Will Trump’s Tax Plan Impact MLPs?

Will Trump’s Tax Plan Impact MLPs?

The White House tax proposal announced April 26, 2017, would tax income from pass-through entities (MLPs) at a 15% rate instead of the individual’s ordinary income tax rate. The Trump Proposal would, therefore, make MLPs a more lucrative investment by decreasing the amount of tax paid by the individual owner. Currently, an investor in the 39.6% tax bracket with $100 of ordinary income from an MLP would pay $39.60 in Federal income taxes. Whereas with the Trump proposal, a $100 of income would only require taxes of $15.

If this proposal made into law, it would be a tremendous benefit to MLP investors. Distributions that are currently tax-deferred would stay the same. However, if you sold an MLP, the deferred income would be taxed at 15%. The government would also tax the ordinary income at 15%.

For investors looking to invest in MLPs, the following should be good news: According to the Energy Information Administration (EIA), an oil shortage is feared by 2020 due to lack of new development in the era of low price oil. American shale producers would not be able to offset the shortfall. This shortfall in supply would be very positive for MLPs since there has been a correlation with oil and the price of MLPs. Here is a link to the article:

Source: https://www.wsj.com/articles/iea-says-global-oil-discoveries-at-record-low-in-2016-1493244000

tags: trump, taxes, tax plan, tax mlps, master limited partnerships tax, Trump Tax Plan Energy, Income taxes, Pass Through Entities

Income Investing through Master Limited Partnerships

David DeWitt, President and Portfolio Manager of DeWitt Capital Management, was recently interviewed by Money Matters and explained how investors can earn income through master limited partnerships.  If you are looking to add income to your portfolio while participating in the American energy infrastructure boom, watch this 2-minute video:

If you want to discuss how MLPs can add income to your portfolio, contact our team at DeWitt Capital Management today.

Tags: income investors, infrastructure investments, income investing, income investments Master limited partnerships, master limited partnership income, income investor interview, master limited partnership investing, MLPs

Barrons Master Limited Partnerships

Barrons Backing MLPs Again

Barrons ran an article on January 2, 2017, that suggested investors should steer clear of MLPs in 2017. They suggested that when using traditional valuation metrics, MLPs look expensive compared to electric utilities and telecoms. They also commented that for many MLPs to continue paying their “generous” distributions, they would have to access the capital markets which have been unfriendly. To quickly evaluate how their recommendation turned out, let’s look at what happened in the sector over the past month. Exactly zero MLPs cut their distribution while several raised it. Also, since their article ran, the Alerian MLP index has been up 7.6%.

This weekend, Barron’s ran an article with a much different take on the sector titled “Is It Too Late to Get In on MLPs’ Latest Bull Run?”[i]In a clear change of heart, the article comments that “MLPs make money when crude and natural gas flow through their pipelines and volumes are likely to increase with President Donald Trump making US energy development a priority.”[ii] Although the index is up 75% from the low, it is down 40% from its high and is attractive on a historical basis. According to the article, “MLPs yield 6.8% on average, more than most other dividend stock sectors and more than many junk-rated corporate bonds, and distributions are growing at the rate of 4 to 5% on average. Add up the average dividend, growth forecasts, and an expansion in multiples, and portfolio managers see gains in the mid-teens for the next few years.”[iii]

In their previous article suggesting avoiding the sector, they painted the idea of 5% distribution growth as a negative, as it the number is down from historical averages. Now, however, Barrons seem to have adjusted their lenses and are now seeing how the combination of growth, yield, and fundamentals portend a much brighter future for MLPs than they believed a month ago.

[i],[ii], [iii] Is It Too Late to Get In on MLPs? Latest Bull Run? | MLPs … (n.d.). Retrieved from http://www.investorvillage.com/smbd.asp?mb=5028&mn=74632&pt=msg&mid=

tags: Barrons guide to MLPs, MLPs outlook, master limited partnerships, bulls, MLP strategy, 2017 master limited partnerships

The Pipeline President

The Pipeline President

On Tuesday, his fourth day in office, President Donald Trump took steps to show he is serious about peeling back regulations and removing political roadblocks on critical energy infrastructure projects in the United States. Among the actions taken was an executive order designed to expedite permitting and environmental reviews of “high-priority infrastructure projects.”

