Infra-DIG: Investing in Digital Infrastructure

The dictionary definition of infrastructure - “the basic physical and organizational structures and facilities (e.g. buildings, roads, power supplies) needed for the operation of a society” - and the derivation of the prefix ‘infra-’ - meaning below or underneath, combine to give the word 'infrastructure' that reassuring solidity of something foundational, underlying, in which one should have some of a diverse portfolio invested. Investing in infrastructure has been on my mind for some time.

In 2019, spooked by the prospect of a potential Labour government in the UK intent on renationalisation (a prospect that came to naught in the subsequent December 2019 General Election), I sold the last remaining privatisation shares I’d inherited on my parents’ death – National Grid and Severn Trent.

Looking askance at the hefty premiums on which UK investment trusts investing in infrastructure traded, and reasoning that it might be worth exploring whether I could invest in digital infrastructure, I sought UK-listed vehicles in this field and found none.

Eventually I alighted upon Crown Castle in the United States. In essence a REIT whose income generating 'properties' are the wireless towers and 5G communications cells underpinning mobile communications devices in urban North America.

The investment was moderately successful with some uplift in both capital value and increased dividends over the eighteen-month holding period.

However, with a strengthening sterling and the ongoing deduction of what was a quite modest 3% dividend income due to US withholding tax, the recent announcement of not one, but two, London-listed IPOs of trusts investing in digital infrastructure caught my attention.

First to launch in February 2021 was Cordiant Digital Infrastructure which raised £370m at launch. Targetting an eventual annual dividend of 4p per share, but only 1p per share in the first year, for an income investor like myself this was trumped by the second trust to launch in the UK shortly thereafter: the Digital 9 Infrastructure Trust.

So, I have switched my Crown Castle holding to Digital 9, which is managed by Triple Point.

Two things make Digital 9 a more appealing income proposition than Cordiant: the proposed initial year dividend of 6p per share is to be mostly covered from the outset by the trust’s investment of £160m of the £300m raised in the March 2021 launch in a cash generative existing asset: Aqua Comms.

Aqua Comms operates one of the transatlantic seabed cables which carries data from the United States to Europe (and vice versa). 98% of the globe’s digital traffic passes through cables like these – you can’t get much more 21^st century infrastructural than that.

The ‘renters’ of space along these cables include corporate giants such as Facebook, Google, Amazon, who according to this company presentation (scroll down for video) are on lengthy inflation-linked contracts. 

With a pipeline of further assets to be invested in over time the income prospects of this trust seem quite bright. Interestingly, whereas Cordiant currently trades just below its £1.00 IPO price, Digital 9 has as of April 16^th, gently ascended to £1.02 in the two weeks since launching.

What could go wrong?

One of the appeals of digital infrastructure is that offers exposure to online traffic in general, without being directly exposed to some of the growing regulatory ‘interest’ in large online businesses. Of course, over time it may be that subsea cables attract the attention of tax-hungry governments - data taxes (?) tollgates at either end of the subsea cables (?).

There’s also the likely need for future capital raises (*) both to acquire further assets once the IPO proceeds are fully invested and to replace the fibre optic cables which have a 20-year lifespan. Whether a rise in interest rates might adversely impact such ‘long duration’ real estate assets is also a moot point.

That said, I look forward to the first quarterly dividend from Digital 9 in September 2021.

* Update 24th May 2021: As hinted in my original post, although more rapidly than I expected, Digital 9 has announced a placing seeking £100m to invest in further assets. Priced at £1.05, a discount of 7% to the 21st May closing price, the shares fell from £1.13 to £1.07 on Monday 24th May.

Rubbing my nose in some investment mistakes

Returning to a blog that hasn't been updated in over two years is like looking at one's questionable sartorial choices in old photographs.

One of Charlie Munger's most quoted, but perhaps least practiced observations, "I know I’ll perform better if I rub my nose in my mistakes" is apt.

Some of the portfolio decisions mentioned in the last two blog posts before this attempt to revive the blog, When the Facts Change... from March 2019, and When Deep Value Surfaces... from December 2018 provide plenty of soil in which to indulge in some nose-rubbing.

