An Introduction to Real Assets

What Are Real Assets?

Real assets are generally defined as physical assets that include infrastructure and natural resources and can also include real estate. This article focuses on infrastructure and natural resources. Please see CAIS’s separate article on real estate.

Real assets are among the smaller alternative asset classes by assets under management (AUM), having reached $1.07 trillion in 2021. However, AUM is anticipated to double to $2.13 trillion by 2026 and infrastructure could be one of the fastest-growing types of alternative investments (Exhibit 1).

Source: Preqin Forecasts, as of QA 2021, 2021 figure is annualized based on data to March, 2022-2026 are Preqin's forecasted figures.

Real asset investments can be made through a direct transaction or through a private commingled structure.

Depending on the type and mix of real assets, these investments may offer the potential for portfolio diversification with relatively low correlations to traditional asset classes, such as stocks and bonds (Exhibit 2). Real asset investments often have an income component and some may have the potential to protect against inflation because some of their value may be positively correlated to inflation in the real economy (such as higher commodity prices). However, these benefits are also accompanied by risks, such as reduced liquidity, commodity price volatility and exposure to regulatory changes.

Source: Preqin Investor Survey, November 2021.

What Are Some Examples of Real Assets and Strategies?

There are a variety of different types of investments within the infrastructure and natural resources asset classes, some of which share common themes and investment strategies.

Infrastructure

Infrastructure assets can be related to a wide variety of physical assets that tend to play roles in helping economies operate efficiently. Some examples include:

• Traditional energy: oil rigs and natural gas pipelines

• Renewable energy & cleantech: wind turbines, solar energy equipment, on-shore and off-shore wind farms, and battery storage

• Logistics: warehouses and data centers

• Telecommunications: mobile phone towers

• Transportation: airports, ports, toll roads and ships

• Utilities: power utilities, water utilities and waste management services

Infrastructure investments can be made at various stages in an asset’s lifecycle.

• Greenfield assets generally refer to projects that are being designed and built. This also means they do not typically generate revenues at the early stages of the investment. This combination of characteristics means these assets tend to have a higher risk profile.

• Brownfield assets broadly describe existing structures that require some level of improvement or repair. Because they may be partially operational and generating some income, these investments may have a slightly lower risk profile than greenfield investments.

• Secondary stage assets tend to be fully operational and already generating income, without needing any significant improvements. This is typically the lowest-risk infrastructure investment.

The categories of infrastructure strategies are similar to real estate and display a wide variety of risk and return profiles (Exhibit 3).

• Debt investments typically involve financing assets with senior debt and simple capital structures so that the strategy is relatively lower risk.

• Core strategies tend to focus on essential assets with no operational risk and that are already generating returns. These are typically secondary-stage assets with competitive positions and stable cash flows.

• Core-plus investments may be made in less developed markets but generally involve secondary stage assets with little risk; sometimes strategies will invest in brownfield assets in developed markets. These assets tend to still be considered high quality but may be more exposed to the economic cycle.

• Value-added strategies typically invest in greenfield or brownfield assets and seek to add value by developing demand for an asset. Therefore, they tend to be considered medium to higher risk.

• Opportunistic strategies usually invest in assets that need to be developed or constructed so that any potential return tends to be ultimately derived from growing the value of the asset rather than from stable income. Because of the risks involved in developing an asset and the lack of income to compensate investors in the early stages, this is typically regarded as the riskiest strategy.

Natural Resources

Investing in natural resources can involve investments in the infrastructure related to the natural resources and the commodities themselves. These investments feature a range of risk and return profiles (Exhibit 4). Some broad categories include:

• Agriculture & farmland: agriculture technology, landowners or operators, livestock and commodities, such as coffee, cotton and grains

• Energy: oil, natural gas, coal and renewables and investment in related processes and infrastructure

• Metals & mining: base, precious and ferrous metals and non-metallic minerals and investing in the exploration and refining processes

• Timber: forests, tree farms and cut wood

Considerations When Investing in Real Assets

• J-curve: Some real asset investments, such as certain types of infrastructure investments, will follow the J-curve pattern, where they will produce negative cash flows in the early years, due to capital calls and management fees paid before there is a chance for the investment to generate returns. More mature infrastructure investments and some types of natural resource investments may have more potential to offset any expenses with income at an earlier stage.

• Liquidity: The liquidity of a real asset investment can vary at both the asset level and the fund level. Leverage used by a manager can also impact the liquidity of a property. Assets with current income can help improve liquidity as cash is returned to investors while the asset is held.

• Manager selection and access: Manager selection and due diligence can be an important part of real asset investing, given the wide level of manager abilities, track records and access to investment opportunities. Additionally, some real asset funds may be diversified while others may be highly specialized in one type of investment.

• Diversification: Investors can diversify their real asset allocation in many ways including by manager, geography, strategy and asset type.

Access to investment opportunities in the physical assets that often play an important role in the global economy is likely to improve as the asset class grows and develops.