Specifically cited as projects deemed “high-priority” were the Dakota Access Pipeline (DAPL) and the Keystone XL Pipeline. The Obama administration halted construction of DAPL in September of last year due to often violent protests by environmentalists and rejected the Keystone proposal in 2015. He also signed an order telling the Commerce Department to develop a plan to impose a requirement that all new pipelines in the United States be built using “United States Steel.”

These actions are significant for master limited partnerships (MLPs) that have been building or are intending to build new pipelines. Energy Transfer Partners, the MLP behind DAPL, led the sector higher Tuesday as reality set in that these executive orders would reduce the often costly and lengthy permitting process for new pipelines. Perhaps just as important, these actions from President Trump signal that the rule of law will be respected and he will not grant special treatment to protesters, activists, or organizations who oppose projects that have already been approved through the legal process.  A pro-energy infrastructure administration will serve to remove much of the political risks that had become an increasing headwind for MLPs under the Obama administration.

These developments are yet more positives for MLPs as much-needed pipelines are now going to face a more efficient and swift permitting and approval process. This allows the MLPs that operate the pipelines to go from proposal to construction to earning revenue in what should be a significantly shorter period.

tags: pipelines, mlps, master limited partnerships, pipeline, President Trump, Trump energy policy, Trump oil, Trump natural gas, Trump pipelines, President Trump pipelines

Petrochemical Production

Petrochemical Developments

The expected growth in natural gas and related NGLs creates an opportunity for master limited partnerships to build the necessary infrastructure for storing, processing, and shipping natural gas and extracted hydrocarbons.

Because long term supplies of natural gas will be abundant, so will ethane and propane.  Therefore, major petrochemical plants are being built in the U.S. to produce ethylene, the building block of water bottles and glad trash bags.   In recent years, the shale revolution has allowed the extraction of ethane and propane in quantities that have encouraged the building of multi-billion dollar plants in the U.S.

There are numerous plants under construction in the U.S. and North Americas, as you can see in the map below:


As we enter 2017, we will continue to look at the different trends in the energy market that are driving recovery and growth in the MLP sector.

Major ethane-based petrochemical construction projects in North America. Customize and filter the data here. Source: Petrochemical Update

 

tags: mlps, petrochemical MLPs, petrochemical master limited partnerships, petrochemical projects in the United States, investing in petrochemical plants, energy trends, Energy MLPs

Master Limited Partnerships Back on Top in 2016

The end of 2016 brought with it the beginning of normalization of the prices of master limited partnerships (MLPs).  From 2000 through 2011 MLPs beat the S&P index every year. For 2016, MLPs are poised to lock in a victory. As of December 28, MLPs were up 18% and the S&P index was up 12.5%.

Looking into 2017, MLPs are set up to perform well. MLPs as a group are trading below historical valuations and the S&P is trading above historic averages. Given both the expected and unexpected tailwinds in the MLP space from growth projects coming online to the energy-infrastructure friendly incoming Trump administration, we see an opportunity investors should consider closely.

Speaking of growth projects, liquefied natural gas exports (LNG) to Mexico and a continued move into natural gas for electrical generation will keep many MLPs busy. The huge petrochemical construction projects to convert ethane to ethylene are going into production during the next 18 months (when combined with increasing exports of ethane) will generate solid growth for those MLPs involved in processing, storage, and transportation of ethane.

In short, MLPs have the potential to outperform the broad market in 2017 and beyond, backed by both fundamental and political factors.

 

tags: master limited partnerships, master limited partnerships performance 2016, MLP performance 2016, MLP sector, how did MLPs perform in 2016, master limited partnership

Forming a Master Limited Partnership

How a Master Limited Partnership is Formed

An MLP is structured as a publicly-traded limited partnership that owns the operating company which in turn acquires assets.  An MLP is managed at the partnership level by a General Partner (GP) or Sponsor who takes the lead on managing the MLP, essentially operating the business.  A master limited partnership is formed through a multi-step process, involving a lot of paperwork from well-paid attorneys, but it essentially boils down to:

