Talk Your Book: Infrastructure Investing

0:00Today's Animal Spirits is brought to you by Scion Investments. Go to scioninvestments.com to learn more about the Scion Grosvenor Infrastructure Fund, which we're talking about today at scioninvestments.com. Welcome to Animal Spirits, a show about markets, life, and investing. Join Michael Batnick and Ben Carlson as they talk about what they're reading, writing, and watching. All opinions expressed by Michael and Ben are solely their own opinion and do not reflect the opinion of Ritholtz Wealth Management. This podcast is for informational purposes only and should not be relied upon for any investment decisions.

0:34Clients of Britholtz Wealth Management may maintain positions in the securities discussed in this podcast.

0:42Welcome to Animal Spirits with Michael and Ben. Ben, one of the themes of the year for advisors, anyway, are the rise of private investments. It feels like it's a tidal wave, doesn't it? It does. And you have all these companies who have spent their careers focused on institutional investors. A mission accomplished. Great success. Institutional investors have, call it, 30 % of their portfolio is invested in private assets. And retail investors have effectively, let's call it zero. And so the shift has focused, or the shift has turned, or the focus has shifted. That's what I'm looking for. to individual investors.

1:26And on today's show, we're joined by a company, Sion Investments, that has been, they were early to this. They started with a focus on individual investors as opposed to institutional clients. And one of my big pushbacks against alts when I worked in the institutional space was operationally, they were inefficient. I was helping with the operations of these. And I said, There's no way advisors can run the funds like this, where it's a private equity fund and you have capital calls and put money in occasionally. It's way too cumbersome for all these different clients you have. And a lot of these places figured out, like, you're right.

2:04That won't work. So they've created these interval funds that make life easier for the advisors. It's easier to put it in. The liquidity parameters are known ahead of time. And so I feel like the alternative space has decided to, like, open arms for the financial advisors. And on today's show, we talked to Mark Gata, who's Mark's the co-founder and co-CEO of Science Investments. And then John Levin. John is the CEO of GCM Grosvenor. No S in there. See that? I got it. And they partnered up to put out an infrastructure fund. And it's on Science Platform. Grosvenor is the manager. And they run it.

2:41And you have to be an advisor to get your clients into this fund. But it's another arrow in the quiver, I guess, of alts for advisors. And this is a – we talk about it today on the show. It's an asset class that not a lot of retailer advisors are in. And it's got – I would consider it pieces of fixed income and pieces of equity in a way. What, infrastructure? Yes. To me, the most interesting thing, and sorry for stepping on the material, but I asked a question about valuations and is there too much money chasing too few deals, which seems to be a theme in the broader private space. But with infrastructure, his answer is, no, it's sort of the opposite.

3:19There's such a gigantic need for capital that we're actually under-invested in infrastructure. And you know what? I buy that. I do buy that argument. Based on the roads I drive every day, I buy it too. Yeah. So, all right. Here is our conversation with Mark from Scion and John from GCM Grosvenor.

3:43John and Mark, welcome to the show. Thanks, guys. It's a pleasure to be here. Thanks for having us. Yeah, you got it. So we're doing infrastructure today. Before we get to it, the topic at hand, tell us about the partnership between Scion and Grosvenor. How did this come about and what are you guys looking to solve for investors? Okay, well, I'll take that one because this type of partnership is something that we created many, many years ago. Sion Investments is an alternative investment solutions provider for individual investors. We've been around a long time. The company started back in the 90s, if you will, under a different brand, under different management.

4:24And my partner and I, Michael Reisner, we acquired the company in 2008. And we've been focusing on individual investors since day one. There's a lot of attention on this marketplace today because there's a lot of big names that have entered into the space. But we are one of the few firms that have been around since that time. And we're certainly one of the few firms that are independent in the sense that we're not part of a big public company or were not part of a larger asset management group that historically has serviced institutional investors. So we had tremendous success in the early days, if you will, when we launched our BDC signed investment corp.

5:08And that initially started as a partnership, very similar to some of the other partnerships that had been launched at that time, but that was structured around a sub-advisor. And we found that that type of structure really wasn't conducive for the type of business that we wanted to do. We didn't feel that it was investor-friendly and really aligned the interests of the two partners. So we created a joint venture with Aries Management back in 2016. And that was to launch our first interval fund, sign errors, diversified credit. And what we did was really, we took best in class in two categories.

5:46One was investment management, where we had a firm like Aries, who was best in class of what they did. And our firm, Sion Investments, where we considered ourselves a leader in manufacturing, managing, and most importantly, distributing alternative investments. And what we decided to do very early on was to be an open architecture firm, meaning that we wanted to go out and partner with the best managers in their respective strategies. We felt that the industry was evolving whereby large institutional managers were coming into the space and they were pushing product and they continue to push product.

