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Why defining infrastructure is so crucial to the succes...

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Why defining infrastructure is so crucial to the success of government’s infrastructure ambitions

The Government's proposed changes to Regulation 28, which talk to the manner and quantum in which pension funds can invest in infrastructure on behalf of their members, could be an essential catalyst for economic growth. While it is unlikely to be the silver bullet that gets growth on the right trajectory over the short term, the positive externalities will be significant to the South African economy over time.

Retirement Fund Industry discussions about what needs to be put in place to ensure funding goes to the suitable infrastructure projects – and results in community-wide positive spillover effects – have got off to a good start. The deadline for comments on the appropriateness of the proposed amendments and the new limits in addressing infrastructure investment is this week.

In publishing the draft regulations and inviting comment from the industry, it is clear that Government understands how important it is to create an enabling environment for fiduciary investors if it wants private sector support for its ambitious R791.2-billion infrastructure drive. This is a message that market participants have reinforced for some time, and the proposed changes to Regulation 28, while still under consideration, in short, can be seen as positive to support infrastructure investment.

We are all well aware that Government cannot do it alone, given fiscal constraints that will undoubtedly limit government participation at the scale needed. Thus, it needs to crowd in the private sector by galvanizing pension fund investment into infrastructure, with the ultimate aim of addressing the current low economic growth climate through the proposed infrastructure initiatives.

The private sector has long indicated its willingness to participate in the Government’s infrastructure programme and will do so as long as there is a fit and proper policy in place, along with regulatory certainty.

With this being said, private sector participation in the Renewable Energy Independent Power Producer Procurement (REIPPP) programme has worked well, so there is no need to reinvent the wheel – we already have a world-class framework to work with. The REIPPP programme has been well-coordinated, supported and attracted significant private sector capital. If we replicate that success in other infrastructure projects, we could accelerate the positive impacts investment in infrastructure could have on the South African economy and at the pace needed.

With regards to the proposed changes to Regulation 28, it is our view that the first step, and arguably the most important step, is that Government and the retirement fund industry agree on the most appropriate definition of infrastructure.

Retirement fund industry discussions, facilitated by The Association for Savings and Investment South Africa (ASISA), have got off to a good start. After much debate between some 30 industry participants, there was a general consensus on using the ASISA Working Group Definition, which in contrast to National Treasury’s definition, does not expressly exclude private infrastructure driven projects, which we do not believe was ever the intention. The key shortcoming in our view regarding the proposed definition is that for infrastructure assets to qualify under Regulation 28, they would need to form part of the National Infrastructure Plan or, per our understanding, will have to be designated as a strategic integrated project. Given the key difference noted, the two will need to be married into a single definition that applies to all infrastructure investments made on behalf of pension fund members.

The importance of getting this definition right cannot be underestimated. For example, if it is too broad, existing institutional investors who have already invested will be unable to invest further as they could already be at their maximum limit. Conversely, if it is too narrow, projects that would be appropriate investments with significant positive externalities may inadvertently go unfunded. An appropriately considered and agreed-upon definition that is workable will go a long way in ensuring that private sector capital can be used in the manner expected here and that projects that are legitimate in nature are able to attract the much-needed capital.

It is our understanding that another goal the Regulation 28 proposed changes is set to achieve is the collection of accurate data on infrastructure investments that can be measured. At the moment, it is difficult to assess whether the statistics over-or understate the amount invested in infrastructure. Furthermore, we do believe that the administrative complexities of the proposed changes have been fully factored into the changes, and as such, need further discussion.

Other key areas of consideration regarding the Regulation 28 changes relates to the need for proper diligence and care by those charged with the care of pension fund capital. On exercising proper diligence, the proposed changes suggest that “before making an investment in and while invested in an asset consider any factor which may materially affect the sustainable long-term performance of the asset, including those of an environmental, social and governance character and those related to infrastructure investment, taking into account the necessary due diligence and risk-adjusted returns, acting in the best interest of the fund and its members and avoiding conflicts of interests.”

Prescient Investment Management is fully supportive of this proposed change given the nature and complexity of these kinds of investments. It places the onus on the custodian or asset manager to consider the relevant factors that could affect a project’s (or asset class’s) long-term performance, consider ESG factors, and not just rely on second-hand data. It is imperative that one understands that infrastructure assets are long-term and complex in nature, and it goes without saying that it is crucial that one has the right team with the appropriate mix of skills and experience, and is supported by the right decision-making forum. We believe that if you are tasked with making decisions on behalf of pension fund members, that you have to invest responsibly – one cannot only look at the financial impact and return in isolation but must carefully consider risk and fully incorporate ESG into this assessment. Satisfying these will ensure that infrastructure investments meet South Africa’s needs and those of pension fund members.

While it is the intention to attract significant volumes of private capital into infrastructure, Regulation 28 should be considered with prudence in mind. In noting this, the changes are not simply about allocating a certain percentage of one’s assets under management into infrastructure; it is about ensuring that, in addition to the consideration of due diligence and care, the manager entrusted with capital builds diversity in the portfolio. While the draft legislation does specify individual issuer limits, given the stage of the discussions and the need for further discussion, we believe that it is too early to comment on whether these proposed limits/sub-limits are appropriate or not.

Ultimately, for us, getting infrastructure off the ground will set the tone for improving economic conditions and result in significant, and much-needed, spillover benefits. Without the appropriate infrastructure in place, everything from production costs, employment, access to markets is negatively impacted.

In conclusion, where there is an enabling environment, regulatory and policy certainty, and where you have positive and productive engagement between those charged with regulatory oversight and those entrusted with pension fund capital, it will set the groundwork for the Government to galvanize private sector investment into infrastructure. BM

This article was written by Conway Williams, Head of Credit at Prescient Investment Management

 

Disclaimer:

  • Prescient Investment Management (Pty) Ltd is an authorised financial services provider (FSP 612).
  • The value of investments may go up as well as down and past performance is not necessarily a guide to future performance.
  • There are risks involved in buying or selling a financial product.
  • This document is for information purposes only and does not constitute or form part of any offer to issue or sell or any solicitation of any offer to subscribe for or purchase any particular investments. Opinions expressed in this document may be changed without notice at any time after publication. We therefore disclaim any liability for any loss, liability, damage (whether direct or consequential) or expense of any nature whatsoever which may be suffered as a result of or which may be attributable directly or indirectly to the use of or reliance upon the information.
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