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Watch the Cycle
Can the upward swing in global power infrastructure investment be sustained?
market shares once again. A large share of investment in these markets is being driven by M&A financing. These regions would appear to be most exposed to a downturn in the current cycle. The European market is less exposed than the United States given the relative high levels of market concentration and vertical integration within the sector. In the emerging markets, investment activity is being driven in large part by greenfield project developments. This is being driven by strong population growth, and efforts to expand service to previously unserved regions.
Events that could catalyze a reversal in the current upward trend include economy-wide factors such as inflationary pressures and rising interest rates, which would in turn impact credit ratings and increase the costs of debt and equity. A major industry default also would put investors on alert. A lurking concern, given the current “easy money” environment, would be any moves within the industry to venture into businesses beyond the core competencies of the sector, as was the case during the last cycle.
The creativity of financial institutions in developing new investment vehicles is helping to set the pace of investment activity in the sector. Financial investors, unlike corporate investors, are skilled at generating significant returns throughout the cycle. Investment banks with both generation asset portfolios (built up during the 2001-2004 period) and energy trading operations are especially well positioned. Ultimately, financial investors will begin backing out of the sector. That shift likely will coincide with the high point in the current cycle. The increased ownership of assets by investor types that do not hold the stability of the sector as a priority has catalyzed the upside of the cycle and may very well exacerbate the downside. Investment models that exhibit a long term commitment to the sector, however, will help to reduce volatile cyclical swings in the sector.
1. 2006. “B Sharper.” Project Finance. July/August 2006. h ttp://www. projectfinancemagazine.com/default.asp?Page=7&PubID=4&ISS=22232 &SID=642161&SM=ALL&SearchStr=term-b .