In early February, Dutch pension provider PGGM, announced that it would invest up to 30 per cent of its infrastructure portfolio in emerging markets. The first stop is China. A sure bet then, or is there a catch?
One thing that needs to grow alongside an increasing population is infrastructure. Emerging markets require a lot of money when it comes to infrastructure, presenting a high amount of good opportunities for investors. Blooming businesses and increased foreign trade require roads, airports, railroads, telecom solutions and harbours to succeed. The Organisation for Economic Development (OECD) predicts that infrastructure requirements will escalate worldwide in coming years.
Investing in infrastructure can be an interesting option for pension funds, particularly those still thinking long-term. Returns are equal to real estate but with less risk attached to it.
The investments, however, are very dependent on government legislation and spending. Some see this as a threat, others however, see this as an opportunity.
Take research agency John Howell & Co for example, which, commissioned by AXA Private Equity, researched the infrastructure sector. In their report, Building Infrastructure into the portfolio – The road to performance and diversification, they forecast that governments will call upon the private sector for financing infrastructural projects. According to their research, infrastructure will be the fourth most important investment category for institutional investors (after equities, fixed income and cash) as governments struggle with their deficits.
Henk Huizing, head of infrastructure for the €103bn pension provider PGGM, which manages the healthcare scheme PFZW, has said that pension funds have asked the firm to look at emerging markets, as they are eager for more diversification.
And China is a prime target. "It's a huge market so there are many opportunities to invest in ports, rail, toll roads, hydropower and wind energy," he says.
So China seems to be the Emerging category winner, not surprising with a ten per cent growth track record. But will it be able to maintain this rate and what will be the consequences for our western markets?
Fears of inflation
According to economists Qing Wang and Ernest Ho, from Morgan Stanley, the Chinese boom will continue, perhaps dropping from its double digit growth figures to eight per cent every year.
A big change, however, is predicted to take place in inflation. Wang and Ho say that China will see an average of 3.5 per cent, a lot more than the 1.9 per cent average we have seen in the last decade. This is mainly due to the fact that the Chinese employment market will start to resemble an average western employment market, without the cheap employees begging for whatever kind of work is available. An employment market getting tighter also means higher wages, thus higher costs.
Eric Mujagic, a Dutch economist and monetary expert, predicts these changes will lead to higher inflation here in the West.
"Inflation in China means the end of the Asian deflation export that kept inflation low in the West. Globalisation and free trade agreements ensure that the West and Asia can not be seen separate from each other but that we are closely interwoven," he says. In the West the consequences in the long-term will therefore be likely to be heavy price increases.
Perversely enough then, pension funds investing in Chinese infrastructure – will help complete the circle – and will be hard hit by rising prices.
Does this mean we should stop investing in Chinese infrastructure? No of course not, but pension funds would be advised to see how the world's second biggest economy deals with inflation increases in the next decade or so.
Mujagic warns: "With a much more hostile economic environment ahead of us, the ageing population that we are dealing with and the increase in inflation, the indexation of pensions will become more difficult and more expensive."
azeevalkink@wilmington.co.uk
