Over the past decade, pension funds in other countries have moved significantly into infrastructure, as part of their “alternative investment” category. Long-lived assets such as toll roads, airports, and electric utilities are a good match for the investment needs of such funds: long-term, steady growth in revenues based on providing an essential public service. While individual “greenfield” projects may be too risky for such funds, given their fiduciary duty to their retirees, a portfolio of projects provides a much better fit.
Australian pension funds were the pioneers in this trend, with their early investments via Macquarie Bank and others into toll roads, ports, and other infrastructure in that country. Among the largest current pension fund investors in infrastructure are two Canadian public employee pension funds. The Ontario Municipal Employees Retirement System (OMERS) has $10 billion committed to this investment category via infrastructure specialist Borealis, while the Canada Pension Plan Investment Board has $7 billion invested. Last year Ontario Teachers Pension Plan teamed with Australia’s Victoria Fund Management to purchase 48% of the U.K.’s fifth largest airport, Birmingham. And earlier this year, the Canada Pension Plan Investment Board made an offer (ultimately unsuccessful) for 40% of the Auckland (New Zealand) International Airport.
Why hasn’t this investment trend happened in the United States? The short answer is that until very recently, nearly all major U.S. infrastructure (except for investor-owned electric utilities) has been owned and operated by government agencies. When state-owned toll roads, water systems, seaports, and airports seek investment capital, they cannot go to the equity markets-because they are 100% government-owned. As for the debt markets, they can and do issue revenue bonds, but those bonds are almost always tax-exempt bonds. And if a pension fund is already tax-exempt (as are all public employee pension funds), there is no point in them investing in tax-exempt debt, since they don’t pay taxes in the first place. By purchasing a tax-exempt bond, the pension fund would be getting a lower rate of interest than it would from a taxable bond of comparable risk level. And that is contrary to its fiduciary duty to its pensioners.
This point is so obvious that it seems to have been overlooked in some of the debates about the role of public-private partnerships in infrastructure. Some of the very same Texas legislators who voted for a moratorium on PPP toll roads in Texas have urged entities like the state’s $24 billion Employee Retirement System and the $107 billion Teachers Retirement System to invest in toll roads and other infrastructure. Yet if Texas fails to reauthorize PPP toll roads after the two-year moratorium expires, there will be no suitable Texas toll roads for their pension funds to invest in.
Presumably, the very smart people running the country’s largest public pension fund, CalPERS, understood this when they decided late last year to commit an initial $2.5 billion to infrastructure investments. Ironically, when it comes to toll roads, those investments could not be made in California any time soon, since the state still does not have workable PPP toll roads legislation on the books.
Construction trade unions seem to be warming up to investing in privatized infrastructure. One of Macquarie’s newer funds, Macquarie Infrastructure Partners, includes among the 47% of its investors that are U.S.-based the Midwest Operating Engineers Pension Fund and the Mid-Atlantic Carpenters Pension Fund.
An intriguing proposal was unveiled recently by a very different union, the Service Employees International Union. In a widely published op-ed piece, union president Andy Stern (writing with Kansas Governor Kathleen Sibelius) called for public employee pension funds to “pool their assets and invest directly in projects to build new roads and bridges in multiple states, bypassing the Wall Street firms that want to siphon off profits.” While most of the piece focused on the need for large-scale investment to expand and modernize highways, airports, power plants, and transmission lines, it was also framed as an attack on-and an alternative to-for-profit firms getting involved in such infrastructure. The idea would be to keep such infrastructure in “public hands.”
Well, if my retirement security depended on the soundness of the investments made by a public employee pension fund, I would want to be sure that their main focus was on long-term profitability with minimal risk. That would mean paying for expertise in selecting projects to invest in, and ensuring that those infrastructure projects were managed for long-term profitability. That requires world-class financial expertise (which is not free) as well as world-class construction, operations, and management expertise in toll roads, ports, airports, etc. That’s what the emerging PPP model provides, with both global capital markets and global infrastructure firms competing to do these deals.
And we come back again to what Stern and SEIU think they are going to invest in, if they insist on investing only in government infrastructure. Not equity, since there is none. Not tax-exempt debt, since there’s that pesky interest-rate differential.
U.S. pension funds have trillions of dollars in assets, which are a natural fit for investing in infrastructure. But the reality is that only infrastructure that is privately financed and operated makes sense for pension fund investment. The public employee pension funds of Australia and Canada have long since figured this out. I hope their U.S. counterparts do likewise.