Wei Li, Global Chief Investment Strategist, Vivek Paul, Head of Portfolio Research, Mark Everitt, Head of Research and Strategy, and Christian Olinger, Portfolio Strategist, all forming part of the BlackRock Investment Institute, share their insights on global economy, markets and geopolitics. Their views are theirs alone and are not intended to be construed as investment advice.
Infrastructure focus: Macro policy is ripping through markets now. We step back and look at why real assets in private markets like infrastructure could be attractive long term.
Market backdrop: Stocks fell after U.S. payroll gains slowed but not enough to deter the Fed from its singular focus on inflation, with a fourth 0.75% hike in November likely.
Week ahead: We think an upside surprise to CPI inflation data this week could strengthen the Fed’s resolve to keep hiking, but a downside surprise will not sway it to back off.
Rapid rate hikes are hitting markets now and will likely spark a recession, but we eventually see central banks stopping and living with inflation. This informs our long-term investment views. Private markets are long term by design – they’re also complex and not suitable for all investors. Public market selloffs have cut the relative appeal of many private assets, but we see value in infrastructure thanks to a huge investment wave powered by the energy crunch and digitalization.
Market pricing of future policy rates, 2022
What makes infrastructure special? For one, elements of it can be seen all around. From roads to airports and energy infrastructure, these assets are essential to industry and households alike. Future needs also appear to be rising at a rapid pace. Infrastructure has the potential to benefit from increased demand for capital over the long term. An estimated $95 trillion of cumulative investment could be needed to meet global infrastructure demand over the next two decades, World Bank data show (see the yellow line in chart). That’s compared to the estimated current pace of around $80 trillion (red line), implying a total investment gap of about $15 trillion. We also find infrastructure valuations have been steadier than other private markets like real estate and private equity – they haven’t increased as much in the falling rate environment of the last few decades.
Structural trends could also support infrastructure. We find that the net-zero transition isn’t fully priced by markets across many asset classes. We think infrastructure has potential to capture the expected shift to sustainable assets. In the U.S., the Inflation Reduction Act alone earmarks nearly $400 billion of investment and incentives in sustainable infrastructure and supply chains – and the potential to pull in private investment goes well beyond the headline figures. That means there could be opportunity for private investors to get at favorable financing costs. Other trends like digitalization and decentralization signal potential for greater demaexposurend. More infrastructure would be needed to allow for the future of work. As location becomes less important, holdings would need to diversify for resilience and efficiency.
We believe that infrastructure stands out with the potential to diversify returns and help provide stable long-term cashflows. Why? Infrastructure earnings are less tied to economic cycles than corporate assets. Long-term contracts are common. Contracts can span decades – a significant advantage in a volatile environment, in our view. Infrastructure assets also have the potential to hedge some of the effects of inflation. Most power and utility assets link their costs and prices to inflation through regulations, concession agreements or contracts. That allows them to pass higher expenses through to end users. We see risks. The new regime of increased macro and market volatility hangs over all markets, including private markets – they’re not immune to rising interest rates. Key production constraints like labor could take longer to normalize, and interest rates could remain higher than historical norms. Both would raise costs. More specifically to infrastructure, governments could also impose artificial price caps amid political pressure.
Our bottom line
What does this mean for investments? We believe private assets – while not appropriate for all investors – still have a sizeable role to play in strategic portfolios thanks to their potential diversification properties and returns. We’re underweight private markets as a whole but from a starting allocation that is much larger than what we see in institutional portfolios. As these long-term commitments reprice more, we see potential opportunity in private infrastructure given rising investment and the potential for resilient cash flow and a degree of inflation protection. Asset selection is vital, in our view, given the high dispersion of performance even within the infrastructure sector. Investment horizon is key, too. Investing takes time in private markets – funds can take up to five years to invest and over a decade to realize performance. Private markets are complex and may not be suitable for all investors.
U.S. stocks slumped back near their lows of the year and short-term Treasury yields pushed near 15-year highs. September U.S. payrolls on Friday showed job gains in line with consensus with no improvement in the supply of labor. We don’t think this changes the Federal Reserve’s singular focus on inflation since it hasn’t acknowledged the policy trade-off. This underscores why we think the Fed will trigger a recession – and we don’t think hard-hit risk assets reflect the likely damage.
The U.S. CPI this week will be key for gauging the size of coming Fed rate hikes after the September jobs data reinforced expectations of more large hikes ahead. We think the Fed’s singular focus on bringing down inflation will trigger a recession – and we only see it stopping once the damage becomes clear. We should also see China’s credit data.
October 10 – 17: China total social financing and lending data
October 11: UK employment
October 13: U.S. CPI inflation
October 14: China PPI; University of Michigan consumer sentiment
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