Why investing in Sustainable Infrastructure? With global yields at historical lows, investing in real assets needed to fill the infrastructure gap of emerging and developing countries (UD 150bl per year in LAC) currently represent the most promising investment opportunity for investors around the world – and the continuing capital shift towards real assets seems to confirm it (Blackrock, 2020). At the same time, with more than 60% of CO2 emissions expected to come from infrastructure not yet built in emerging economies (NCE, 2016), the necessity of making this future infrastructure sustainable becomes an imperative in order to keep global temperature within the 2C increase signed in the Paris Agreement. But, what is the sustainable infrastructure investment opportunity in Latin America? who are the investors and how are they investing in these sustainable assets?
What is Sustainable infrastructure?
Infrastructure is deemed sustainable when is planned, designed, constructed, operated, and decommissioned in a manner to ensure economic and financial, social, environmental (including climate resilience), and institutional sustainability over the entire life cycle of the project - (IDB 2018). It’s important then to consider sustainability in infrastructure as a combination of different dimensions that make these investments not only economically and financially profitable, but also aligned with the needs and values of the communities affected by the infrastructure, consistent with the transition to a low carbon economy, and resilient to the changes that our climate will undoubtedly experience. Many of the attributes of sustainable infrastructure projects do refer to “doing projects well” and for this the IDB in collaboration with Brookings and Zofnass program at Harvard elaborated a dedicated framework (IDB, 2019) consistent as well with many project preparations tools and facilities. Besides, preparing well the projects, transitioning towards sustainable infrastructure also demands governments and policymakers a shift of priorities and the creation of investment pipelines in those sectors and economic activities aligned with sustainable development (ie clean transport, renewable energy, social infrastructure) with the ability to attract capital towards sustainable assets.
When looked under this lens, the opportunity set in Latin America is very interesting – IDB and Mercer have mapped all infrastructure pipelines aimed to private investors announced in the past 3 years in the largest countries of the region (LAC 6 - Argentina, Brazil, Chile, Colombia, Mexico and Peru) finding a potential USD300 billion of announced investments in sectors with high potential to generate sustainable infrastructure projects: these investments include transport, electricity and water projects in Mexico (through the Proyectos Mexico Hub); sanitation and railways projects in the Projeto Crescer in Brazil; transportation and social infrastructure in the Fondo de Infraestrctura in Chile.
Who is investing in sustainable infrastructure and how?
With limited public financial resources, in order to be delivered, those infrastructure pipelines need to meet supply of capital from investors, domestic as well as international ones; hence matching their return expectations, risk appetites, and meeting their investment processes. To this extent, the IDB and Mercer performed over 2018 and 2019 a survey collecting data on investment preference, risk appetite and due-diligence process from 96 investors currently seeking Latin American infrastructure assets (IDB / Mercer, 2019). The evidence, recently published, confirms known issues as for the region’s perceived risk of corruption, and lack of awareness of available pipelines, as well as generates new insights on regional investors risk appetite, preferred investment vehicles and, unfortunately, the limited resources aimed to integrate ESG practices in investment due diligence and effectively manage climate and ESG risks. More in detail:
- Half of the investors surveyed (both domestic and cross-border) do invest in LAC infrastructure.
- For many asset owners especially, achieving currentinfrastructure investment targets is still a challenge.
- LAC-based investors have a higher tolerance for credit risk but for the most part investors outside of the region require investment grade credit (BBB rated debt or better).
- A gap persists between investor appetite (relatively high demand for liquid and de-risked investments) and countries’ needs (mostly private greenfield investments required).
- LAC regulatory uncertainty and perceived corruptionrepresent the most significant risks to investing in the region infrastructure.
- (Perceived) lack of bankable projects ranks first amongst other barriers not specifically related to investment risks.
- A large majority of surveyed investors have an ESG policy in place and about half of these investors address climate change specifically in their ESG policy – however, LAC investors are much less likely to have any dedicated ESG resources (less than half have a policy and only 25% have dedicated resources).
- Investors are still more likely to outsource ESG assessment or treat ESG as a compliance issue than embed ESG assessment into core due diligence or investment management functions.
- Finally, Climate-related disclosure is not yet mainstream and is lagging in LAC versus other regions (less than 20% of LAC respondents are familiar with TCFD).
A way forward
While many efforts to promote mobilization of capital towards sustainable infrastructure investments in emerging markets – including Latin America – have focused mainly on risk mitigation instruments trying to tilt the risk-return profile of the projects, IDB research is showing that a significant effort on capacity building, awareness raising and design of suitable investment vehicles are also needed.
Capacity building to support governments and policymakers in developing not only sustainable projects pipelines but also to create transparent processes that increase the visibility of such pipelines and lower the perception of governance risk (such as Proyectos Mexico Hub and Projeto Crescer Initiative in Brazil). At the same time, capacity building to support investors (especially domestic) to integrate tools to assess and evaluate sustainable infrastructure investments in their processes.
Awareness raising with both governments and investors to increase the mutual understanding of the pipelines offered and the infrastructure needs of the countries in the region, on one side, and the risk appetite, liquidity and regulatory needs of the investors on the other.
Finally, designing/adapt appropriate investment vehicles so to make the investment opportunities more aligned with investors’ demand and ability to identify, analyze and invest in projects. Examples of successful collaborations are emerging between development finance institutions and institutional investors (as in the strategic collaboration between the IDB Invest and Blue Like an Orange), as well between international investors and domestic ones (the joint venture between CDPQ from Canada and CKD IM in Mexico) in order to support project identification skills of investors with a domestic presence, and leverage the size of international and more diversified institutional investors.