E420: Why Infrastructure Is a $40 Trillion Opportunity

How I Invest with David Weisburd

David Weisburd discusses why infrastructure represents a $40 trillion opportunity amid the AI boom, emphasizing that AI depends on foundatio

Key takeaways

• Infrastructure is the essential enabler of AI, requiring power, data centers, and communication networks.
• Private capital is increasingly vital due to governments' inability to fund infrastructure projects at scale.

Main topics

• Infrastructure as a foundational enabler of AI
• Private capital filling government funding gaps

Notable quotes

Without infrastructure, AI doesn't happen.

Conclusion

David Weisburd concludes that infrastructure is a transformative, long-term investment

Transcript preview

Speaker 2 (0:00) At Northleaf, you managed $31 billion and Speaker 1 (0:02) you believe today the biggest opportunity isn't in AI. Why is that? That's because we're focused on the enablers of AI, principally infrastructure. And if you think about it, without infrastructure, AI doesn't happen. Speaker 2 (0:14) Everyone uses this term infrastructure. What does it mean exactly? Speaker 1 (0:17) For us, it really means assets and projects that provide essential services without which you just don't get. a productive modern society. So it really is the foundational building blocks of societal progress and ultimately societal prosperity. And Speaker 2 (0:34) what's the investment case for infrastructure that's Speaker 1 (0:38) supporting the AI boom? The example I always think about, if you go back to the gold rush in history, is the picks and the shovels and the mules. So if you think about what does AI really need, AI needs power. So that means both generation as well as transmission of power. It actually needs the data centers, obviously, and there's been lots of attention paid to the physical construction of data centers. But then it also needs the digitization and the communication. So it needs transmission, it needs cell towers, it needs access that you and I now take for granted in terms of where we can get information and communication. So you think about all of those building blocks that are necessary for AI, that's where infrastructure comes in, and that's where the massive demand for capital we see both now and well into the future. And Speaker 2 (1:26) how would you bucket those different investment opportunities? Speaker 1 (1:30) We think about infrastructure as having a series of characteristics. So essential services are critical. Like what is it that really is foundational to the asset? Why does it exist? How much would people notice if it ceased to be? That's really the sort of essential nature of it. And then the hallmarks of an infrastructure asset, you're looking for predictable cash flows, you're looking for long-term, long-lifed assets, looking for relatively low correlation to the broader economic condition. In other words, assets that you're going to use regardless of whether the stock market's gone up and down or regardless of what's going on in the broader geopolitical environment. And ultimately, you're looking for assets that can deliver predictable, stable cash flows, ideally with a degree of inflation linkage. And so there's a variety of things, and we can chat about it, a variety of ways that the definition of infrastructure has expanded over the years. But at its core, it has those characteristics. And that's what capital allocators are looking for as they increasingly use infrastructure as part of their portfolios. As Speaker 2 (2:34) an infrastructure investor, how do you assess how much infrastructure is needed for something that seems to change on a weekly basis? Speaker 1 (2:42) Ideally, you're looking beyond the short-term ups and downs. You're looking for long-term trends, long-term themes that are going to define investing over 5, 10, 15 years. And so when we think about one of the reasons why we're seeing such a demand for infrastructure capital today is that you have the convergence of both demand and supply. So on the demand side, if you think about any major theme that you want to talk about, whether it's urbanization, deglobalization, energy security, energy transition, all of those broad investment themes at the end of the day come back to a demand for infrastructure investment in one form or another. On the supply side, you've got a situation where historically, especially here in the U.S., A lot of infrastructure funding was done at the municipal level through muni bonds and other forms of government borrowing and government debt. There's not a government at any level in the Western world that has sufficient financial capacity at this stage to fund the infrastructure investment that's going to be required. Enter private capital. And so there's a huge opportunity for private capital over the next 10, 15, 20 years to step in and fill some of that funding gap. And so to your question, we're really focused on those longer term themes. It's not that sort of what's happening this week or next week. We're trying to take it 5, 10, 15 year view. However you slice it, there's a significant demand for private capital, including, we haven't talked about it, the refurbishment of existing infrastructures. Infrastructure, the assets that we take for granted today, are all in many cases, you know, getting well on in years. And so the need to refurbish to reinvigorate even some of our existing asset base, that just contributes to the opportunity set. Speaker 2 (4:41) This kind of reminds me of private credit. Private credit has grown to, I think, over $10 trillion asset over the last decade. A lot of people forget why it's grown so much. And the reason is because the banks were no longer able to make these loans, and that created this vacuum, and private credit came in to fill this vacuum. It seems like a lot of that is happening in