Is Infrastructure a Poor Inflation Hedge?

Institutional investors that have looked to infrastructure as a hedge against inflation may be in for a surprise, two academics suggest.

(June 29, 2012) — The widespread belief that infrastructure offers a good inflation hedge may be a popular misconception, an article published in the summer issue of the Journal of Alternative Investments asserts.

“Infrastructure overall as well as its subsectors telecommunication, transport, and utilities hedge inflation neither particularly well nor any better than equities,” write Maximilian Rödel and Cristoph Rothballer of the Technische Universität München, Germany. “Only portfolios of infrastructure firms with high pricing power exhibit a slightly superior (yet not statistically significant) hedging quality at a five-year investment horizon.”

The German academics analyzed literature on the subject and conducted their own empirical study, which they said was the first to be done in a “comprehensive and methodologically robust” way. By and large, they conclude, infrastructure provides the same (inadequate) inflation hedge as equities. Only carefully selected infrastructure assets with strong pricing power give a somewhat credible hedge against inflation. Consequently, investors should “depart from the belief that infrastructure generally provides a natural hedge,” Rödel and Rothballer contend.

Large institutional investors, particularly pension funds, have gravitated toward infrastructure investments because they generate strong and stable cash flows. Part of their allure, however, has been their supposed hedge against inflation. While inflationary pressures are low despite rock-bottom interest rates, concerns persist about inflation in the medium-term. The conclusion of the academics’ article may spark a reexamination of the alternative investment as a result.

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To read “Infrastructure as Hedge against Inflation—Fact or Fantasy?” by Maximilian Rödel and Cristoph Rothballer, click here.

Private Equity Funds Minimize Transaction Fees

Most recent buyouts funds will rebate the entirety of any transaction fees they earn from portfolio companies back to the fund’s limited partners, research by Preqin has found.

(June 29, 2012) — From a fees perspective, private equity may be becoming a more attractive investment.

According to consultancy Preqin, the majority of 2011 and 2012 vintage buyout funds, and those yet to begin investing as of June 2012, will rebate 100% of any transaction fees earned from portfolio companies back to their limited partners (LPs). Altogether, 56% of recent vintage buyout funds, meaning funds that raised capital and became active in the past few years, will rebate the entirety of such transaction fees. The mean proportion of transaction fees rebated to limited partners by general partners (GPs) stands at 85%.

“The proportion of transaction fees rebated to LPs is of particular interest when considering buyout funds due to the large average size of investments made, and the latest Preqin research shows that most new buyout funds coming to market intend to rebate the entirety of these fees back to LPs,” said Sam Meakin, the managing editor of the study. “The ILPA Principles state that transaction and other fees charged by the GP should accrue to the benefit of the fund, and it now appears that most new buyout vehicles intend to conform to this aspect of the guidelines.”

A total of 20% of funds surveyed by Preqin will rebate 80% of transaction fees to limited partners while 16% will rebate only 50%. The research noted that the rebates typically come in the form of a reduction in the management fee earned by the general partner. The mean management fee has slightly declined from 2.01% for vintage 2007 buyout funds to 1.92% for the most recent vintages.

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The latest issue of aiCIO explored the issue of misaligned incentives motivating general partners to pursue transactions they otherwise wouldn’t. Given that the bulk of 2007 vintage buyout funds are set to expire in the coming months, there is a strong desire for general partners to make deals so that their transaction fees are not left on the table. While the Preqin research suggests this will not be a problem in the future, limited partners are advised to keep a close eye on deals occurring with their expiring private equity investments so that their money is not invested unwisely. To read “A GP/LP Mismatch?,” click here.

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