Sequoia Economic Infrastructure Income’s (SEQI’s) portfolio consists of 74 investments made across 8 sectors, 28 sub-sectors and 12 mature jurisdictions. The company has this morning published interim results covering the period to 30 September 2020. Over the first half period, the company’s NAV delivered a total return of 6.9%, while the market return came in at a stronger 14.4%. SEQI closed out the period trading at a premium to NAV of 4.2%.
SEQI entered the pandemic armed with a robust sheet following its £300m capital raise on 3 March 2020
Over the interim period, the trust’s chairman, Robert Jennings, notes that the manager “continued to rebalance the portfolio in favour of more defensive sectors, including telecommunications, utilities, renewables, and accommodation, which has helped mitigate some of the spread widenings across the portfolio. By focusing on these defensive sectors, and shifting the portfolio significantly towards higher credit quality assets, we believe that the company is well-positioned to weather future economic uncertainty.”
SEQI’s £300m capital raise, which closed on 3 March 2020, ensured that it entered the pandemic with its balance sheet in a robust state. The excess proceeds of the capital raise after debt repayment removed the need for substantial additional borrowings under the company’s revolving credit facility, even after funding new loans that were in settlement.
Robert notes that during the period, SEQI achieved the following:
- “Allocated greater resources to the monitoring of all loans in its portfolio;
- Entered into dialogue with three distressed borrowers at an early stage, one of which led to a consensual restructuring of the business,
- Deployed funds in new loans at a more measured pace focusing on stronger credits within its investment universe;
- Retained its dividend target of 6.25p per annum for 2020/21 in the expectation that this should be fully covered (net of expenses and interest costs) by the cash yield on its portfolio; and
- Funded opportunistic attractively priced secondary market opportunities which emerged as a result of the increased market volatility that was observed earlier this year.”
‘Economic infrastructure is a diverse and highly cash-generative asset class’
In the manager’s report section of the release of the results, it is noted that “Economic infrastructure debt is a robust asset class typically characterised by high barriers-to-entry and relatively stable cashflows and includes sectors such as Transportation, Utilities, Power, Telecommunications and Renewables. Economic infrastructure is often supported by physical assets, long-term concessions or licenses to operate infrastructure assets and these companies frequently operate within a regulated framework. This is especially true in the cases of the Utilities, Telecommunications and parts of the Power sector.
A characteristic common to economic infrastructure sectors is that revenues are derived from demand, usage or volume. This means that the project’s revenues are linked to utilisation of the assets, such as a toll road, where revenues are dependent or partially dependent upon traffic volumes. This is in contrast to social infrastructure, such as schools and hospitals, which are often compensated for the physical asset simply being available for use.
To mitigate demand risk, economic infrastructure projects are typically less highly geared than social infrastructure and have higher equity buffers, more conservative credit ratios, stronger loan covenants, and higher levels of asset backing for lenders. Economic infrastructure also provides higher returns than social infrastructure and is a much larger market.
These characteristics of economic infrastructure – stable cashflows, high barriers-to-entry, physical assets, equity buffers and lower gearing – all form the bedrock upon which SEQI’s investment opportunities are based and analysed. This is not expected to change, regardless of what is going on in the markets, because these core features of economic infrastructure all contribute to strong fundamentals that are critical for weathering storms.
Nevertheless, economic infrastructure debt is not immune to market volatility and there are certain actions we have taken, some of which were well before the COVID-19 outbreak. These actions have helped position the portfolio defensively for a potential downturn.”
The market environment during the period
The mangers add that “Although we did see some volatility in the market environment at the start of the period, the company has operated in a relatively calm environment overall during the last six months. Lending margins and bond spreads have tightened since the spread widening in the corporate bond and loan markets in the first quarter of 2020 that was triggered by two extraordinary market forces: the COVID-19 pandemic and an oil supply glut resulting from tensions between the US, Russia, and Saudi Arabia. In the early part of the period, the company took advantage of the COVID-19 market sell-off to enhance returns by topping up several of its existing secondary positions that were not materially affected by the pandemic but were trading at attractive prices due to spreads widening.
Primary market issuance in the infrastructure loan markets has been relatively strong with deal volumes totalling US$304bn during H1 2020, of which US$151bn has been financed by debt. In addition, there were significant amounts of debt issued and traded in the bond markets as a result of the accommodative global policy responses to the pandemic. We therefore believe that the company’s opportunity to deploy capital is exceedingly large as we expect those trends to extend beyond the pandemic.”
It is noted that “Across the range of sectors in which we invest, the outlook for some remains largely unaffected though the situation remains fluid and dependent on the length and severity of impact on the economy of continued COVID-19 lockdowns. These relatively unaffected sectors include renewable energy, data centres, mobile phone cell towers, smart metering, specialised health care, US power, specialist shipping and residential infrastructure. Other sectors, however, such as transportation, transportation assets and midstream oil & gas, have greater exposure to COVID-19 and low oil prices, and have required close monitoring and communication with the borrowers in the last six months.”
‘Especially excited about potential investments in the renewables, accommodation and TMT sectors’
In their outlook section, the managers note that “Sequoia continues to monitor the global response to the COVID-19 pandemic as well as the primary and secondary effects of historically volatile oil prices. As the world slowly emerges from lockdowns, Sequoia believes the company is particularly well-positioned to continue deploying capital into its strong pipeline of mostly private debt infrastructure lending opportunities. Sequoia has witnessed a steady stream of infrastructure debt opportunities emerge during recent months as the market environment stabilises and reverts to pre-COVID-19 levels.
In terms of the pipeline, Sequoia is especially excited about potential investments in the renewables, accommodation and TMT (Telecommunications, Media and Technology) sectors where the current portfolio is arguably underweight, lending opportunities are often attractive and additional investments into these sectors would be desirable. Investments in these sectors will also provide additional stability should market conditions deteriorate further.
Overall, the opportunity for the company in economic infrastructure debt remains strong and the asset class continues to be under-invested and attractive. It is in times of market stress that economic infrastructure exhibits itself as a strong and resilient asset class, and Sequoia remains optimistic about the prospects for growing the Company while maintaining its track record of sourcing suitable high-quality investments.”
SEQI: Sequoia Economic Infrastructure Income has a strong H1 supported by £300m early-March capital raise