  1. The Sponsor forms the General Partner (GP);
  2. The Sponsor and the GP form the limited partnership, setting up the partnership agreement that dictates the distribution levels;
  3. The Sponsor invests a nominal amount of money in the limited partnership;
  4. The Sponsor then contributes the qualifying assets to the master limited partnership; the assets must meet the requirements for MLPs on qualifying sources of income, per 7704(d)(1)(E);
  5. The MLP now assumes the liabilities for those qualifying assets and the assets and liabilities are moved down to the operating subsidiaries;
  6. In the IPO, common units (essentially public shares) are offered to the public;
  7. The GP typically maintains a 2% interest in the MLP
  8. The Sponsor or GP receives cash, common units, subordinated units, and incentive distribution rights (to be covered in more detail next);
  9. Now that the MLP has been formed, the GP works to generate cash flow and greater distributions to unit holders and the GP itself.[1]

The GP will sell a portion of the MLP to the public in an Initial Public Offering (IPO) and the remainder will be owned by the GP, as well as a 2% interest.

The pubic buys common units in the MLP while the GP holds subordinated units, giving the public preference over the GP when it comes to cash distributions.  As the MLP prepares for IPO, it will submit its prospectus to the SEC and set a minimum quarterly distribution, which the public will receive first, then the GP’s subordinated units.

[1] Paul Hastings. https://www.paulhastings.com/docs/default-source/PDFs/mlp-primer.pdf

 

tags: how to form a master limited partnership, forming a master limited partnership, what is a MLP, how does an MLP work, MLPs, master limited partnerships, midstream MLPs

MLPs as An Alternative to REITs and Utilities

Looking for income? A compelling alternative to REITs and Utilities

By David T. DeWitt, MBA, CFP, President & Portfolio Manager of DeWitt Capital

I participated in a discussion panel at the Family Office Real Estate conference on Friday, September 30th in New York.  Almost all of the discussion surrounded the topics of the real estate cycle, capitalization rates (rate of return on a real estate investment property), difficulty in finding good cash flow from REITs, areas of opportunities, etc. The topic of the panel discussion was finding yield in a low yield environment.

I was asked to compare Master Limited Partnerships with REITs. Among the similarities that I detailed were that both own real assets, both produce income, both require land, both are pass through entities that return capital and pay out income, both use leverage, both rent their properties and have a history of raising rents, and both are cyclical.

A frequent sentiment at the conference expressed by many of the family offices speaking at the event was that the real estate cycle was approaching a top, and that we may be in the eighth or ninth inning. Some suggested that it was time to begin cashing in. In contrast, MLPs are in the early stages of a recovery.

An irrational, unwarranted sell-off

The Alerian MLP index peaked in August 29, 2014, at 539.85.  It bottomed on February 11, 2014 with an intraday low of 199.1.  Today the index is trading around 310, 42% off of its high.  Market technicians view MLPs now in an uptrend. Master Limited Partnerships were caught in a negative feedback loop from August 2014 through February 2016.  Even though mid-stream MLPs are engaged in the transportation of oil and not the ownership of oil, and even though many MLPs are more involved with natural gas and natural gas liquids, and even though the price of oil had little-to-nothing to do with many MLPs, the prices of MLPs became directly correlated with the price of oil and fell to insanely low levels.

Looking back to those days, investors have seen and felt extreme unease, fear and anxiety because MLPs were historically compared with steady, non-volatile investments like REITs and utilities. Investors felt this was not supposed to happen.  In the 1990s, when I first began investing in MLPs, oil was priced in the teens and twenties and MLPs had been steady, growing and reassuring investments. While the share price volatility of MLPs has increased due to the correlation with oil, the volatility of the underlying cash flows has not increased to nearly the same level.

A look at the relative returns of MLPs, REITs and utilities
chart-1

Looking at yield spreads help unveil the opportunity

Historically low interest rates over the last eight years has caused investors to search for yield outside of the traditional methods, and this has put downward pressure on the yields of REITs and utilities as these two sectors have reached near all-time high valuations.  Putting this into perspective, the MSCI REIT index is yielding 4.54% while the yield on the Alerian MLP index is 7.32%.  By comparison, the yield on the Dow Jones Utility Index is 3.53% and the ten-year treasury is yielding 1.72%.  Over the last ten years, the spread between REITs and MLPs has been 2.46 percent and is currently 2.79 percent.  The spread between utilities and MLPs has averaged 2.93% and is currently 3.8%.