6:25And quite frankly, firms are not good at everything. So the big firms that we know very, very well, they're on the front page of the Wall Street Journal every day. They're not necessarily good at everything. They're good. They're great at certain things. They're good at other things and maybe not so good at some things. We felt that we could go out and identify the best players in specific strategies and partner their investment expertise with our understanding of the individual investor and our ability to manufacture these products and ultimately distribute them to financial advisors. So the joint venture was born out of that.

7:04And today, Sign Investments is an open architecture firm where we are delivering on that mandate to give access to individual investors, what we believe are the best available managers in a specific asset class. And that's what kind of brought us to Grover. We consider them one of the best, if not the best, in terms of infrastructure. And I think they really understood and appreciated what we do in terms of delivering these types of alternative investments to the client. And what's really different about this is it's not a relationship where we're a third party distribution firm or they are a sub-advisor to a product.

7:44We are technically married at the hip, and we both have skin in the game in this product. So we jointly own the advisor. We're jointly fiduciaries to our investors. And I think that's important when you consider a lot of the other players in the marketplace that really were born on and built on and continue to grow as large institutional asset managers. The retail investor, the individual isn't top of mind all the time. Well, when it comes to Scion and the partnerships that we develop, we can say without a doubt that the investor is the most important thing on our mind. And I think that's what's really enabled us to be successful in a marketplace that is now crowded with big brand names that have a lot of resources.

8:30And we don't have those types of resources that they do. But what we do have is an allegiance to our investor and a focus on our investor. And that's what these joint venture partnerships do for us and ultimately the clients that we serve. And we are really excited about the partnership with Grosvenor because they have a firm that have been around a long time. They're great at what they do. They have a particular expertise in infrastructure. And we think that their experience in that asset class and their track record over the years, coupled with our ability to offer these types of products and explain these types of products and educate the financial advisors and their investors on these types of products is really going to make a winning combination that will ultimately help investors diversify their portfolio and do so in a thoughtful way and allow them to access alternatives in a way that they haven't before.

9:28I want to talk more about the platform in a minute, but I came from the institutional world where there were infrastructure investments done, you know, in the endowment foundation world. And I know that these kind of funds are pretty big in like Australia for retail investors, but I think it's still relatively uncharted territory for a lot of investors in the US. So, John, maybe you could just talk through infrastructure as an asset class and explain how it works and explain maybe how it has parts of like fixed income and equity in it and just how the asset class works for the people who don't understand it.

9:56Sure. Ben, I'm happy you brought that up because it's actually interesting when you think about the history of infrastructure. Infrastructure assets are as old as the world. We've always had essential services. We've had roads. We've had other modes of transportation. We've had social services, infrastructure assets. But infrastructure asset management is actually relatively immature in the context of all the different alternative strategies. whereas you think something like private equity being four or five six decades old i would say the uh infrastructure asset class is more one two decades old and so for our experience doing it for two decades we're actually very experienced in the infrastructure space and one of the most exciting parts about the infrastructure asset class is the growth opportunity and the growth opportunity is a function of massive need for infrastructure capital from all sources public capital private capital.

10:47But the other part of it is what you were just alluding to, Ben, which is the characteristics of infrastructure as an asset class. The idea that you have long-term cash flows, the idea that you have high degrees of confidence around those cash flows, the idea that you have yields component, the idea that you have inflation protection, the idea that you have dampened volatility. These are the types of things that any investor, whether you're an institutional investor or an individual investor covets very much in terms of having a key part of their portfolio. So we're super excited about where infrastructure is going in terms of the need for that type of capital generally, but also where it's going as an asset management asset class and the continued maturation of it and how it's going to play out in portfolios, largely driven by some of those really interesting characteristics that you point out, Ben.

11:36I was listening to BlackRock's most recent earning call. And Larry Fink said something to the tune of like, there's going to need to be $75 trillion worth of infrastructure spending out to, I forget the year was, but where's this money coming from? And what is infrastructure? I mean, it just sounds so vague. Like are these roads, are these airports? What are we talking about here? Yeah, it's a good question. So first of all, the need for capital, whether it's$75 trillion or something, half of that or something double it, it doesn't matter. It's a lot of trillions and it's a lot of money that's needed.

12:10And I think that depending on how big that number is, is whether you want to include the capital that's needed to transition the energy sector to cleaner and more renewable forms of energy, and the numbers are just massive. The answer to where it's coming from, it's coming from everywhere. And it needs to come from everywhere. That's how big the problem is. It needs to come from private capital. It needs to come from government sources. It needs to come from kind of uni finance type markets or similar markets in other countries, project finance markets, public-private partnerships. The capital need is so big that everyone's going to be part of that participation.

