Bond Markets

Bond Markets

Bonds can attract to infrastructure financing a whole new class of
investors, such as pension funds and insurance companies seeking long
term, stable returns.

In developing countries, the use of bond financing is in its early stages.

Revenue bonds – used for Greenfield projects & paid back from the
project’s revenues – are now in infrastructure finance in developing
countries.

They have been used to help toll roads in Mexico & the Subic Bay Power
Station in the Philippines.

Corporate or municipal bonds, based on the credit of a company or
government authority, have been used by infrastructure entities.

In industrial countries, bond financing is widely used to raise funds for
municipal infrastructure.
 Contractual Savings

Contractual savings institutions, such as pension funds and life insurance
companies, are particularly suited to making long term investments.

These institution levy fixed premiums, have stead and predictable cash
inflows, and incur long term liabilities, making them ideal suppliers of term
finance for infrastructure projects.

Chile has used its pension fund system to promote the privatization of
public utilities, including the Santiago subway system.

The social security system assumes only the bank risk.

Government sponsored pension funds have often suffered from
mismanagement & misuse.

Chilean regulations stipulate maximum investment limits by instrument &
by issue although with increasing experience.

The Chilean model of privately managed but publicly mandated and
regulated pension funds is being adopted more widely in Latin America.
Prospects

Where domestic capital markets are not well developed & financial
intermediaries are weak, the only other option may be to strengthen
specialized infrastructure finance institutions.
Risk Profile of Infrastructure Projects

The three broad stages in an infrastructure project with different risk
profiles & financing requirements may be identified as follows…
1 Development Risk The initial very high risk phase
Only equity capital can be used for financing
2 Construction Risk The next high risk phase
Cost & time spillovers tend to distort the future revenue
generation & profitability prospects of the project.
This phase may be financed by a combination of equity &
debt with guarantees.
3 Operating Risk Risk emerges due to underestimation of operating costs &
occasionally an overestimation of the output from the
proposed infrastructure facility.
Relative low risk & may be financed through bond issues

The Phases of Operating Risk …
1 The introductory
operation phase
The revenue stream is thin & operational bottlenecks
hinder achievement of high capacity utilization
2 The project
stabilization phase
Risks reduce considerably & revenues are more steady &
predictable

Other Risks…
1 Demand Risk Result of an overestimation of the demand & willingness to
pay for the proposed infrastructure facility
Mexico the demand for the facility is high but inadequate
willingness to pay
2 Financial Risk Foreign Exchange & Interest rate risks
Costs & revenues in the local currency
3 Market Risk Important when consumers can choose alternative service
such as with toll roads, railways, & even ports
The government absorbs this risk explicitly or by default
4 Political Risk Inadequate clarity in government policies & selection
procedures has made political risk the fulcrum of
infrastructure development