The spread between the ten-year treasury and MLPs has averaged 3.96% and is currently 5.6%.  However, when the ten-year yielded 6% and the MLP index yielded 9%, there was a 50% difference.  Now the yield on the ten-year is 1.72% and with MLPs yielding 7.3%, there is a 325% difference in yield. This massive spread limits MLPs vulnerability in a rising rate environment. Combined with the fact that MLPs are in the early stages of their cycle and their substantial yield over the ten-year treasury, MLPs make for a compelling total return proposition.

Historical yields of MLPs, utilities and REITs

chart-2

For those who recognize that midstream MLPs are businesses that transport, store, process and distribute the natural gas and the oil we use every day, the value becomes clear.  DeWitt Capital Management is committed to continuing to uncover the best of these businesses while others fear to venture into the space. In a yield starved and politically unstable world, what better place could there be than in the vast energy infrastructure of the greatest, most profitable democracy on Earth?

This article was guest authored by David T. DeWitt, MBA, CFP, President & Portfolio Manager of DeWitt Capital.  

 

tags: income, income investments, REITs, MLPs, master limited partnerships, midstream MLPs, utilities, yield

Master Limited Partnership Yield

The Search for Yield

In today’s low-yield environment, it has been difficult for investors to find investments that offer income.  For many portfolios, generating income is a major component of the strategy.  Yield refers to the income return on an investment.  Yield is a function of the investment’s income (dividend, distribution, income, interest rate) and the price of the investment.  For bonds, the current yield is expressed by annual interest rate/current price of the bond.  So if the bond is trading at par at $100 and pays a 5% coupon then the current yield is 5%.  If that bond was trading at $90 though, so 10% under par value of $100, then that same 5% coupon would make for a current yield of 16.67%.

Central banks have been keeping interest rates at record-lows in recent years.  Investors around the globe have flocked to the safety of bonds, pushing prices for treasury bonds and other safe-haven securities up.  That combination has kept yields down for many investors as the price of bonds has stayed high and interest rates for bondholders haven’t ticked up.

Master Limited Partnership “Yield”

Analysts and investors often point to relatively high yields offered by master limited partnerships as a main reason to invest.  As we’ve discussed elsewhere on this site, master limited partnerships distribute income to unit holders on a quarterly basis (though as you’ll read below, that’s not guaranteed).  These distributions are typically treated as a tax deferred return of capital, which helps lower the unit holder’s tax basis.

Yield can be calculated on a current or forward basis.  Current yield is calculated by dividing the current declared quarterly distribution annualized by the current unit price of the MLP.  Forward yield is calculated by taking the master limited partnership’s estimated next 4 quarterly distributions and dividing that by the MLP’s current unit price.

With typically high distributions, master limited partnerships can offer considerable yield to investors and that has attracted some in today’s low-yield investing environment.

Master Limited Partnership Yields Today

Whereas investors are buying up bonds and keeping prices high, master limited partnerships (another traditional source of income and yield) have seen their prices fall significantly in line with the collapse in oil prices over the last two years.  Since MLPs are publicly traded, the price of these investments has fallen significantly as the world digests a glut of oil and investors appear to be tying MLPs to the fortunes of oil (though that link is debatable, as many industry experts have noted).  The depressed price of master limited partnerships has had the effect of potentially increasing yields for these investments relative to prices.

The usual caveats apply of course, not all MLPs are the same and distributions are not guaranteed.  That last point is critical, as some investors have mistakenly viewed master limited partnerships as equal to bonds in providing a fixed income through their distributions the way that bonds do through the coupon.  As we’ve noted, MLPs aren’t bonds and it’s important to understand that.  For more on this topic be sure to read Master Limited Partnerships are Not Bonds.

We won’t focus on today’s market, as this is an educational website aimed to improve your general understanding of master limited partnerships and how these firms operate, but we’ve seen a lot of market commentary recently about how MLP yields are standing out in today’s low-yield environment.   Hopefully you have a better understanding of yield now and yields of master limited partnerships.

