Infrastructure finance: New asset class adds to infra funds glut
Lower capital charges for insurers; deal flow still thin.
ECB's headquarters in Frankfurt. Source: ECB
Europe’s infrastructure financiers are looking more and more like London buses – you wait ages for one to arrive, and then two or three come at once. Some of Europe’s biggest insurance companies have already spent time and money in the past few years building up infrastructure investing capabilities.
Since then, the ECB has helped European banks return to the market, and parastatals like the European Investment Bank are stepping up their financing of infrastructure projects too.
Now more insurers could join the queue, after the European Commission added a new asset class to its looming Solvency II regulation over insurance: cutting capital charges and bringing a new standard regulatory framework for infrastructure investment.
However, there is already a dearth of deals to match the influx of liquidity in the infrastructure financing market, say industry insiders.
The announcement of a new Solvency II asset class came with the launch of the EU’s Capital Markets Union plan in late September, and after the European Commission accepted the recommendations of a review by its pension and insurance advisory body, the European Insurance and Occupational Pensions Authority (EIOPA). Insurers had been pushing for the change, arguing infrastructure should be treated differently to assets like high-yield bonds or equity, due to more stable cash flows, government guarantees and collateral.
Capital charges under Solvency II for investing in equity in qualified unlisted infrastructure assets will now be 30% instead of 49% for unlisted equities in other sectors. There are lower charges as well for infrastructure bonds and loans, according to maturity and credit quality (a reduction of 40% for unrated bonds, for, example).
The new rules are especially useful for smaller insurers lacking the economies of scale to make it worthwhile to gain regulatory approval for their own specialist risk models for infrastructure. While some of the biggest insurers have got approval for lower capital chargers for infrastructure, the documentation can easily run into tens of thousands of pages.
“The scales have been tipped slightly in favour of the smaller insurers, as to some extent it takes away the disincentives for them to invest in infrastructure,” says Michael Wilkins, managing director at Standard & Poor’s in London.
But the problem is not the volume of investors willing to invest in infrastructure, says Wilkins – it is the inability of EU member states to give their financial backing to worthy infrastructure schemes, at a time of government budgetary austerity.
“The new asset class is a good first step, but not a sufficient one – one issue is that there’s a shortage of projects in the pipeline,” says Tobias Buecheler, head of regulatory strategy at Munich-based insurer Allianz. Greater legal certainty for the duration of projects and more harmonized national insolvency laws would also help by making the risk-return dynamics more attractive, says Buecheler.
Matthew Norman, head of infrastructure for EMEA at Crédit Agricole CIB, says the number of infrastructure deals coming to the market has begun to pick up over the past year, with new greenfield PPPs in Benelux, Germany and the Nordic countries, and the resurrection of postponed infrastructure works in Italy. Although the forthcoming general election in Spain, and the Catalonian independence movement, are seen as having put a brake on that country’s market, Norman says the UK’s general election in May has led to a more active market there.
Refinancing volumes, on the other hand, could be weaker now as deals from the boom years around 2007 have already been termed out. Meanwhile, the sluggish recovery in deal flow has put more downward pressure on prices for infrastructure financings.
“The banks have come back very strongly into the European infrastructure financing space over the past two years,” says Norman. More recently, he says, China, rising US rates and emerging markets, as well as issues in sectors like energy, have hit the corporate bond market, but had little effect on banks’ readiness to lend.
Kees-Jan van de Kamp joined NN Investment Partners as a senior portfolio manager in infrastructure last month from NIBC, a Dutch bank. He says his new firm – whose asset management unit used to be ING’s insurance arm, NN Group – still considers infrastructure to be good diversification, despite the re-entry of the banks and much jostling between infrastructure financiers, especially in northwestern European PPPs.
“It’s very competitive, but we expect institutional investors to continue to play a significant role in the market,” he says. He points in particular to refinancing – the cost of unwinding swaps agreed with banks when financing was more expensive is one factor helping bring investors such as NN into such deals.
Regarding the impact of the new Solvency II asset class, van de Kamp says it is still hard for smaller insurers to invest in infrastructure due to the need for specialists. Aside from engineering risk, investors must also be familiar with diverse consumer pricing and government support frameworks across Europe. “The relatively high cost of establishing an alternative illiquid fixed income platform means that it is only a viable option for larger asset managers,” he says.