Investing in UK utilities goes far beyond buying a few shares in a household-name FTSE-100 stock, such as Severn Trent. Indeed, back in the early 1990s, there were almost 30 quoted UK utility stocks; nowadays, the field is down to single figures.
Instead, many long-term investors have homed in on quoted infrastructure funds. After all, UK investment levels, especially in the energy and regulated utilities sectors, will remain high.
Returns, too, are good. In some cases, quoted infrastructure funds are providing double-digit total returns – the increase in net asset value and dividends – each year.
Investors can also spread their risk more efficiently. In the case of HICL, the UK’s most valuable quoted infrastructure company, it is invested in 116 separate projects, many of which are in the UK.
Furthermore, infrastructure investments are generally underpinned either by long-term contracts or by regulated returns. Commercial exposure is often quite low, although Carillion-like events can impact even the most defensive of infrastructure funds.
However, in recent months, infrastructure valuations – measured, like the water companies, by their trading premium or discount over their asset value – have fallen back from their highs attained during the latter part of 2017.
Aside from regulatory risk, which continues to dent the share price ratings of the two leading water stocks, Severn Trent and United Utilities, political risk is becoming increasingly prominent.
With a weak government, propped up by a mercurial group of Democratic Unionist MPs, investors are increasingly concerned by the radical policies put forward by the shadow chancellor, John McDonnell.
Renationalisation of many utilities, with compensation levels being determined by a three-line whipped Labour majority, is becoming a more feasible scenario than was the case before the 2017 General Election.
It is no surprise, therefore, that shares in Centrica have plummeted in recent months whilst both the 2.4 per cent WACC-driven Severn Trent and United Utilities have seen their shares fall by c25 per cent over the last six months.
By contrast, the share prices of the leading infrastructure stocks – the top three are valued at over £2 billion apiece – have been less volatile.
The leading infrastructure investment player is HICL, which emerged from leading global bank, HSBC. HICL’s latest net asset valuation exceeds £2.7 billion.
Whilst much of its recent interim update focussed on the fall-out from the collapsed Carillion, HICL’s Chairman, Ian Russell, a one-time Scottish Power chief executive, also addressed the higher risks attached to its stake in Affinity.
Russell flagged that “the Investment Adviser expects to see a net overall reduction in the valuation of the Group’s investment as at March 31st, 2018”. Clearly, Ofwat’s controversial 2.4 per cent “minded” Wacc (weighted average cost of capital) figure is the key driver of this expected downward re-valuation.
The quoted International Public Partnerships, despite its low profile, has a range of investments in UK utilities, to which it is heavily exposed.
It straddles the sub-sectors given its involvement in off-shore electricity transmission schemes, its investment in gas distribution as well as its participation in the controversial Thames Tideway Tunnel project.
3i Infrastructure is also valued by the market at over £2 billion, with 60 per cent of its portfolio being invested in the UK. Recently, however, it ditched its minority stake in Anglian Water.
Amongst the smaller quoted infrastructure funds are GCP Infrastructure, which has highlighted a delightfully eclectic group of investment targets – anaerobic digestion, biomass, education, health, hydro-electric power and solar(commercial).
John Laing Environmental Assets, in its quest for predictable long-term cash flows, invests in on-shore wind, waste and waste water along with PV Solar in the UK and France.
Last Monday, Greencoat UK Wind reported that its extensive portfolio of on-shore wind-farms generated over 1,450 GWh of electricity in 2017: its market capitalisation now exceeds £1.2 billion.
The Renewable Infrastructure Group, TRIG, is particularly focussed as its seeks “an attractive long-term, income-based return with a positive correlation to inflation”. Over half of its projects are UK-based, split almost evenly between on-shore wind and solar plants.
The activities of NextEnergy Solar Fund, whose shares are capitalised at c£640 million on the UK market, are particularly interesting.
The Fund currently has 63 solar plants, with a capacity of 569 MW. Except for a handful of plants in the Italian provinces of Campania and Apulia, all the solar plants are located in England and Wales, though not Scotland.
Given the need for reasonably long sun-hours, NextEnergy Solar’s most northerly plant is at Lower Bentham, a village located to the north-east of Lancaster.
NextEnergy Solar’s activities may be the precursor to major development of solar power in England and Wales – especially if unit costs continue to fall sharply.
Lastly, although Ancala is a quite a small infrastructure investment player, it has recently made a splash with its opportunistic acquisition of Portsmouth Water.
In summary, the utilities sector will continue to attract infrastructure investment players – Portsmouth’s take-out will not be the last.