 

tags: yield, master limited partnership yields, average MLP yield, what do MLPs yield, yield for master limited partnerships, prices, bonds and mlps, interest rates, master limited partnership prices

Master Limited Partnership Depreciation


Depreciation and MLPs

There are a number of characteristics that make master limited partnerships unique.  One such feature is depreciation.  Depreciation is an expense and it is an important expense because master limited partnerships own significant physical assets.  Those assets will depreciate and that has significant accounting consequences.

What is Depreciation?

We know depreciation in our daily lives as the decay or devaluing of a commodity.  For example, when you buy a new car, the moment you drive a new car off the lot that asset will start depreciating.  Why?  The car, as a physical asset that can deteriorate in quality and performance, will be worth less in the eyes of future buyers than what you valued the car when you bought it new.  A new car has more appeal to a car buyer than a used one, all else equal, and so the car’s value depreciates just by the mere fact it was previously owned and certainly depreciates as you drive it, adding wear and tear to the car’s interior and exterior, and worsening the engine and motor performance over time.

Master Limited Partnerships and Depreciation

In accounting, we view the depreciation of a company’s physical assets as an expense, and those expenses can be spread out over the time between when the asset was purchased and when it will have to be replaced. Let’s say you are the CFO of a master limited partnership.

You recently purchased a physical asset, let’s say an oil tanker, and you remember that the government makes an allowance for your company to spread a portion of the costs of oil tankers and other physical assets over multiple years.  If Generally Acceptable Accounting Principles (GAAP) and the Internal Revenue Service (IRS) allow, then you can determine how long that oil tanker will be useful before it needs to be replaced and apportion that cost to replace over the years between when you bought the tanker and when you expect to replace it.  In a simplified calculation, if the oil tanker cost you $100,000 to purchase it and you know it’ll have a useful life of 10 years, then you can claim a $10,000 depreciation expense for the 10 years from when you buy the item to when you are expected to replace it.

Why Depreciation Matters to Unit Holders

Midstream MLPYou might be thinking, “Interesting, but why is a nuance of accounting important to MLPs?”  I wouldn’t be digging into GAAP unless there was good reason and for master limited partnerships there is: MLPs are asset-intensive businesses.  When you’re building a pipeline or drilling for gas, you can expect to purchase a lot of equipment.  You can probably see where this is going; that’s a lot of equipment depreciating and that depreciation expense has a major effect of reducing the MLP’s net income (and reducing the MLP’s tax burden).  Because MLPs are so capital-intensive and because physical assets like pipelines have such a long useful life, the majority of MLP cash distributions to unit holders is tax-deferred.  Pipelines, for example, typically are useful for far longer than their rate of depreciation suggests and that creates a healthy tax benefit for the MLP.

Return of Capital

Unit holders of an MLP benefit from this reduction in taxable income thanks to “return of capital.”  A high percentage of the quarterly distributions to unit holders is treated by the IRS as return of capital, especially in the early years you own the units.   If, like most MLPs, a significant percentage of the unit holder’s distribution is reported to you by the MLP as return of capital, then you only have to pay federal taxes on the portion of the distribution that is not return of capital.  Say, you receive a distribution of $100 every quarter and after all the accounting is completed the MLP informs you that $70 of that distribution is return of capital, then you only pay taxes on that $30 since that is ordinary income.

Other Considerations

As we recently discussed, though, this tax benefit means filing a K-1 instead of the more standard 1099 filing.  The K-1 and the fancy accounting makes some people nervous because they are unfamiliar with the unique tax characteristics of master limited partnerships.  Hopefully this article helped shed some light on this topic, we’ll be covering more related issues involving master limited partnerships in future articles.  As always, be sure to consult your qualified tax or investment adviser on this topic and any others covered in this educational website.