Caledonia Mining

The March 2019 post referenced what now seems a hasty sale of what had been a successful holding of this small-cap Zimbabwe-focused goal miner from 2016. Spooked by what turned out to be a temporary problem with power supply, and a fear of a dividend reduction that never came, that portion of my dividend-paying gold miners allocation went to Trans-Siberian Gold. Yet within a year I decided to reverse the trade and return to Caledonia as by early 2020 it was clear that the multi-year central shaft project was going to plan, and what has turned out to be five successive quarters of dividend increases was underway.

Although Caledonia has fallen some way from its peak of nearly £19 in July 2020 (against my January 2020 re-entry price of £7), today's announcement of the shaft completion and another dividend increase shows my original 2016 decision to invest in Caledonia should never have been reversed. 

Lesson: If the course of an investment is clear and the management displays consistent competence and transparency (as is the case here) then the inevitable minor squalls should be ridden through.

OPG Power Ventures: What was I thinking?

In late 2018 my search for dividend-paying deep value drew me towards OPG Power Ventures, a thermal power generator in India. Not for the first time, and probably not for the last time, an over-eagerness to move my capital towards perceived cheap dividend streams ultimately disappointed.

In summer 2019 OPG announced the divestment of a solar plant project and that it would be paying its dividend in scrip form rather than cash. As an early retiree cash dividends are paramount, so I sold the holding. On reflection an investment in coal power at a time of heightened environmental concerns was not wise. Harshly, the fact that by then the serial under-performer M&G Recovery fund had been a long-standing OPG holder could have been a warning against investing in the first place. I had also given insufficient attention to the considerable debt on the balance sheet, let alone the vagaries of coal pricing.

Although OPG shares are today about 15% higher than when sold, there have been no cash dividends since then.

Lesson: There are other, potentially more exciting, ways of securing income from emerging markets, not least Airtel Africa, of which more in a future blog post, perhaps. 

An 'interesting' two years...

I can't believe it's been two years since I updated this blog. A lot has happened since then...in life and thus investing, as the two are intertwined for me, as an early retiree. 

The fact that I'm typing this in April 2021 confirms I've survived, and for any human being over 50 survival into spring 2021 is a major achievement, not to be taken lightly.

I will try to post more regularly from now on, but for now as the end of another tax year brings that uncanny combination of necessary administration and thereby induced self-reflection, what follows is my attempt to make sense of recent times and provide myself with an aide memoire for future reference. If anyone else reads this, I hope you find it useful.

Lessons and reflections amidst (not quite after...) the COVID-19 pandemic

1. Think more deeply about resilience and how to put Taleb’s antifragility into practice:

Response: A cushion of surplus cash or near-cash liquid assets (currently Premium Bonds!) has a return well in excess of the negligible interest it may yield: the psychic income of reassurance in the face of adversity; the future returns NOT foregone as the cash cushion means there is less chance that investments will be sold at the worst possible moment amidst a March 2020-style drawdown.

2. Think more deeply about diversification.

Going into the pandemic I had too much in very similar UK-focused small cap dividend paying funds and companies, many of which [temporarily?] suspended or severely curtailed their dividends.

Responses: Increased allocation to large cap growth strategies: Scottish Mortgage, Chawton Global Equity Income, and specialist areas such as BB Healthcare.

Consider/invest in 'alternative assets' such as infrastructure, commercial property, loans, and some areas of the bond market: Digital 9 Infrastructure; Urban Logistics REIT; Schroder Strategic Bond; VPC Specialty Lending.

Gold mining equities are still equities: they may pay dividends but suffer stock-specific slings and arrows like all tradeable investments. An invidious example of this was the take-out of a profitable longstanding investment in Highland Gold at a ‘bargain’ price for the oligarchs, not shareholders like me, since ‘forced’ into lesser gold plays like Anglo Asian Mining to keep the allocation in income-generating gold producers. That said, the partial diversion of that reluctantly received capital to Sylvania Platinum has worked well, so far…

Monitor markets you don’t invest in, but which shape the wider investment landscape, particularly the government bond market, corporate credit, commercial property, above all the path of US interest rates and break-even inflation rates: US 10 Year Treasury Rates

3. If you’re going to panic, panic early, slightly, and be prepared to swallow pride and U-turn once the mistake becomes apparent.