12:43I think your question on what is infrastructure is an interesting one, because I think it's an evolving definition. The reality is, is when infrastructure first started out, people thought exactly, Michael, about the couple of things you just said. They thought about roads, they thought about airports. Those are definitely parts of infrastructure. But I think it's a much bigger world. So start with the characteristics. The characteristics are, these are tangible assets. These are essential services. You're talking about transparent and highly certain cash flows. You're talking about assets that have high barriers to entry.

13:15And you're also often talking about assets that people interact with in their daily life, maybe not directly, but kind of maybe then indirectly. So you could, yes, have roads and airports and things like that, but you could also have pipelines that transfer energy. You can have data centers, which has become a part of infrastructure. Maybe sometimes it's real estate, but data centers is a huge part. You could have ports. You could have courthouses and other social services like education, depending on who your counterparty is, if it's government. So there's so many different types of infrastructure.

13:51But when you think about the parts that are important, it's what Ben was alluding to. It's for it to be considered infrastructure in our minds and for it to be considered infrastructure as an asset class from an investment management perspective, from an institutional or individual investor allocation perspective, it needs to have these characteristics around cash flow, inflation protection, high degrees of confidence, long duration, things of that nature. So when investors are coming into these structures, whether it's – and we could talk about the different investment vehicles. Actually, I'll defer to you guys on that.

14:24How do – so one of the challenges – and Mark, you hit the nail on the head that you alluded to a lot of larger players coming to your turf and your turf being the end investor. Now, wealth management is like the hot thing with private investments. it's difficult for advisors to evaluate these potential investments on behalf of their clients, because guess what? We're not experts in infrastructure. So when we're hearing the story, everything that you're saying on the surface, John, makes a lot of sense. Oh yeah, bro, it's cool. Got it. But like, what questions should advisors ask? How do we actually that your product versus the competitors, what are some of the questions we should be asking for?

15:07What are some of the, like, just what are we looking at here? What are we talking about? Yeah, it's a great question. And it permeates not only infrastructure, but it's the whole asset class of alternatives today. There's a lot of education that needs to be provided to advisors and their clients in order to truly understand what they're getting into. And I think too often, people paint these products with the same brush or they characterize them under a particular wrapper or structure, whether it's an interval fund or BDC or REIT, without really understanding what the underlying investment strategy is or how they're doing the investment strategy or who the manager is.

15:50So there's a lot of things to be diligent. And that's why accessing these types of products really starts with partnering with a firm that's dedicated, high quality, can provide the service that you need as a financial advisor to better understand that. And that's where we come in. And I think that's, again, why our partnerships really flourish is because you have an institutional asset manager that knows the ins and outs of their strategy, and they're really good at what they do, but they're not accustomed to speaking to individual investors and financial advisors, right? They're accustomed to working with large institutions.

16:27And that relationship is much different than the relationship that we have with our advisors and their clients. So it's something that really starts with education. And we really pride ourselves on providing that education in a thoughtful, understandable, digestible way. And then it's about really guiding financial advisors on what they should be looking for. Part of the process is for us to tell them what they should be looking for because we're very proud about what we have and what we're going to present to them. But it really is a function of first and foremost, understanding these vehicles.

17:05Are you investing in a BDC? Are you investing in an interval fund? Is it a closed-end fund? Is it a REIT? What are the liquidity features? What are the minimums? Well, let's start there. Mark, what are some of the differences for our audience between those three structures? I think most people are probably familiar with the REIT. But you said a closed fund, interval fund, and a BDC. What are some of the differences that investors need to know about? So if they're a registered product, and that's what we are distributing and manufacturing at Scion, those are the types of products that are raising a lot of capital today.

17:36And if you look at the various vehicles, there's a lot of similarities to them, right? In terms of a BDC and interval fund where a lot of credit managers and other asset classes are utilizing those vehicles to get to market, they're similar in a lot of ways, right? They're transparent in the sense that they're registered. So you have public filings that you can read. Typically, they're going to have low minimums, which is something that really is enabled alternatives to flourish in the marketplace because historically, there were very high minimums for individuals to get into alternative investments.

18:10It was virtually impossible. So the low minimums have changed the gain. Additionally, these products offer some sort of liquidity. I like to say, in many respects, it's appropriate liquidity for the individual investor in these strategies. So a BDC and an interval fund, many of the REITs today, they offer quarterly liquidity. Typically, most products offer approximately 5 % of the net asset value of any fund for purchase or repurchase by the fund itself to investors on a quarterly basis. And that is what I call appropriate liquidity because we're trying to match the investment strategy with the capital that we're raising.