 

 

tags: schedule K-1, Master Limited Partnership K-1, MLPs tax, mlps accounting, master limited partnership accounting, accounting master limited partnerships, how master limited partnerships are taxed, depreciation, what is depreciation, depreciation tax, return of capital

Master Limited Partnership Schedule K-1

MLP Tax Treatment

As we’ve discussed in previous posts, Master Limited Partnerships may offer investors benefits including tax efficiency.  Depreciation charges often mean that income generated by the MLP treated as a tax-free “return of capital” to the investor.  For investors that are used to earning dividends, MLPs offer distributions–as we explain in this article, distributions are not dividends.  When you are reporting your dividends, you simply fill out a short 1099 tax report.  For MLPs, however, we have the schedule K-1 filing which is longer and more complicated than the aforementioned 1099.

What is a Schedule K-1?

A Schedule K-1 filing is a form required by the IRS that informs the government of your share of income, deductions, credits, etc. from a partnership.  While it’s only a two-page document, it is more of a hassle for investors than, say, a simple filing of your dividends earned as a shareholder of a public company.

Here’s what a K-1 filing looks like, courtesy of Uncle Sam and the good folks at the Internal Revenue Service:

K-1 Part 1

K-1 Part 2

Avoiding the K-1

Of course, we are not suggesting tax avoidance here.  But there are ways to gain exposure to MLPs while avoiding the K-1.

  • Related Stock: There are certain master limited partnerships that have listed related stocks on the public exchanges so that investors don’t have to hold actual units of Enbridge Energy Partners, the master limited partnership.  Instead the investor can own shares of the related stock, Enbridge Energy Management, which has the MLP as its sole asset, essentially giving investors a chance to participate in the MLP without owning it directly and being subjected to the K-1.  As the company website explains, “Enbridge Energy Management is structured as an attractive alternative to direct investment in master limited partnerships for investors without the complications associated with Schedule K-1 tax reporting. Enbridge Management shareholders receive quarterly distributions in the form of additional shares, also known as Paid-In-Kind (PIK) distributions.”  (Note: as always, this is not a recommendation or opinion on the company, simply an example for explanatory purposes.)
  • Master Limited Partnership ETFs: As we’ve noted in previous articles, exchange-traded funds and exchange-traded notes provide investors a vehicle by which they can track the performance of master limited partnerships.
  • Master Limited Partnership Mutual Funds: Investors may avoid the K-1 by investing through a mutual fund, depending on the structure of the fund, and also have the benefit of an actively managed portfolio instead of buying the index or individually selecting stocks.

So, investors do have options when it comes to avoiding the K-1 but many MLP investors feel the benefits of owning master limited partnership units outweigh the inconvenience of a Schedule K-1 filing.  But is it that painful?

Navigating the K-1

Investors often dread the K-1 and we have heard multiple investment advisers concede that it’s an annoyance of the structure, but K-1 filings mostly just come down to timing and understanding this more rare form of tax reporting.  Indeed, some of the frustration lies not with error by the unitholder but rather poor communication or inconsistent reporting by the partnerships.  For the individual, there are many helpful guides out there and most tax preparers should be familiar with the filing and able to easily navigate the form.  TurboTax even has a guide to getting your K-1 submitted.

Many investors who are advocates of investing in master limited partnership tend to view the K-1 as a somewhat inconvenient but otherwise minor price to pay for the benefit of higher distributions in your portfolio. Hopefully this overview has taken away a little of the mystique and concern over the K-1 filing.  Be sure to speak with your financial advisor or tax professional for qualified advice on your personal tax situation.

 

tags: schedule K-1, what is a schedule K-1 filing, what is a k-1 filing, K-1 Filing, MLP K-1, Master Limited Partnership K-1, K1 filing, filling out a K1, Schedule K1 Master Limited Partnership, Master Limited Partnerships K1, taxes

Timber Master Limited Partnerships

Timber Master Limited Partnerships

logs-690888_960_720Master limited partnerships are most closely associated with fossil fuels like gas, oil, and less frequently coal.  But those aren’t the only natural resources in which master limited partnerships invest.  A resource that at least one MLP is focused on is timber.   Few master limited partnerships though are dedicated exclusively to timber because it is quite niche; instead, timber may be one asset carved out of a broader MLP mandate that includes other natural resources.

Why Timber?

Compared to more typical energy assets like oil, natural gas, and minerals, timber might seem like an unusual investment.  Timber is an essential resource that is used for fuel, tools, flooring, furniture, softwoods, and pulp for paper.  Even in the Digital Age, timber continues to be a resource of high demand especially as major importers like China have an increasing need for timber and materials derived from timber.

