Navigating Infrastructure’s Growth Cycle

Infrastructure, which is a newer allocation for many institutions and family offices, is in the midst of what is expected to be an extended growth cycle. Historic under-investment by the public and private sectors, aging infrastructure across developed markets, re-shoring trends, and technological advancements are all combining to significantly expand the need for investment across the asset class.

At the sector level, multiple long-term secular tailwinds are benefiting digital infrastructure, power, energy transition, transportation, water, waste, and other sub-sectors. Moreover, the recent AI-driven buildout has created a “wave on top of a wave” dynamic in which pre-AI tailwinds are amplified by rapid growth in AI, primarily in digital infrastructure and power generation/energy transition assets, and secondarily in water systems tied to data center demand.

Adding to the complexity, new macro trends are increasingly causing a convergence between sectors, with assets becoming more integrated and reliant on coordinated development across multiple systems.

Historically, infrastructure has been viewed as a fixed income alternative, with investors clipping a steady yield from stabilized assets. Given the need for significant new investment and a sustained pullback in funding from the public sector, private value-add or private equity-like strategies have emerged in recent years to help meet and capitalize on demand. Private value-add strategies often target mid-teens net returns. While higher risk than core strategies, value-add strategies may offer the potential for diversifying and downside protection oriented exposure.

In this investment perspective, we outline the expected investment need, the impact of secular and AI related tailwinds, and potential risks of infrastructure investing. We also examine the diversification and risk/return profile that infrastructure may add to a broader portfolio, and strategies for building exposure while seeking to maintain downside protection.

Massive New Investments Needed

In the U.S. alone, the American Society of Civil Engineers projects a $3.6 trillion funding gap through 2033 across infrastructure categories. Excluding some categories that have historically been funded by federal, state, and local governments, such as roads, bridges, and levees, the projected gap is still north of $2.0 trillion. Notably, this gap does not include some larger or emerging categories such as cell towers, data centers, waste management, and shipping.

McKinsey estimates that approximately $106 trillion in global cumulative infrastructure investment will be required through 2040. This need is being driven by aging infrastructure, urbanization, and technological change. The infrastructure universe has expanded beyond traditional assets to include digital infrastructure (data centers, fiber), energy transition assets (EV charging, renewables, low carbon fuels), social infrastructure (student transport and emergency services systems), and healthcare infrastructure.

Private capital is playing a growing role, with Boston Consulting Group reporting that, in the past ten years alone, private infrastructure assets under management (AUM) have more than quadrupled, to $1.3 trillion.

Key Subsector Themes

Power & Energy Transition

Electricity demand is accelerating and increasingly outpacing supply. Structural drivers include growing populations; electrification of heating systems, vehicle fleets, and industrial processes; reshoring of manufacturing; and accelerating growth in AI related data center demand. Grid congestion, aging infrastructure, and permitting constraints—including pushback from local communities—create bottlenecks that support investment in generation, transmission, and distribution.

Natural gas-fired power plants (50% less emissions than coal plants) of multiple varieties are increasingly replacing less economic and higher carbon-emitting coal plants. Gas-fired plants, which provide on-demand baseload generation, are expected to continue to play a critical role in meeting power demand growth.

Renewables are also playing an important role in meeting power demand. In addition to decarbonizing existing energy sources and improving energy efficiency, renewable energy has become cost competitive without federal policy support in many markets. Renewables offer modular, shorter-duration construction relative to large-scale gas-fired plants, however, complementary investments in battery storage, grid stability, and flexible generation (gas-fired thermal plants) are needed to balance intermittency and reliability.

Midstream

Midstream assets may benefit from increased natural gas consumption and LNG exports. They are also well positioned to facilitate the flow of emerging fuel sources like renewable natural gas and potentially hydrogen and other low carbon fuels in the future. Local and state entities, as well as private landowners, create barriers to building new infrastructure, which may benefit incumbent assets and their valuable rights of way and permitting.

Digital Infrastructure

Long-term growth in data demand has been driven by connected devices, IoT proliferation, 5G rollout, and the migration to cloud computing. AI has amplified these trends, creating a step-change in compute-intensity and power consumption. This “wave on top of a wave” is accelerating investment in all areas of digital infrastructure, as well as in enabling assets such as power and water infrastructure.

