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The California Public Employees' Retirement System recently bought a stake in a private Indiana toll road with a troubled history, one sign of how popular infrastructure investments have become among U.S. pension funds.
In May, CalPERS bought a 10 percent stake of the road's concession, representing the first U.S. transportation investment for the nation's largest public pension fund. The Indiana Toll Road had been acquired out of bankruptcy in 2015 for about 50 percent more than its original 2006 price by a fund made up of more than 70 U.S. pension plans.
Infrastructure — such as roads, bridges, rail, airports, water storage, utilities, and pipelines — has long been favored by pension funds in Canada, Australia, and the United Kingdom. Now, as an era of strong returns in stocks and bonds is believed to be winding down, more U.S. public pension funds are looking to buy real assets for their portfolios, seeking cash-generating, stable investments in a low-interest environment.
The number of institutional investors with stakes in infrastructure has more than doubled since 2011 to more than 2,750 from 1,300, according to Preqin, an alternative assets research firm. Among the top 10 public pension funds investing in infrastructure, allocations more than quadrupled over the past five years to $17.7 billion.
The pace is likely to continue. Forecasts for infrastructure are more bullish than other real assets, such as real estate or private equity, with the majority of fund managers planning to increase the pace of investment in the next year, according to a 2016 report by Preqin and financial services firm BNY Mellon.
Such competition has made it more difficult for public pension funds to secure revenue from projects like Indiana Toll Road.
"There's too much capital chasing too few deals," said Randy Gerardes, Wells Fargo Securities Senior Analyst.
On Monday, CalPERS plans to discuss a new bill that would spur the state to identify needed California infrastructure projects. The state would then propose that CalPERS directly invest in the projects, while the state guarantees a favorable return rate.
The bill is part of a push by the legislature to improve the state's aging infrastructure, estimated to need $77 billion-worth of repairs, according to state estimates.
CalPERS began purchasing infrastructure projects in 2008 - in an effort to diversify its portfolio amid plunging equity markets - and later set an ambitious goal to invest $5 billion, about 2 percent of the portfolio.
The long lifecycles of road, airport, and energy projects correspond well with funds' long-term liabilities. Pension funds seek investments that are large enough to house billions of dollars, and infrastructure projects typically require huge commitments of capital. There's also the allure of inflation protection, as toll revenues often rise at a similar pace.
Interest has intensified as confidence in the equity markets has waned.
"We think we're entering a world of much lower average returns, particularly in the developed world's bond and equity markets," said Richard Hobbs, McKinsey Global Institute Council Director.
Public pension funds, many under intense pressure to achieve returns of at least 7.5 percent, often seek projects that offer the right combination of low risk, steady cash returns, and good price.
The California State Teachers Retirement System (CalSTRS), the nation's second largest public pension fund, would like about 4 percent of its portfolio in infrastructure. But today, it has committed only 1.4 percent, or $2.7 billion.
CalPERS, too, has struggled to reach its target commitment. Infrastructure only makes up 1 percent of the funds' behemoth $293.6 billion total portfolio - just half of the long-term target.
Still, CalPERS made considerable strides in the last three months, boosting its infrastructure investments to $3.1 billion from $2.3 billion with the purchase of stakes in California solar plants and the Indiana Toll Road.
Demand has driven deal prices to a record high of $528 million in 2015, compared to $337 million in 2010, and will likely force investors into riskier assets or different geographies, such as in emerging markets.
In April, Paul Mouchakkaa, CalPERS managing director for real assets, said opportunities were "much more tilted to outside the country," but CalPERS has capped its investment abroad to 50 percent, arguing that any more would require the pension fund to hire "a significant amount of people."
"These are extremely local markets," Chief Investment Officer Ted Eliopoulos told the board in April. Potential returns must be weighed against risks of foreign currencies, tax codes, and laws. "You can't just pick up and bring them back home."