infrastructure. Traditionally, governments have backed these large industrial projects. Today, they're unwilling to Speaker 1 (5:07) do that. Completely agree. And I don't know if it's unwilling, it's unable, right? And I think that's part of the trick here is governments actually have a huge interest in promoting long-term private capital into infrastructure. They know it's needed. They know society depends on it. And they, I think, have come to the realization that they're not going to be able to fund it directly, to your point. So how do they go about then encouraging and incenting? long-term private capital to come in and fill that void. Speaker 2 (5:37) It's no secret that a lot of people are upset about AI, about data centers. How do you underwrite the political risk when it comes to your infrastructure Speaker 1 (5:47) investments? Speaker 2 (5:48) It's Speaker 1 (5:48) a good question. What you really have to do is try to make sure that you are being a responsible long-term participant in the societal trend that is supporting the asset class. So if you think about energy, production as one example that will drive a part of the demand that we're seeing from AI and data centers. It's thinking about if you're going to be producing energy through a power plant, through a wind farm, a solar farm in a particular community, how are you ensuring that you're participating in that community as a responsible long-term investor and essentially earning the social license to be a long-term player and trying to stay away from some of that short-term gyration in terms of people's perception of the long-term trends and really trying to build assets and capabilities that have such a demonstrable benefit to society for the long term that you get and earn that social license. That's a critical piece. Any private markets investor will tell you if you're going to invest for the long term, you're going to need to make sure that you've got a sort of strong governance contract. but also a strong social construct. Infrastructure is no different. Speaker 2 (7:02) Maybe you could double click on the energy sources that are fueling the AI boom today and how you expect that to evolve over the next 10 to 15 years. One of the things that Speaker 1 (7:09) the market may have perhaps underestimated was just how much power consumption. is going to be required. And we're starting to see some articles getting written in the financial press about saying investors are now like thinking beyond the data center and actually thinking about, okay, how will we power it? How will we cool it? How will we actually enable the computing activity that is going to drive all of this? And that's something that we've observed over several years play out across our portfolio. One of the things that I think is particularly interesting is the opportunity set it's creating to almost blend some of the investment activities. So I'll give you an example. We have a number of wind farms in Texas that performed very well, contribute power to the grid. We've recently co-located data center at one site and another's under development. And where we're now actually able to deliver the power directly to the consumer. So we're not subject to issues about grid connectivity. We're almost, we're behind the meter. as we describe it, say that we're able to sell power directly to the data center, they get the benefit of knowing they've got a much more secure source of power rates that we can negotiate over the long term. There's some really interesting examples there of where you've taken one sector or one area of investment data centers, you're combining that now with another area of investment in. renewable power or power generation. And the opportunity set is actually to blend those in a way that's highly accretive to both counterparties. And so things like that are starting to really transform the landscape. But it all comes back to this almost insatiable demand for power that we're seeing out of the AI boom. Speaker 2 (8:55) You estimate $40 trillion with a T is going to be needed for infrastructure. Where does that number come from? Speaker 1 (9:02) That's really our assessment of what we think our addressable market is. It starts, some of my former colleagues at McKinsey have done some really good work on what the global appetite is for infrastructure. They'd put that as north of 100 trillion, again with a T, over the next 15 years or so. But a fair bit of that, again, is targeted toward emerging markets, targeted toward other areas. So when we think about the way we approach the world, which is predominantly OECD developed markets, mix of energy as we've talked about, communications, infrastructure, transport and logistics, when we winnow it down to the addressable market that fits our appetite, we arrive at what I think is probably still a pretty conservative estimate of around $40 trillion over the next 10 years or so. Whether we're off by a trillion or two, isn't the point. The key is there's just a massive demand for capital. And as we talked about, the vast majority of that is going to have to come from private sources. And Speaker 2 (10:00) is this going to come from pension funds, endowments, sovereign wealth funds? Where does this $40 trillion come from? Speaker 1 (10:05) Yes. The short answer, I mean, what we see when we talk to investors around the world now is that infrastructure has really started to take its own place at the table in terms of conversations. about long-term capital allocation and the role that this type of asset and this type of cash flow pattern can play in a sophisticated portfolio. And we're seeing that interest range, as you say, everything from large global capital pools down to even family offices, endowments, foundations. I think people are recognizing that, especially in a world where geopolitics can be uneven and uncertain, there's challenges. in finding a predictable