The liquidation of builder Carillion at the start of the year hit the IT Infrastructure sector hard, helping to push the average trust down almost 7 per cent in a matter of weeks. HICL Infrastructure was one of worst affected by the collapse, with its share price down by 13.49 per cent over this period.
Performance of trust vs sector peak-to-trough in Jan 2018
Source: FE Analytics
However, data from Winterflood Investment Trusts shows the impact on the trust’s NAV was just 2 per cent, with the bulk of the movement in the share price down to a fluctuating premium as investors overestimated the potential impact.
Harry Seekings (pictured), who runs the trust, believes Carillion’s collapse could even benefit the IT Infrastructure sector in the long term, as it demonstrates that rather than simply being a method of getting major projects off the balance sheet, private sector involvement also allows HM Treasury to transfer the risk of these developments away from the taxpayer
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“For all that Carillion was taken negatively and seen as a sign that outsourcing is bad and PFI [private finance initiative] is bad, in practice what has happened with Carillion is the private sector has taken the responsibility and the risk of finding replacement sub-contractors in those PFIs where Carillion was a sub-contractor,” he said.
“I think that is a sign of the success of the risk allocation and I think it is those sorts of risks, the financial impact, but also the human resources required to undertake that exercise, which the government has not had to fund. There’s value in that.”
Carillion’s collapse was not the only high-profile hiccup faced by the trust in recent years. Its share price tumbled in September last year after the 2017 Labour Party conference when shadow chancellor John McDonnell pledged to bring billions of pounds’ worth of PFI projects back under government control.
A changing political climate has been cited as a much greater threat to infrastructure than the ripples caused by the collapse of a single stock, with Winterflood saying it necessitated a reappraisal of the sector.
However, just as Seekings said that investors’ reaction to Carillion’s collapse was overdone, so too was the response to the Labour Party conference.
“I don’t think we really know what will happen, but I think what we can say is there are a number of hurdles to be cleared before it has an impact,” he continued.
“There has to be another election, Labour has to win, it has to have a working majority. Legislation has to pass and set out what the terms of any compensation will be if it is going to nationalise industries, and that’s before you get to the idea there will be legal disputes around the legitimacy.”
This is not to say that Seekings is naïve to the risks facing the infrastructure sector. Just 19 per cent of HICL’s portfolio is correlated to GDP growth, and the trust has a beta of less than 0.5 per cent to the FTSE All Share, meaning it should be well insulated from a recession or market collapse. However, the manager said it is the causes of either scenario that would potentially give him cause for concern.
“You can’t be complacent about this stuff,” he added. “Why would an equity bull run end? Is it because interest rates are going up and the gilt market is starting to look attractive again? If interest rates are going up, on a relative basis, does infrastructure start to look expensive? If it does, you might have changes to valuations, so there are reasons why you can’t be complacent.
“But at the same time I do think it is interesting that the risk premium available for infrastructure assets, the implied risk premium above the government bond yield, is still quite large at the moment compared with what it used to be, say, 10 years ago.
“This indicates there is some scope for government bond yields to rise before it starts to impact infrastructure valuations, but of course I guess the past doesn’t necessarily tell you what will happen in the future.”
The team at Winterflood said that while it has some reservations about HICL’s largest investment Affinity Water, it believes the trust is well-managed and its small premium offers value compared with its peers.
“However, our preferred option for infrastructure exposure currently remains 3i Infrastructure, although we would note that it is a higher risk, potentially higher return proposition,” it added.
Data from FE Analytics shows HICL Infrastructure has made 197.66 per cent since launch in March 2006, compared with gains of 89.87 per cent from the FTSE All Share and 78.43 per cent from the IT Infrastructure sector.
Performance of trust vs sector and index since launch
Source: FE Analytics
The trust is currently yielding 5.2 per cent and has ongoing charges of 1.08 per cent.
It is currently trading at a slight premium to net asset value [NAV] of 0.04 per cent, compared with 0.52 and 9.39 per cent from its one- and three-year averages. It is not currently geared.