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Investment companies can provide returns despite market uncertainty

Investment companies, however, with holdings in real assets across renewable energy infrastructure, and social and digital infrastructure, have fared much better, recording their best year for dividend payments, and offering less correlated returns than public capital markets.

Global geopolitical tension and outright conflict in mainland Europe, inflation reaching dizzying heights, tightening monetary policy, and the threat of recession has driven markets down across the world in a sharp correction. The Nasdaq fared worst, losing about 30% in the six months to 30 June, closely followed by the S&P 500 which dropped 21% in the period. The UK equity markets comparatively stood fast, with the FTSE 100 and 350 dropping a more modest 4.5% and 7.5% respectively.  

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Despite a partial recovery in July, there appears to be little sign of an end to the uncertainty and volatility. Investors have an opportunity to look at investment companies in the infrastructure space, which are able to deploy capital into private long-term inflation-protected assets, with strong public policy support, whilst also benefiting from the advantages of an investment vehicle that is structured like a listed company.

Why real assets?

Across the world, companies are building infrastructure and creating technology that addresses long-term structural needs. Roads, bridges, social housing, healthcare facilities and renewable energy are good examples of assets that deliver solutions to real-world problems. These problems include the need to finance the repair, upgrade and expansion of existing social and digital infrastructure, the ‘levelling up’ of less developed regions, food and energy security, and the need to meet challenging net zero goals.

Commitments to decarbonise our energy systems will require massive investment in generation, transmission and storage of clean, renewable energy, while also requiring solutions to reduce consumption. In an unstable world, they offer to increase energy security and independence at a time when supplies of oil and gas are threatened.

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Typically, these assets generate revenues with in-built inflation linkage under long duration contracts which offer investors the prospect of predictable long-term real cash flow returns.

More often than not, these assets are held privately making it hard for most retail investors to access them and benefit from the returns they offer. However, listed investment companies have the ability to hold these assets whilst also offering liquidity.

The road to net zero

If the UK and others are to deliver public commitments to achieving net zero by 2050 and limit damaging increases in global temperatures, significant investment must be made across the whole of the energy system as part of our energy transition.

This will mean increasing the amount of energy generated from renewables like wind, solar and hydro power. But the intermittent nature of renewables generation means that investment must also be made into infrastructure that smooths that volatility – like utility scale battery energy storage systems – which can store energy during times of surplus generation and balance the system.

Transmission networks will also require significant investment to become more efficient. Buildings must be made more efficient too, through measures such as retrofit or LED lightbulbs.

Different trusts are invested in the various individual elements of energy transition. Others take a holistic approach investing across the mix to ensure returns are smoothed as each area rises and falls. A global focus on sustainability has seen an increase in investment trusts directed towards renewable energy and infrastructure. Edison’s research into Foresight Solar Fund, Gresham House Energy Storage Fund and Premier Miton Global Renewables projects that this trend is set to continue.

Structural resilience

The way in which alternative assets held within trusts generate earnings, which are often delivered through long-term, inflation-linked contracts, means trusts offer returns that do not correlate with wider equity markets.

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For investment companies as a whole, dividends are up 15% from last year with payouts totalling £5.5bn in the year to the end of March 2022. However, 80% of the increase in payouts has come from companies investing in alternative, less liquid, assets in property, renewable energy and VCTs. Dividends from trusts investing in these areas have increased ninefold over the last decade.

It is likely that investment companies are set to maintain this growth thanks to their structural strength, the increasing appetite for purpose driven investment, and the ability to build up cash reserves during turbulent economic times.

Structural advantage

Investment companies focused on alternative real assets have certainly proven their worth to investors over the last two years. They have provided a safe haven despite volatility in equity markets driven by the Covid-19 pandemic, rapidly rising inflation, central bank monetary tightening and a backdrop of geopolitical uncertainty.

The structure of investment companies works well for people looking for a home for their money in income generating assets which are less readily available on public markets. Via these vehicles, investors can diversify their portfolio, increase their exposure to ESG investing, and commit to assets that are created for a public good. Moreover, these investments typically offer a long, stable inflation-protected income stream which is less correlated to the frequent turbulence of public equity markets.

Rob Murphy is managing director of financials at Edison Group

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