source of return, infrastructure and the characteristics that it displays has a real value proposition for anyone thinking about longer-term investing. As Speaker 2 (10:59) I mentioned, you manage $31 billion, so you're constantly talking to institutional investors about their portfolio. How should they think about allocating to infrastructure within their portfolio? Speaker 1 (11:09) It really starts with, again, as we talked about, understanding what your definition of infrastructure is. And from where we come at the world, we're really thinking about that as sort of a core to core plus exposure. And by core, we mean long-term cash flows without a lot of sort of growth risk and a pretty stable base case. You add a little bit of potential for growth and potential for capital appreciation, you end up into the core plus category. infrastructure has evolved, I would say, over the last 10, 15 years from being something that people would have considered predominantly a fixed income substitute. So long tail, they weren't, they're not bonds, but they had sort of those types of characteristics. I think what we're seeing now is people recognizing that with the right structures and the right approach, you can actually find assets that still have those core long-term cash flow yielding characteristics, but also can bring with them an element of growth and capital appreciation. And so you end up with an interesting hybrid from a private markets perspective between credit, which you mentioned earlier, and private equity. And infrastructure plays a really interesting role in that middle of the risk return spectrum. And that's been highly attractive for capital allocators of various types. Speaker 2 (12:30) Is there an argument that infrastructure should replace some of real estate investment? We Speaker 1 (12:35) started our infrastructure program 16 years ago. So we're early into sort of the broader adoption by pension plans in particular. Most of our early investors in infrastructure came to it from real estate. So they'd had a good experience as long-term owners of real estate. Many pension plans in different parts of the world start by just owning the building that they're in and continuing from there. But they'd had good experience with sort of real assets or hard assets. And so a lot of them use that as the jumping off point for infrastructure. I think over the last number of years, real estate's demonstrated that it can have challenges at different points in the cycle. And I think that in and of itself has caused people to take another look at infrastructure as being something that potentially has the same characteristics and perhaps fewer of the downsides. Speaker 2 (13:26) In what ways is infrastructure correlated or not correlated to other Speaker 1 (13:30) asset classes? Speaker 2 (13:30) I Speaker 1 (13:31) think that's actually one of the really interesting features of infrastructure is properly constructed. It should be relatively low correlation to both traditional asset classes and even other parts of your private markets portfolio. The old example of, think of water and water supply. You're going to take a shower generally, regardless of whether your public portfolio has gone up or down. Speaker 2 (13:56) And so the Speaker 1 (13:57) ability to deliver those kinds of, back to our earlier point, essential services that people require, regardless of what's going on in the broader economy, that has led infrastructure to be a really interesting complement to most other traditional asset classes. And so when investors think about what are they looking for, especially in today's environment, lower correlation, long-term, ideally contracted cash flows, inflation linkage. obviously a huge element to consider the last number of years, our infrastructure portfolio is positively indexed to inflation. So a rise in inflation is in some ways perversely beneficial to our infrastructure portfolio. So Speaker 2 (14:39) it's those types of Speaker 1 (14:40) characteristics Speaker 2 (14:40) that Speaker 1 (14:41) investors are really focused on when they think about how do you use infrastructure as part of a modern portfolio allocation. Speaker 2 (14:49) Another part of the lack of correlation is the long-term contracts. One of the things that we think is really important Speaker 1 (14:55) in building out a long-term infrastructure portfolio is to focus on both the type of contract that you can get, the length of it, the pass-through ability for inflation or other cost escalation, and then the quality of the counterparty. And we've been able to find really interesting portfolios that have both the sort of essential services component, but then are also delivering those services to high quality counterparties under long-term contracts with good inflation protection. You do that from a portfolio construction perspective and you're well rewarded for the long-term. Speaker 2 (15:35) Everyone I talked to on the show is chasing the same thing, an edge. And more and more, the edge comes down to your information, not just having it, but being able to trust it when the stakes are highest. AI is doing more of the information gathering for you every day, and most tools are very good at sounding right. 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Speaker 1 (16:45) alpha-sense.com, how I invest. You're Speaker 2 (16:49) a managing partner of Northleaf. You're a de facto CEO. So you have to look at everything at a high level. You look at these geopolitical battles between the US and China in terms of infrastructure and AI. How important is infrastructure part of that? Speaker 1 (17:02) Across our private markets program, one of the common themes is a focus in the mid-market. So looking for assets and infrastructure is a great example that in many ways do one thing well in one location. And so when you think about the challenges that we have