Retail-funded infrastructure gets a break

A great many financial planners set up portfolios that contain 40-50 per cent short-term cash so they are ready for “opportunities”. In my view having such a large amount in cash is a lazy way to manage a portfolio – particularly with rates falling.

Nevertheless in my portfolios I am currently keeping 10-15 per cent in cash because there is a good chance that in 12-18 months some interesting opportunities may emerge on the infrastructure front and possibly on corporate debt.

And of course from time to time equity opportunities arise. 

Before looking at how those opportunities may arise I should qualify by pointing out that I have long advocated that balanced portfolios should have an interest-bearing securities sector. But that sector should be managed correctly and comprise mainly longer-term securities. It is separate from an “opportunities fund”. 

On the infrastructure front it has been a barren time for smaller investors because they have been frozen out of the big deals and are forced to go into large funds that often have large fees. And in today's low interest rate world high fees take a big chunk of income. But I was encouraged by what happened to both the Napthine government in Victoria and the Newman government in Queensland. I am not in any way making a political statement but rather pointing out that they both made the same mistake.

Moreover, I think that mistake will be examined closely by governments on both political sides and in time lead to infrastructure opportunities for self-managed funds and smaller investors. 

In the case of Denis Napthine he signed an East West Link toll road project contract that involved the builders (a Lend Lease consortium) contracting to construct a massive purpose-built tunnelling machine and the financiers entering into a series of interconnected bank financial transactions.

The new Andrews Labor government does not want to build East West Link. The cost of scrapping the tunnelling machine and ending the contract to build it will be very expensive and quite properly the Lend Lease consortium is demanding the new government pay its costs. 

Similarly on the banking side the fall in the Australian dollar and lower interest rates mean that unwinding the financing contracts which hedged against rate rises will be very expensive. 

The current estimate of the bill exceeds one billion dollars and if there is a settlement the final amount might be less but it is still going to be extremely costly to stop an existing contract. (It is possible that the Andrews government will pass an act of parliament but that sets up a precedent that is horrific.)

Now a lot of this problem arises because Napthine foolishly did not take heed of the ADC Infrastructure Summit last April, which recommended that the community be invited to fund infrastructure projects. Had Napthine gone out to the Melbourne community offering attractive interest rate bonds that converted to toll-related securities once the road had reached a certain point – or something similar – the income-hungry retail investment community would have come in right behind the project. 

Napthine would have won the election. Instead he did a secret deal with a series of financiers, which did not take the community into the project.

Similarly Campbell Newman in Queensland proposed selling a series of power and other assets. Like Napthine, he proposed deals with the big institutions. What he should have done is offered the assets to the people and prior to the election indicated the sorts of prices and income returns available. Had he followed the summit recommendation there is a high probability that his government would have been re-elected. 

I believe the defeat of both governments partly on infrastructure issues, means that a new pattern must emerge in infrastructure funding. 

Most projects are controversial and you need to have the community behind you looking to get rewards from the financial side that mirror the benefits the community will receive from the new infrastructure or the sale of assets.

And if the community doesn't like the project then it may not fund it. 

Out of the election disasters I think we are going to see new low-fee bodies set up to harness the power of local capital and we may even export the process around the world because many other countries have similar problems. Involving the community will provide opportunities that are simply not there at present.

And that leads us to other opportunities that may arise. I was yarning to a large corporation the other day and they explained they were able to borrow offshore for ten years at a fixed rate of about 4.5 per cent. They were very pleased at that rate. I pointed out to them that if they were offering debenture type borrowings in Australia, given they are a blue chip borrower, they would get a similar rate at least for five years. The obvious reply was that it would be more costly because of the difficulty of attracting and managing small subscriptions.

But if your business relates to consumers it might be helpful to have your customers as beneficiaries of the higher interest rates that corporations must pay compared to bank deposits.

So many of our self-funded retired people are bitter that they have to struggle to live on low interest rates and would rush blue chip minimal risk borrowing at higher rates than bank deposits are offering. 

I don't think we are going to see a rush of these sorts of securities. But the enormous derivatives market, which provides the interest and currency cover for overseas loans to enable big corporations to borrow in US dollars and have interest and principal converted to Australian dollars, is both complex and mysterious. Various parts of the derivatives market have lost vast sums on oil and other minerals plus currencies including the Australian dollar. If we have a Greek crisis on top of that it will not result in a Lehman-type crisis but will disrupt the market and make companies look more closely at borrowing on the local market. 

And so we have the situation that makes it worthwhile to keep some of your powder dry albeit the return on dry powder is not very attractive.