Going mainstream: How private investors can access the infrastructure debt opportunity
We explore the growth and expansion of infrastructure debt in recent years, and how the ELTIF 2.0 regime has transformed accessibility for private investors and wealth managers.
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Infrastructure debt is gaining significance as a fundamental source of financing for projects that are essential to society, and that respond to global megatrends including the global energy transition, increasing need for energy security, digitalisation of economies and rapid expansion of artificial intelligence (AI).
Simply put, as governments and corporates commit to securing and decarbonising their energy supply and evolving their digital infrastructure, capital is flowing into these sectors.
Investment in energy transition infrastructure has been growing – and more capital needed
At the same time, demand for financing exceeds the supply of equity available, a dynamic that has been exacerbated by a broader fundraising squeeze in recent years. This is creating an acute need for infrastructure debt financing to fill the gap.
Infrastructure fundraising has been slowing down but picked up in 2024
Within the universe of private debt, infrastructure debt stands out as an asset class that can offer appealing yields and defensive stability across economic cycles, providing differentiated exposure to attractive, income generating assets that offer protection against inflation and interest rate fluctuations. It can also serve as a strategic avenue for generating positive environmental and human impact.
This shift presents a significant opportunity for private wealth investors to tap into investment sectors that have historically been the preserve of larger institutional counterparts, supported by recent regulatory changes and related product innovation.
In this article we explore the investment case for infrastructure debt, highlighting the growing opportunities in junior (sub-investment grade) credit and the specific benefits of the revised European Long-Term Investment Fund regulation (ELTIF 2.0) in providing flexible access to this evolving asset class.
What is infrastructure debt and how does it work?
Infrastructure debt involves lending to projects and companies in sectors with stable demand, such as utilities, transportation, energy and digital infrastructure like fibre optics and data centres. The underlying assets in these sectors generate reliable revenue streams for debt repayment.
The debt provided is secured by essential projects and assets, and loans are tailored to match risks and income profiles. Government support and incentives further enhance stability, enhancing the opportunity to access steady returns amid economic volatility.
What’s the appeal of infrastructure debt today?
Infrastructure debt is no longer a niche asset class, but a newfound investment opportunity for a broader pool of investors. Demand for financing solutions has been expanding more rapidly in recent years, largely fueled by increased investment needs related to trends such as the global energy transition, digitalisation and AI.
On the supply side, the Global Financial Crisis (GFC) marked a turning point for private debt in general, and infrastructure debt in particular. With tighter regulation and increased capital charges for holding long-term debt on their balance sheets, banks have been partially restricted from lending, creating a gap filled by more innovative players.
In Europe especially, favourable regulations such as Solvency II also incentivised insurance companies to find capital-efficient investments to match their long-term liabilities, further boosting the appeal of the asset class.
More recently, with investment needs expanding and a more favourable interest rates regime taking hold, over the past few years there has been an expansion in shorter duration, sub-investment grade strategies providing access to junior debt granted to a multitude of infrastructure businesses. These offer higher yields and can be attractive to a wider range of investors, such as pensions, family offices, endowments and private investors.
Finally, in the growing context of sustainable investing, it is worth noting that it is generally easier to implement sustainability and impact outcomes in infrastructure, such as in renewable energy projects, compared to other debt strategies such as direct lending.
Sub-investment grade debt: the new kid on the block
During the prolonged period of near-zero interest rates that followed the GFC, a gap was created from a risk and return perspective between low-risk, low-yield investment-grade debt that was valuable to many long-term institutional investors, and equity investments that could generate higher-returning capital gains.
The market has now evolved from a one-size-fits-all investment-grade model to include sub-investment grade options with shorter durations (three to seven years) and a large range of higher spreads (from 5% to 9%+) depending on the underlying risk profile and the deal structuration. This is more appealing to those investors seeking access to the stability and defensive characteristics of infrastructure, and who are willing to take on more credit risk to access higher returns.
Since 2021, sub-investment grade infrastructure debt, including junior and mezzanine debt, has gained prominence for its higher return potential and strong diversification compared to investment-grade debt. Offering returns from the high single to the double digits mark, it has regularly outperformed infrastructure equity over the past years.
