usually higher – but more volatile – investment returns from growth assets, with the usually lower – but more stable – returns from defensive assets like infrastructure, super funds can smooth out any ups and downs in the investment returns credited to fund members’ balances. This spreading (or diversification) of a super fund’s investments is an important principle when it comes to successful long-term investing.
The importance of diversification when investing also explains the reluctance of super funds to buy every Australian infrastructure investment that comes onto the market. Generally, large super funds take great care to diversify their holdings both across their entire portfolio of investments and within each type of asset. They select investments in different industries (for example, train stations and shopping centres), geographic regions (for example, Sydney and Darwin) and countries.
For more information about diversification, see SuperGuide article Understanding the dynamics on which your super fund invests.
How do super funds generate returns for fund members?
Members receive investment returns from their super fund’s infrastructure assets in two ways:
- Cash flow from the asset: The income stream received from the infrastructure asset (for example, rental income from shipping firms using a port facility) is received by investors as regular distributions. The super fund then adds these to the daily crediting rate applied to members’ accounts.
- Capital growth: Infrastructure assets are appraised on a regular basis by independent valuers to determine their market value. If the value is higher than when the previous valuation was conducted (usually every six or 12 months), the asset has experienced capital growth. This capital growth is added to the total value of the super fund’s assets and reflected in its daily crediting rate to members.
Note: For an explanation of a super fund’s crediting rate and how it works, see SuperGuide article Super investing: What is unit pricing and a crediting rate?
What are the risks with infrastructure investment?
Although infrastructure is generally considered a relatively low risk investment, like all investments it involves an element of risk. The main risk is political and regulatory change, as governments are usually involved in these assets. For example, electricity pricing may be set by a regulatory body, while an airport requires government permission to expand the number of flights or hours that the airport can operate.
New infrastructure assets often face risks during the construction phase due to unexpected cost over-runs or delays in the construction process. Investment returns can also be affected by operational risks once the asset is up and running (for example, if the traffic volume on a toll road is lower than forecast, or if the asset requires unplanned repairs).
If an infrastructure project requires large loans to get it through a lengthy construction phase, investors face the risk that interest rates could increase or a loan cannot be refinanced. When infrastructure assets are located overseas, movements in foreign exchange rates can also affect returns to investors.
For more information about super fund investments, see the following SuperGuide articles:
- Super investing: What are listed and unlisted investments?
- Super investing: What is your risk profile?
- Super investing: What is unit pricing and a crediting rate?
- Super fees: What are buy/sell spread costs?
- Asset sector performance: Returns over 1 to 15 financial years (to June 2019)
- Best performing super funds over 5 calendar years (to December 2018)
- Best performing pension funds over 5 calendar years (to December 2018)
- Which asset classes are popular with SMSFs?