Investors have long looked to real estate to provide income potential, hedge against future inflation and provide diversification to traditional stock and bond portfolios. More recently, an increasing number of investors have been expanding their horizons and including real assets in their portfolio construction as well - such as infrastructure and master limited partnerships (MLPS). At Invesco Real Estate, we believe the U.S. - and the world - is heading for a building boom that would bode well for real assets.
Trillions in infrastructure upgrades needed
The American Society of Civil Engineers issues an annual Report Card for America's Infrastructure. In 2013, the group determined that the physical condition of American infrastructure was at a D+ level, and that $3.6 trillion in spending would be needed by 2020 to adequately upgrade the nation's roads, ports, bridges, dams, levees and other infrastructure.
Globally, it's estimated that $58 trillion in infrastructure spending is needed for the world's roads, railroads, airports, ports, water and power facilities, and more.1 That equates to 3.5% of the world's gross domestic product.
How can investors participate in a potential building boom? One way is to invest in the companies that own or operate these assets. Infrastructure investments have the potential to provide an income stream, and they can also offer a natural hedge against inflation, as their revenue is often combined with regulated income clauses, guaranteed yields or other contractual guarantees. In addition, they may provide diversification from cyclical equities as their assets address a critical public demand that is relatively independent of business cycles.
U.S. energy boom shines spotlight on MLPs
In our opinion, one particular segment of the infrastructure sector that warrants special attention is the MLP space. MLPs can be involved in all parts of the energy value chain, but they are particularly well-known in the "midstream" segment that carries oil and gas from the production fields to their end destination. This includes pipelines, export and receiving terminals, processing plants, storage facilities, fractionators, and rail and truck transportation.
MLPs are particularly attractive to income investors - their yields currently surpass many other economic segments of the market such as utilities and REITs. Additionally, if over 90% of their income and capital gains come from specified natural resource activities, they currently qualify for special corporate-level tax treatment and pass along more earnings to investors in the form of quarterly cash distributions.
Given the massive growth in U.S. oil and gas production in recent years, significant midstream investments are needed. It is projected that more than $800 billion will be spent on energy infrastructure in the U.S. alone from 2011 to 2035.2 As such, the number of available MLP investments has risen dramatically. The market cap of the MLP market has grown fivefold over the past seven years to its current level of $600 billion and has the potential to expand further.3
In today's low-yield environment, investors are looking for alternative approaches that can potentially provide income and growth. Given the massive level of infrastructure spending that is needed around the world, and the energy renaissance that is happening in the U.S., we believe that infrastructure and MLPs deserve a close look from investors.
- OECD, IHS Global Insight, GWI, IEA and McKinsey Global Institute analysis
- ICF International, INGAA Foundation and Wells Fargo Securities LLC
- Invesco Real Estate using data from US Capital Advisors, IHS Global Inc. and Wells Fargo Securities LLC
Alternative products typically hold more non-traditional investments and employ more complex trading strategies, including hedging and leveraging through derivatives, short selling and opportunistic strategies that change with market conditions. Investors considering alternatives should be aware of their unique characteristics and additional risks from the strategies they use. Like all investments, performance will fluctuate. You can lose money.
Diversification does guarantee profit or eliminate the risk of loss.
Most MLPs operate in the energy sector and are subject to the risks generally applicable to companies in that sector, including commodity pricing risk, supply and demand risk, depletion risk and exploration risk. MLPs are also subject the risk that regulatory or legislative changes could eliminate the tax benefits enjoyed by MLPs which could have a negative impact on the after-tax income available for distribution by the MLPs and/or the value of the portfolio's investments.
Investments in real estate related instruments may be affected by economic, legal, or environmental factors that affect property values, rents or occupancies of real estate. Real estate companies, including REITs or similar structures, tend to be small and mid-cap companies and their shares may be more volatile and less liquid.
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Disclaimer: The information provided is for educational purposes only and does not constitute a recommendation of the suitability of any investment strategy for a particular investor. The opinions expressed are those of the author(s), are based on current market conditions and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals.
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