Transportation

Significant capital investment is required to modernize global transportation infrastructure. McKinsey estimates that over $2 trillion annually will be required through 2040 across aviation, ports, rail, roads, and EV charging infrastructure. Decarbonization, supply chain resiliency, and electrification of fleets further expand the opportunity set.

Water and Waste

Water scarcity and industrial reuse efforts, which are driven by economic and stewardship goals, are driving investment in treatment, recycling, and distribution infrastructure. Industrial and data center demand for water access is adding incremental growth. Similar tailwinds in waste are driving investment in recycling, waste-to-energy, and processing infrastructure.

Convergence Trend

Infrastructure sectors and sub-sectors are increasingly converging:

• Data centers are massive power users, and their development and expansion are heavily dependent on securing co-located or dedicated power access.
• Waste infrastructure is being built with waste-to-energy revenues, where methane from landfills is harvested and sold under long-term contracts as renewable natural gas to large offtakers.
• New transportation infrastructure is frequently electrified and tied to power generation, particularly in the case of corporate fleets.
• Cell towers are increasingly integrated with backup solar and battery storage infrastructure.

This convergence can create complexity but also efficiencies and additional revenue sources.

Middle-Market Value-Add Strategies

Historically, many private infrastructure funds have targeted core or core plus assets that generally have long duration contracts and produce a steady inflation sensitive yield. Other funds have pursued value-add strategies focusing on higher total returns.

In recent years, many incumbent strategies—both core and core plus, as well as some of the early value-add strategies—have grown into megacap strategies, raising $5 to $30 billion funds as investors have increasingly sought exposure to the asset class.

However, a vast majority of assets and businesses within infrastructure fall within the middle-market, creating potential opportunities for smaller funds to buy and build attractive assets and businesses and then exit to the pool of megacap funds, core funds, and strategics.

These strategies take a private equity approach to acquiring and developing assets and businesses, and seek to create additional value through capital investment, operational improvements, and bolt-on acquisitions.

While these strategies have higher risk and return profiles, investment capital is typically focused on hard assets that are capital intensive and exhibit monopolistic or quasi-monopolistic characteristics. These businesses may benefit from intrinsic asset value, provide essential services, have high barriers to entry, and have long-term contracted cashflows which may provide downside protection.

Because infrastructure is still a maturing asset class, the universe of historic funds is limited. The following returns include a mix of core, core plus, value-add, and opportunistic strategies.

Building Exposure

Diversified Strategies

Diversified middle-market strategies invest across multiple sectors, from digital infrastructure to power, energy transition, waste, water, and transportation. These strategies benefit from the flexibility to pivot from one sub-sector or sector to another based on the relative attractiveness of the opportunity set at any given time while still targeting mid-teen returns.

Diversified strategies typically have teams with expertise across sectors that are augmented by in-house operating partners who come from industry and, in other cases, third-party operators with deep domain expertise.

Sector Specialists

Sector specialists have deep expertise within a particular industry. Examples include power managers focused on smaller natural gas and energy transition assets or digital strategies focused on data centers or cell tower development. Specialists are typically vertically integrated to varying degrees, with in-house investment management, asset management, operations, and development capabilities. They seek to create and capture value from the granular level and across the investment lifecycle and often avoid paying incentive fees to third parties.

Anchoring a private infrastructure portfolio with diversified strategies and complementing these with higher octane (higher returning/less diversified) sector specialists can be an effective way to build and scale diversified exposure in the asset class.

Public Market Exposure Options

Public infrastructure strategies provide broad exposure across a mix of utilities, industrials, and midstream energy, and can serve as a complement for investors building out a private infrastructure portfolio. Public exposure involves higher volatility than private exposure but frequently offers daily liquidity. Public investments typically include more core-like holdings, which have predictable cash flows and high barriers to entry, but lower expected returns than private value-add strategies. Public strategies tend to offer limited direct exposure to digital infrastructure, outside of relatively small positions in tower REITs or independent power producers (“IPPs”). However, these public investments are critical for powering the ever-expanding industry.

The two benchmarks we most commonly encounter are the S&P Global Infrastructure Index and the FTSE Global Core Infrastructure 50/50 Index. While there is significant overlap in positioning, there are important distinctions made at the industry and regional level. Clients should evaluate their existing portfolio before determining which benchmark may be the most complementary, e.g., “do we already own towers within our real estate allocation?”