18:59So far too often, we've heard about a mismatch of capital where investors were putting money to work in long-term investments or long-term securities, but the capital they raised was daily liquid or much more frequently - Makes no sense. Look, it makes no sense. And there's been a lot of problems with that. So what we do with these types of products, we're trying to match that capital up with the type of investing we do. And as investors, we're able to think more long term, knowing that there is some limitation on the type of liquidity that's available in the fund. But at the same time, it allows an investor to invest in alternatives, access the premium yield that's provided, the diversification that they provide, but still have access to their capital.

19:46And we see that as a great characteristic of these products. And typically, at least for our franchise, we have not seen the tender process result in an oversubscription. So our investors have had the ability to access their capital if they need it. And if it's a situation where there's more demand for capital than the limitations provide, we feel in a certain way that's a good thing, right? Because we don't want investors to make rash decisions and pull their capital out when there could be a recovery on the horizon. And that's what we've seen in the past with liquid products where investors panic and they take their capital out and then there's a recovery.

20:36So it really is the secret sauce, if you will, to these types of products. It allows, again, as I said before, it allows us to think long-term investable capital long-term, but they have a pathway to exit. If you look back 15 years ago, 20 years ago in this business, the alternatives that were provided to individuals had very little to no liquidity, and they were locked up for many, many years. If you look at a traditional alt for institutional investors, there's a seven to 10-year hold. So the liquidity features have really enabled us to mainstream, if you will, these types of investments. John, one of the most important jobs as a financial advisor is setting expectations for clients.

21:19So for those who are unaware, maybe walk us through some of the different expectations for risk and reward and what can change the returns on an infrastructure asset or investment, both positively and negatively. Yeah, it's a great question, Ben. And I actually think where you started is worth us emphasizing. It's something we had in our partnership, Sion and Grosvenor believe in really strongly, which is education, education, education, and transparency and transparency and transparency. We want to make sure just what Mark was just talking about, people understand the nature of the investments that they're investing in.

21:55They understand in detail the structures that they're using to make those investments and that there is no expectations mismatch. That doesn't mean that things don't happen down the road where we all need to pivot or there aren't bumps in the road where you wish you had done something different, but it wasn't because of an expectations mismatch. And so we're huge, huge believers in it. It's something that we've driven in a real serious way in the institutional investor world for five decades and something that we hope that through our partnership with Sine around the infrastructure asset class, we can help drive in the individual investor market as well.

22:29I think what specifically when it comes to infrastructure, what people should expect and what we hope to deliver is something that is consistent with the historical experience we've had doing this in a really global diversified way for the past 20 years, which is mid-single-digit type of cash yields, double-digit type of total returns, minimal volatility, inflation hedging or inflation correlations to the extent that there's inflation protection through the assets themselves, downside protection because of the essential nature of these assets. And that's what we've been able to deliver for our investors historically.

23:08And that's what we hope to be able to continue to deliver for investors going forward. That doesn't mean that you won't have bumps in the road along the way, but we do expect the nature of infrastructure assets and the nature of infrastructure asset management done well should be a very kind of comfortable and consistent experience for investors. What does a poor outcome look like? And I guess what are the, I know it's not liquid, so it's not apples to apples, but what does volatility look like? Or what does a bad year look like? And what would cause a bad outcome? Is this the type of thing where, oh, we're building a pipeline and it burst and it needs more money.

23:49And so your yield is going to be lower or I don't know. I don't even want to make up scenarios. You tell me, what does bad look like? The first thing I would say is that the nature of infrastructure assets that we invest in are generally of a operating variety. And what I mean by that is you're not doing a lot of new build, greenfield, engineering risk, construction risk, things of that nature. So it's not to say bad things can't happen, but the example you gave around building something and it not working or blowing up less likely to happen through the nature of the infrastructure assets that we're looking at, which are generally assets that are already developed and already in operation.

24:29I think that what bad can happen depends on the nature of infrastructure, but it usually is something related to the kind of demand side of it. So for example, sometimes when you are a infrastructure owner of a road asset, it might be that your payments from whoever your counterparty is, let's say a government, are simply based on having the road available. And as long as the road is available, you get payments. There are other types of infrastructure investments where it might be usage-based. So there's an element of availability, but then you're happier as an infrastructure owner if more cars go on your road.

25:12Generally speaking, you underwrite these assets such that you are comfortable with kind of low usage assumptions, but you'd be happier with higher usage assumptions as well. And that's an example of something that can lead to differentiated outcomes. The one thing I would tell you is if you're doing infrastructure right, you wouldn't, for example, build a brand new road that no one has any idea if anyone's going to use and make it usage-based. That's venture capital. That's risk. That's not a true infrastructure investment, even though there's a road in the word of that investment. So I think the devil is in the details.