Infrastructure opportunity

Valuations still low despite massive capital spending

The latest earnings from mega-cap tech are still showing massive spending on AI, even amid market volatility and dispersion. We see a clear beneficiary: infrastructure. Most investors could increase their exposure to this diverse asset class, in our view.

Beyond the AI buildout, multiple mega forces support long-term demand. Valuations look low to fair versus history. And cash flows that often adjust with rising prices can help hedge inflation risk.

Infrastructure, traditionally viewed as a stodgy defensive sector, is now at the center of interlocking mega forces. Geopolitical fragmentation is leading governments to emphasize energy security. Population growth in emerging markets requires upgrading urban infrastructure. Nuclear and renewable power for the low-carbon transition often need more up-front investment than traditional energy sources. Yet valuations, weighed down as interest rates have climbed, do not reflect this growth potential.

Listed infrastructure equities trade at nearly 20% below their long-term average on enterprise-value-to-EBITDA multiples – below levels at the financial crisis and similar to the Covid shock (see the chart below). Private infrastructure assets trade closer to long-term averages, we believe, but lets investors tap a much wider universe of assets.

Investors can tap infrastructure through a wide range of sectors and exposures. It spans transport, energy, telecom and digital networks, and water and waste management, and can be accessed through debt and equity in both listed and private markets. Yet most investors are under-allocated, even the large institutions that historically dominate illiquid asset investing.

Analysis from our recent paper (for professional investors only) shows that a typical U.S. corporate pension with similar risk to a 70/30 equity-bond split has infrastructure-like exposure of about 4% to 5% through equity and credit holdings such as utilities. Why so little? Infrastructure lacks the familiarity of mainstream stocks and bonds, and its long investing horizons has made it the purview of select institutional investors. Yet our analysis shows that corporate pension funds can more than double their current levels of exposure for increased portfolio efficiency: greater return for similar overall risk.

The benefits of infrastructure holdings

Infrastructure holdings are particularly helpful when supply chain constraints stoke inflation and mega forces cloud the long-term outlook. Growth is solid right now, but inflation is getting “stickier,” as Federal Reserve Chair Jerome Powell said after holding policy rates steady at the end of January.

Investors need income sources that have a low risk of eroding in such an environment. Infrastructure’s cash flows are often supported by regulation or long-term contracts that adjust with inflation, offering predictable income. We especially like infrastructure equity among private growth assets on a five-year-plus horizon.

What are the risks? First: An AI bust chokes data center and energy infrastructure demand. We see this as overblown for the sector. The reason: strong legal protections. Companies pay for space even if they don’t use it; early lease terminations are limited; and tenants front any increases in energy costs. Second: The risk of rising real rates raising the return bar for infrastructure assets. This risk has been front and center recently, with a rapid rise in the term premium pressuring the U.S. dollar and Treasuries as global investors rethink U.S. exposure. We see the nomination of Kevin Warsh as Federal Reserve chair mitigating the risk for now thanks to his financial crisis experience and likely focus on preventing global spillovers.

Bottom line

We like infrastructure. Mega forces like AI are driving long-term demand, but valuations don’t yet reflect that. We think most investors can allocate more and particularly favor infrastructure equity among private growth assets.

Jean Boivin is Managing Director, Head of the BlackRock Investment Institute at BlackRock Inc.

Wei Li, Global Chief Investment Strategist, Blackrock Investment Institute at BlackRock Inc., Vivek Paul, Global Head of Portfolio Research – BlackRock Investment Institute, Christopher Kaminker, Head of Sustainable Research and Analytics – BlackRock Investment Institute, and Serge Lauper, Global Head for Infrastructure Solutions, contributed to this article.

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