Real assets are tangible assets like property, infrastructure and utilities and they are quite different to financial assets such as cash, bonds and shares, as they rely on you, and the rest of the population, to help them generate investment returns.
A day in the life – you use real assets every day
Without even realising it, we all use real assets in numerous ways – probably multiple times – every day. The alarm goes off and you turn on the light courtesy of electricity providers like AGL Energy. You take a shower using water that is heated with gas (also supplied by AGL) that has travelled down utility-owned water pipes. The electrical wires that power the appliances that toast your bread or blend your smoothie are owned by companies like Ausnet Services or Spark Infrastructure. Driving your car to work means you may travel down one of Transurban Group’s toll roads and then spend your day in an office that may be owned by a commercial real estate investment trust (REIT) like Dexus. On the way home, you need groceries for dinner, so you drop into a shopping centre that may well be owned by a retail REIT, think Scentre Group or Vicinity Centres. Going on holidays? You may be flying from Sydney Airport.
The point of this narrative is to demonstrate that nearly everyone uses real assets every day and they are typically non-discretionary – meaning you have to use them and you don’t really think about the decision.
Chart 1: Bringing real assets to life
Source: Martin Currie, April 2018. The information provided should not be considered a recommendation to purchase or sell any particular security. It should not be assumed that any of the security transactions discussed here were, or will prove to be, profitable.
Real Assets – Population growth more important than the business cycle
If everyone uses real assets and you can’t really avoid them, it follows that the more people there are, the more demand there will be for their services. One of the unique features of real assets is that their key point of leverage is population growth, rather than the ups and downs of the business cycle. Shopping centres, ports, toll roads and airports are all well positioned to grow their businesses as the Australian population increases, because more people create more demand for these essential services.
Australia has very strong population growth in a global context (see Chart 2 below), and the leverage that real assets have to this strong population growth provides a long-term sustainable income growth opportunity that few other asset classes can match.
Chart 2: United Nations (est) population growth projections – 2015 – 2050 (%)
Source: Martin Currie Australia, FactSet: as at 31 December 2016; United Nations Population Division Period: 2010-2050
Real assets – sustainable income
The relatively high income generated by Australian real asset investments is likely to be sustained over the long term, assuming this strong population growth continues and the fact that real assets benefit from regular price rises for their services.
If annual rises in energy prices or higher road tolls annoy you, try thinking about it from a different perspective. Many real assets, by their nature, have inflation protection built into their pricing. That’s because they are often government regulated and party to long term contracts that allow them to increase their prices, tolls or rates in line with (or sometimes above) the inflation rate. This means that investors can notionally hedge against future price rises by investing in real assets. That higher toll that you are forced to pay could equally be viewed as potential dividend (income) growth for investors.
The volatility of income matters most to income investors
Investors often worry about movements in the value of their investments, particularly during periods of market volatility. But if you are an income investor, it’s more important to focus on the volatility of your income, as that’s what matters most for maintaining your lifestyle. Real assets have two key features that help them deliver a steady, low volatility income stream:
- Low correlation to the business cycle – When growth weakens, people still heat their homes, drive on toll roads and use water, gas and electricity. This revenue stability enables real asset companies to continue to pay attractive dividends through varying economic conditions.
- Dividend stability – Real asset companies have large ‘sunk’ capital bases that drive cash flow, so future growth does not rely on additional investment. This enables them to pay more stable dividends to investors.
So even if the share prices of real asset companies fall in response to macro-economic events or shifts in sharemarket sentiment, the income generated by these companies is likely to remain stable. And this is what matters most to income investors.
Recent developments in the REIT sector provide a great illustration of this point. REIT share prices have been weak due to concerns about rising interest rates and Amazon’s impact on the retail sector. But in the February earnings reporting season, several REITs announced share buybacks, to take advantage of low share price levels, and the reported value of their underlying properties continued to rise. These buybacks are expected to be accretive for dividends and net tangible asset (NTA) values. So, the current levels of dividends REITs pay to investors are generally not expected to be at risk of decreasing, even though share prices have been weak.
Looking for income?
So, if you are an income investor, it’s worth considering a fund that invests in listed real assets like the BetaShares Legg Mason Real Income Fund (managed fund) (ASX: RINC) that is managed by Legg Mason investment affiliate, Martin Currie, an active equity specialist. RINC invests in listed companies that own real assets, with the aim of delivering strong dividend income from reliable revenue streams. As at the 30 April 2018, RINC has a forecast cash distribution yield of ~6%* p.a.
*Yield forecast is calculated using the weighted average of broker consensus forecasts of each portfolio holding and research conducted by Legg Mason Australia, and excludes the Fund’s fees and costs. Franking credit benefit assumes a zero tax rate. It is not to be interpreted as the offset achieved by unitholders during this period. Actual yield may differ due to various factors, including changes in the prices of the underlying securities and the number of units on issue. Neither the yield forecast nor past performance is a guarantee of future results. Not all investors will be able to benefit from the full value of franking credits.
Note: BetaShares Capital Ltd is the issuer and responsible entity of the Fund. BetaShares has appointed Legg Mason Asset Management Australia Ltd (Legg Mason Australia) as investment manager for the Fund. Legg Mason Australia is part of the Global Legg Mason Inc. group. Martin Currie Australia, a division within Legg Mason Australia, provides the investment management services for the Fund.