Defaults are also rare, as shown in the chart below. In fact, Schroders Capital's team has no-default track record since 2012 across more than 170 transactions.
Historically low infrastructure debt default rate
What’s the role of infrastructure debt in private wealth portfolios?
Infrastructure debt, including junior debt, can offer distinctive benefits private wealth portfolios in several ways:
Access to differentiated opportunities. Infrastructure debt offers access to projects addressing critical needs in areas such as the energy transition and digitalisation and addressing global demographic shifts. These can provide transformative investment opportunities and valuable portfolio diversification.
Low Correlation with market volatility. Infrastructure projects, being essential assets that benefit from steady business model, are less sensitive to economic downturns, thus providing stability in volatile markets.
Underlying revenues are often inflation-linked and loans are typically floating rate, meaning infrastructure debt investments can offer partial to full protection against inflation and interest rate fluctuations.
Risk management. Infrastructure debt, as a private form of lending that is linked to project or asset cashflows, is not typically exposed to downgrade risks unless there is an impairment related to the underlying asset, which is rare. This contrasts with traditional high-yield corporate bonds, which face downgrade risks if corporate credit quality deteriorates.
Risk/return profile. Due to regulation, junior infrastructure debt isn’t suffering the same pricing competition as senior debt, where banks and insurance companies also compete heavily. This can result in junior infrastructure debt offering a higher complexity premium – the yield premium offered to compensate for investor skill and expertise in structuring and executing complex transactions.
Yields on junior debt are higher than those on investment grade senior debt, commensurate with the higher credit risk being taken but also the lesser market competition. Given the shift in rates in recent years, yields on sub-investment grade junior infrastructure debt have actually been competitive with infrastructure equity, with the risk profile being lower due to being higher in the capital structure.
Junior debt offers shorter maturities. Junior infrastructure debt often features shorter maturities, which further reduces exposure to risks associated with increasing interest rate and enables quicker returns on investment. This shorter duration allows investors to reinvest capital more frequently as the debt matures.
Alignment with sustainable goals. Infrastructure debt allows private wealth clients to align their portfolios with sustainable and impact objectives, particularly in sectors like renewable energy and clean transportation.
Why choose an ELTIF 2.0 for accessing infra debt?
The ELTIF, which can now be structured as an evergreen fund, provides a strategic advantage for investing in infrastructure debt. Key features include:
Access to private markets. Private wealth investors can now more easily access the same infrastructure debt opportunities as institutional investors. The ELTIF 2.0 removes minimum investment amounts and broadens the investor base. This alignment simplifies the investment process and expands the potential investor pool, making infrastructure debt more accessible.
Liquidity management. ELTIFs implement a liquidity management policy, allowing periodic redemptions while maintaining a controlled limit to protect investors. This ensures that investors can access funds during the life of the investment, while mitigating liquidity risks. The structure is therefore suitable for private wealth clients seeking flexibility, while still committing to investing for the long term.
SFDR alignment. ELTIFs can be classified as Article 8 ("light green") or Article 9 ("dark green)," and provide clear information about their efforts. This allows investors to align their financial goals with their values, contributing to long-term benefits for communities and the environment through projects like energy efficiency and green transport initiatives.
Where are the key opportunities for investors?
Infrastructure debt is set to play a crucial role in many areas, driven by global megatrends related to digitalisation and the energy transition, among others. Our approach to sub-investment grade infrastructure debt in Europe is characterised by a focus on medium-sized projects and a high selectivity of transactions, facilitated by a robust European sourcing network.
This deep-rooted regional and sector expertise allows us to selectively source innovative deals and adapt to prevailing conditions effectively. By targeting both brownfield and greenfield assets in geographically mature markets, we aim to identify opportunities with the highest potential for value creation.
We see opportunities to boost the liquidity of core infrastructure assets like toll roads and energy grids using flexible financing options like mezzanine and PIK debt (payment-in-kind, where interest is paid with extra debt instead of cash). We also invest in junior debt for renewable energy platforms (solar and wind farms, storage, electricity grids) and digital assets (data centres, fibre optics) to drive growth.
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