For Really Uncorrelated Returns, Try Investing in a Ghana Power Station

(Bloomberg Markets) -- Investing in African power plants can boost returns, provide a hedge against global market shocks, and help lift people out of poverty, says Jerome Booth. The chairman of London-based New Sparta Asset Management Ltd. takes it a step further: For investors, not having such assets in a portfolio is “irresponsible,” he says.

Booth has strong opinions about emerging markets. An economist, he was part of the management group that in 1999 established Ashmore Group Plc, an emerging-markets-focused investment manager in London that now oversees $92 billion. After retiring from Ashmore in 2013, Booth started New Sparta, wrote Emerging Markets in an Upside Down World: Challenging Perceptions in Asset Allocation and Investment (Wiley, 2014), and was appointed chairman of Anglia Ruskin University’s board of governors.

He personally invested about $10 million in developing a power plant in Northern Ghana, alongside Erling Lorentzen, founder of Brazilian forest products producer Aracruz Celulose SA. That project has spent $70 million on a forest of eucalyptus trees to provide biomass fuel and now awaits a so-called put and call option agreement, which is economically equivalent to a government guarantee, according to Booth. Once that’s in hand, the plant’s owners plan to raise up to $350 million in financing, mostly debt, to get to production.

James Crombie: Why are you investing in African power?

Jerome Booth: Energy is the biggest bottleneck to economic development in Africa. Investing in emerging markets—including in illiquid things like power stations—is a way to not just increase returns and diversify your portfolio, it’s a way fundamentally to reduce risk. If you don’t do it, you’re actually concentrating your portfolio in a highly risky way, which is imprudent and irresponsible.

I’ve got a significant investment in Ghana, and I wouldn’t be doing it if I didn’t think it was suitably important. I’m not investing just for the return. I’m also trying to send a message that this is the sort of thing that people should consider investing in.

The point of investing in emerging markets is that you get your cake and eat it. You get to exploit the fact that there’s a mispricing of risk. If the world blows up, Africa will still want power. Long term, it is immune to changes in consumer fads, the terms of trade, and other factors.

JC: What’s the project?

JB: The African Plantation for Sustainable Development. It’s a standard thermal-power plant with 67 megawatts of generating capacity, and the total investment is $420 million. Once the forest is there and you’ve built all the roads and the infrastructure, marginal costs in the future are very low. If you scale up and build a second power station next to it, they go even lower. There’s huge economies of scale if this were to expand across West Africa.

JC: What do you expect to make on it?

JB: Returns could be 20%-ish, depending on whether you want to go through the build phase and sell, or just use it as an income stream for 20 years when it’s producing power.

JC: Isn’t there still a lot of risk in Ghana?

JB: There’s political risk everywhere. The difference between an emerging market and a so-called developed country is that in the emerging markets, the risk is perceived and priced in—sometimes overpriced.

JC: How does African power fit into a portfolio?

JB: You just can’t think of one type of risk. Obsessive concentration on past volatility of liquid prices is a distraction from a lot of the really big risks, which are structural. There are lots of potential scenarios out there where there are highly correlated losses in developed world markets. There’s an argument for investing in countries that are a little less connected, a little less levered, and with less bubblelike financial conditions.

JC: What’s the appeal of emerging markets?

JB: They are growing strongly, there’s not anything like as much financial sector development, and they’re capital scarce. There are domestic demands, which aren’t going away, driven by population growth. Scenario planning, if taken seriously, would lead most investors to invest much more in emerging markets. I’m not talking about putting 5% into emerging markets. I’m talking about putting half.

JC: How would you deploy that big increase in allocations?

JB: Invest in everything, and within that, make sure you have quite a good chunk which is not liquid, that is infrastructure, domestic-demand related. Do invest in stuff which is pre-IPO. A lot of these economies don’t have huge stock markets. That doesn’t mean they don’t have firms or economic activity. A lot of these companies only list when they’ve made it—the big gains are before that.

JC: Why are emerging markets a hedge?

JB: The risks you care about most should be the ones that lead to large, permanent loss across a huge swath of your portfolio. Those very risks are best insured against through investing in emerging markets. We’re going to see more pools of domestic savings getting into massive deficits. They’ve been putting far too much of their portfolios in their own domestic markets and other Western markets for far too long. If they’d been invested 30% in emerging markets for the last 20 years, they wouldn’t be in deficit.

If you have a large pension fund and you don’t have a significant amount in emerging markets—and within that in nonliquid assets, infrastructure, and the like—you are missing an opportunity to add overall return and reduce risk. A pension fund with 15-year duration shouldn’t be interested in volatility. The only risks they should really be focused on are large permanent losses.

If you look at productivity, growth, and economic activity, emerging markets get less and less risky every year, and they’ve been doing that now for several decades. Using PPP [purchasing power parity], they are now coming up for two-thirds of the global economy. They are 85% of global growth, they’re not that levered, most of them are reasonably well run.

JC: Do you expect global markets to blow up?

JB: There is going to be a crisis, which is then going to create the political will to really clean up moral hazard in the financial sector. The issue where crisis happens and the taxpayer bails them out—that’s got to stop.

JC: What’s the trigger?

JB: There are a number of scenarios, including another ’08-’09 financial crisis, but much more likely is a return to an inflationary environment. A lot of people are secretly much more worried now about inflation taking off rather suddenly as the yield curve inverts, governments find it difficult to finance themselves, and people’s perception of long-term risk changes dramatically. Because of the amount of bond issuance out there, you could go from 30-year bonds with negative yields to 30-year bonds in double-digit yields very quickly. You need only one major economy to go down the inflationary route, and then everyone else’s eyes will be opened.

Crombie is a senior editor at Bloomberg News in New York.

To contact the editor responsible for this story: Jon Asmundsson at jasmundsson@bloomberg.net

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