Response: An ill-timed sale of most of a holding in Chelverton UK Dividend Trust (SDV) at what turned out to be the very bottom in March 2020 (75p a share) has been gradually reversed at subsequently higher prices. As of April 2021 the number of SDV shares held is higher than in March 2020. SDV in early April 2021 is now priced at just over £2.

4. Invest decisively in special situations even if they involve repurchasing previously unsuccessful or only partially successful past investments.

Responses: 

- K3 Capital radically restructured in summer 2020 with equity-funded acquisitions at a placing price of £1.50. By March 2021 K3C shares were just under £3 with a clear dividend strategy mapped ahead to 2023 (9p, 12p, 15p).

- Coral Products in December 2020 sold off unprofitable parts of its business, made acquisitions of profitable firms, rented out one of its factories and ended up with approx. 1.2p per share of earnings, 5p per share of cash, book value approx. 15-16p per share, with a share price of 10p. Subsequent buy-back of shares has helped increase the share price to 13.5p by April 2021. Not quite as compelling as in late 2020/early 2021, but arguably still below intrinsic value.

5. Think more deeply about what ‘value investing’ means.

 ‘UGO’ might be an apt acronym: Undervalued Growth Opportunities: not just discount relative to ‘inherited’ assets on the balance sheet, but current share price relative to growth potential and/or a clear catalyst for the realisation of value.

Response: AVI Global Trust (formerly British Empire Trust) is an exemplar here: a set of growth assets, but at sizeable discounts to instrinsic value, which has at last invested in Berkshire Hathaway.

6. When in doubt choose the investment trust version of a pooled investment strategy.

Revenue reserves plus the ability to pay dividends out of capital = greater sustainability of yield (relative to open-ended funds).

Public listing plus independent Board plus annual and interim reports = greater transparency (relative to open-ended funds).

Response: shift of UK income allocation to investment trusts e.g. Diverse Income Trust.

7. The China question.

In the light of potential geopolitical conflicts be cautious in the allocation to ‘emerging’ markets and limit the China exposure of such investments.

Response: Modest increase in exposure to Blackrock Frontiers Investment Trust

8. Monitor and consider adding to existing holdings before buying new ones.

Response as of spring 2021: if wanting to add more small cap value, consider adding to Chelverton UK Dividend Trust, Aberforth Split Level Income Trust

If ‘growth’ continues to be as 'temporarily' (?) neglected as it seems to have been in Q1 2021 consider adding to Edinburgh Worldwide and/or Scottish Mortgage 

9. Have a continually evolving watchlist (in my case with a contrarian or income generative tilt).

Response as of spring 2021: Jarvis Securities plc; The Scottish Investment Trust; Nippon Active Value

10. Remind yourself of the extreme emotions investment can bring and resist short-term mistakes by trying to keep a long-term perspective.

- Remind yourself how bleak things looked in mid-March 2020.

- Remind yourself how quickly and sharply sentiment and stock market prices reversed.

- Remind yourself of selling Chelverton UK Dividend Trust at 75p on March 23^rd 2020 and buying it back at much higher prices for the next 12 months.

- Remind yourself of the better decisions made in 2020: buying Scottish Mortgage at £5.12 on 24^th March 2020; buying European Assets Trust at 77p on 1^st April 2020.

11. Keep learning

Sources of investment insight turned to in 2020/21:

- The ‘After Hours’ Video podcast every Tuesday evening on The Acquirers Podcast.

- The blog A Wealth of Common Sense and its weekly ‘Animal Spirits’ podcast on Wednesdays

PI World videos geared to UK smaller company retail investors

The writing of Morgan Housel

His book, The Psychology of Money and a blog he regularly posts: Blog · Collaborative Fund

The websites of investment trusts and asset managers with a value tilt:

- AVI Global Trust/ AVI Family Holding Companies has some illuminating presentations

- RWC Equity Income (appointed managers of the Temple Bar investment trust in autumn 2020 just as a vaccine-induced 'value' rally strengthened): 

- The Value Perspective: useful blog from The Schroders UK team of value investors.

Twitter accounts of investors and investment writers

Tobias Carlisle (@Greenbackd)

Ian Cassel (@iancassel) / Twitter