New Ways To Fund Asian Infrastructure
As a raft of infrastructure projects get underway in Asia in the coming years, investors will deploy a range of new funding models to take advantage of this opportunity. These new models range from green bonds to direct project lending.
HSBC estimates that to 2025 Asia will require US$11.5 trillion of investment in infrastructure from urbanisation alone, and governments are taking initiatives to fill the looming infrastructure deficit.
For example, China’s US$40 billion One Belt, One Road strategy aims to build infrastructure along sea and road trade routes through Asia onto Europe. At the same time, the newly-formed Asian Infrastructure Investment Bank will leverage its US$100 billion of capital to fund much needed energy, power, transport and telecommunications infrastructure, and the European Union aims to unlock EUR 315 billion in funds for investment in infrastructure projects in Europe, some of which will link to Asia.
Despite the amount of money these initiatives are committing, they will also be seeking funds from private sector investors. By seeking outside sources of funding, Asian governments will also be able to tap into this private sector funding expertise to develop infrastructure projects.
US professional services firm Towers Watson estimates there are a total of US$36 trillion^ in institutional pension funds around the world and the world’s 10 largest sovereign wealth funds have assets of over $9 trillion, according to the Sovereign Wealth Fund Institute. Many of these funds have earmarked a portion of their holdings for infrastructure investments, particularly in the current low interest rate environment were returns on government bonds are low, and in some cases negative.
Green bonds are proving to be an increasingly popular method of funding the surge in Asian infrastructure projects.
As their name suggests, green bonds are used to fund environmental initiatives. Many infrastructure projects fall into these categories to their efficient delivery of services, resulting in the consumption of fewer resources.
A joint report by the Climate Bonds Initiative and HSBC found that although currently there is only US$65.9 billion of green bonds on issue, this form of finance will grow very quickly. For example, universal guidelines and incentives regimes are being developed alongside country specific initiatives, such as China’s State Council announcement that it wants to see a labelled green bond market as part of the country’s shift to green development and the central bank’s green financial bond regulation.
From an investor’s perspective, green bonds offer a slightly different risk profile, compared with traditional bonds, though not necessarily more risk.
While traditional bonds will remain part of the funding mix, as will bank debt, there is an increase in investors that have specific mandates to put funds into green bonds.
Public Private Partnerships
Public private partnerships (PPPs) are another growing funding option for infrastructure projects. In a PPP, the private sector builds and operates an nfrastructure asset on behalf of a government and in exchange takes a share of the operating revenue, such as tolls.
PPPs will play an important role in countries where governments have only limited funds and expertise, such as Bangladesh or Laos.
Governments such as these can simply supply the broad project specifications and the private sector supplies the funds and expertise to build the project. These projects can take a little bit longer to establish, but they relieve some of the cost and technical burden on the government.
New Project Lenders
Another key trend in the market is the increasing appetite of institutional investors, specifically insurance companies and pension funds, in funding infrastructure projects.
In the past, institutional funds would mainly have bought bonds to help fund infrastructure projects.
However, they are now starting to also lend money to investors in these projects, on the same loan agreement as the banks, whichmeans they are taking on more risk than they would have in just buying bonds.
Sovereign wealth funds, which like the long-term stable returns that infrastructure projects provide, have yet to follow the insurers and pension funds in lending direct to projects, but this may come in the future.
Whatever the funding model, the absolute cost to investors and governments of funding infrastructure projects has reduced significantly. In fact, it is cheaper than it has ever been, for two reasons. Firstly, global interest rates are at historic lows, and secondly, the margin that project owners or borrowers pay have contracted to levels not seen since the start of the global financial crisis.
The new funding models, along with the vast array of different project types and locations throughout Asia, mean investors have more options than ever before.
This HSBC article can be found here.