Infrastructure as an asset class - how to proceed?

The introduction of the 'infrastructure' investment category opens up new scope for pension funds. Many funds have now included the investment category in their investment regulations and defined a strategic allocation. But how can infrastructure investments be implemented efficiently? Which possible solutions can best be embedded in the overall allocation? What types of infrastructure investments are there and how do they differ? We use specific examples to illustrate a practical approach.

In 2020, the Federal Council amended the Ordinance on Occupational Retirement, Survivors' and Disability Pension Plans (BVV 2) and introduced 'infrastructure' as a new investment category. The new investment category for infrastructure was included in the investment catalog and limited to a maximum share of 10%. Infrastructure investments are a relatively new asset class and have interesting characteristics, particularly for pension funds.

The question arises as to the appropriate approach for selecting solutions in this very broad asset class, which also allows the specifics of this asset class and different forms of implementation to be examined as part of an evaluation process.

ZWEI Wealth has already assisted Swiss pension funds in the selection of suitable infrastructure investment solutions through tendering procedures and in a consultative capacity. An open and orderly tendering process has proven to be particularly effective for a new investment category. First openly view the multitude of options. Then invite a shortlist of managers to an interview and make an informed decision based on this.

In the following, we present our experiences from a recent infrastructure tender.

Case study: Procedure for a Swiss pension fund

The investment committee of a Swiss pension fund has decided to include the 'infrastructure' asset class in its strategic investment allocation. In order to find the right approach and asset manager for the implementation, ZWEI Wealth was allowed to carry out the tendering process. This comprises two phases and deliberately provides for a broad consideration of providers. Experience has shown that restricting criteria at an early stage leads to suboptimal results and limits the selection process to costs:

The assessment grid developed by ZWEI Wealth with four factors was used to evaluate the results. This includes the manager rating, analysis of the track record, comparison of the cost structure and the fit of the solution to the client criteria. With the help of ZWEI Wealth's benchmarking system, the results and costs achieved can be compared transparently and independently at any time.

1. 28 offers received for the implementation of the 'Infrastructure' asset class
2. 7 asset managers were invited to the beauty contest
3. Implementation was carried out using a combination of two asset management approaches
4. The competitive process led to an implementation solution tailored to the pension fund with an optimized price structure

Infrastructure is an asset class that is not yet clearly defined. Investors in this asset class are often looking for stable returns and a low correlation to other asset classes. However, a closer look at the asset class shows that this is not always the case. As part of the aforementioned tender, the providers offered different investment strategies. In principle, a distinction can be made between 3 implementation models with corresponding cash flows:

Brief description of the three risk types

1. Private debt
   This is privately placed, generally non-traded and therefore illiquid debt capital. Attractive, stable returns are typical of this form of investment, particularly relative to government, corporate and high-yield bonds.
2. Equity
   This involves equity in an infrastructure company that is listed and regularly traded on the stock exchange. Equity investments can be subject to significant price fluctuations. The expected returns on equities are higher than those on debt capital. There is unlikely to be a low correlation to traditional equities with this form of investment.
3. Private equity
   Private equity is a form of equity capital that cannot be traded on markets. As with private debt, this is also an illiquid asset class. Private equity is a form of investment that is sometimes considered very risky. The so-called J-curve effect is typical of this form of investment. At the beginning of the investment, the cash flows are primarily negative. Substantial gains typically follow as the holding period increases.

For the pension fund mentioned above, it was necessary to decide which strategy best suited the existing portfolio, which (additional) risks should be taken and how the product should ultimately be implemented. ZWEI Wealth provides comprehensive support for these processes.

The most important findings at a glance:

1. Keep the invitation to tender as broad as possible
   This avoids restricting the investment category too early and thus provoking a one-sided view/examination of the investment category.
2. Understand different investment strategies
   Decide what character the infrastructure investment should have and what cash flows can be expected as a result.
3. Consider costs
   Depending on the structure of the investment, considerable costs may arise (e.g. fund of funds). Here it is sometimes necessary to question whether the diversification benefits effectively justify the costs.