Risks

Increased Capital Flows/Dispersion

As with any growth area with increasing capital flows, there is bound to be dispersion in returns over the long term. Individual assets, sub-sectors, and sectors have varied risk profiles. Some sub-sectors may be overbuilt, overfunded, over-levered, fail to meet demand expectations, or be disrupted by technological advances. Further, construction costs may continue to increase, benefiting incumbent asset values, but potentially squeezing returns for new developments.

One area where risk profiles may diverge significantly is data centers. Data centers servicing cloud/edge workloads may have different risk profiles than data centers servicing AI training workloads:

Low Latency Cloud/Edge Data Centers

Cloud computing (non-AI training related) is a highly profitable, scaled business led by AWS, Microsoft, and Google. According to Morgan Stanley, public cloud adoption is still in its early stages, with approximately 42% of application workloads of U.S. and Europe-based enterprise organizations operating in the public cloud as of 2024 year-end. Demand for public cloud services is driving continued demand for data centers near population centers, where low latency is critical for applications like streaming, gaming, and enterprise software. Data centers servicing these workflows will likely also benefit from AI inference demand, which is latency-sensitive. From a risk perspective, these assets typically have multiple alternative or residual use cases and tenancy given their proximity to population centers.

Remote AI Training Data Centers

In contrast, AI training workloads are less latency-sensitive and can be located in remote and rural lower-cost regions with access to power and land. These assets may carry higher residual risk, as they may have limited alternative uses if AI training demand slows after initial hyperscaler leases expire.

The rapid build-out of data centers due to AI has been compared by some to the tech-driven fiber build-out in the late 1990s and early 2000s, which resulted in significant losses for some investors and companies. With the current tech-driven capital cycle, there will likely be significant dispersion in returns by asset related to speculative builds, workload profiles, and viable alternative residual uses. However, unlike the fiber build-out, demand for data centers today has generally been immediate, massive, and typically involved long-term contracts with investment grade rated counterparties.

Other risks related to data centers include: growing NIMBYism or resistance to development in municipalities due to their potential impact on local power prices and the local environment; and the need for additional capital investment as the introduction of new GPUs may prompt the need to upgrade compute capacity.

Potential Disruption

In addition to return dispersion, there is the potential for longer-term disruption from technological risks or conflict related developments.

For example, small modular nuclear reactors/fusion reactors could potentially negatively impact existing power assets. AI training data centers deployed in space, or highly efficient graphic processing units which use materially less energy over a smaller footprint, could impact digital infrastructure assets.

While these types of technological advances may be part of the solution to meet growing demand/capacity needs, they could potentially have a materially negative market impact on some incumbent assets.

Separately, global conflict has impacted—and may continue to impact—existing infrastructure assets across energy, water, and logistics.

These risk factors reinforce the need for portfolio-level diversification, consistent capital pacing, and manager-level underwriting discipline with a focus on near-term cash flows, long-term contracts, strong market selection, and alternative residual uses.

Key Considerations

1. Secular Tailwinds Are Strong

Infrastructure benefits from long-term tailwinds including electrification, digitalization, and reshoring, which support sustained demand across multiple sectors.

2. Capital Inflows Increase Competition

Increasing allocations from large investors can create competitive pressures, particularly in more established sectors and strategies.

3. Middle-Market Opportunity

We view the middle market as attractive with capital flows from larger funds and investors expanding the buyer pool.

4. Return Dispersion Is Likely

As with any growing asset class, some segments may become overbuilt or overfunded, or potentially disrupted, reinforcing the need for diversification and manager selection, which can improve outcomes through execution, operational expertise, and disciplined underwriting.

Conclusion

The expansion of the infrastructure asset class and secular tailwinds have created an attractive opportunity set. At the same time, increasing capital flows and sector convergence introduce complexity and potential dispersion in outcomes. Disciplined underwriting, operational expertise, and thoughtful portfolio construction remain critical.

We believe infrastructure, in both private and public markets, can play a valuable role within institutional portfolios, offering diversification, an opportunity for downside and inflation protection, and exposure to long-term growth themes.

 

 

 

 

 

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