Timber as an Investment

Timber is perhaps most defined as an investment by its steady, long-term growth, as a tree matures.  ETF.com explains, “A tree’s wood volume tends to increase 2% to 8% annually (varying by climate, species, and age). Compounding the effect of this biological growth, trees yield price gains when they grow into bigger product classes. For instance, a small tree that is only suitable for paper products may eventually grow into sawtimber, where it can fetch dramatically higher prices per ton and be used for products such as plywood or telephone poles.”  Depending on how the tree can be used, the value of the wood can increase and the investor can fetch greater returns over time investing in timber.

While surely some individual investors directly own timberland as part of their portfolio, more common ways to invest in the asset class indirectly include: by owning share(s) of a timber-related company, through a stake in a timber-related fund, one of a few timber ETFs out there like iShares Global Timber & Forestry ETF, or through a master limited partnership that operates timber or forest lands.

One timber master limited partnership, Olympic Resource Management, explains the asset class and why it invests in timber thusly, “The timber asset class is gaining increasing acceptance among professional portfolio managers throughout the world. In 2008, over 3.4 million acres valued at nearly $5.2 billion changed hands in the U.S. alone. Investor interests outside the traditional forest products industry acquired more than half of this total. Investment managers see ownership of timberland as a way to reduce overall portfolio risk and hedge against inflation while ensuring strong financial performance.” (Source)  (Please note, this is in no way an endorsement or recommendation of Olympic Resource Management, it was simply an MLP we landed on in our research for this article.)

Will we see more timber master limited partnerships?  Right now, timber makes up a fraction of the master limited partnership industry and given the limited supply of timber, it seems unlikely that this asset will suddenly emerge as a major MLP asset.

tags: timber master limited partnership, master limited partnership timber, forest master limited partnership, master limited partnerships timberland, master limited partnerships investing in timber, trees

Earnings Season

Whenever possible we like to get the thoughts of veteran MLP investor and founder of DeWitt Capital, David DeWitt.  As we enter earnings season, it’s a good time to catch up with David on his thoughts at this time:

“MLP earnings season has been very positive for the vast majority of companies. Volumes across many pipeline systems held up better than many observers expected. The rig count has increased for 7 straight weeks as producers are starting to drill again. Many of these rigs have been placed in the Permian Basin in Texas, as it’s very profitable in this basin for many producers at the current oil prices. The MLPs that operate in the Permian also fared well during earnings calls. On the natural gas side, the Marcellus and Utica shales also showed strong volume growth for several of the companies we are invested in. The recovery in natural gas liquids (NGLs) prices was discussed by many MLP management teams and they believe NGL pipelines will see strong volume growth and increased earnings over the next several years. Much of the NGL recovery will be driven by increased ethane pricing due to numerous petrochemical facilities coming on-line that will significantly increase demand for ethane.

Another notable development is that several MLPs have entered into joint ventures on major pipeline projects. This helps fund other projects and also improve the balance sheet, which the market has viewed as favorable. Another benefit of joint ventures is that it helps prevent overbuild in certain shale plays as other projects are cancelled. The largest deal occurred when Sunoco Logistics and Energy Transfer sold a 36.75% stake in their Bakken pipeline for $2B. This move repaired balance sheets and a competing pipeline was cancelled as a result of the deal. All in all, we view this earnings season as very positive.”

Please note that the preceding commentary is offered only as an update on the master limited partnership industry and should not be misinterpreted as any recommendations, advice, or endorsement.

 

tags: earnings master limited partnerships, master limited partnership earnings, master limited partnership earnings season, profits, public master limited partnerships, MLPs earnings, forecasts

Master Limited Partnerships Owning Pipelines

Do Master Limited Partnerships Pay Dividends?

One of the assets most closely associated with master limited partnerships is the pipeline.  MLPs own and operate many transportation-related assets but the MLP space pumps billions of dollars into pipeline construction and management.

Why Pipelines?

MLP SliderPipelines are a perfect fit for the master limited partnership model but in order to understand why, it’s first important to understand minimum volume commitments.  Many of these pipeline operators negotiate agreements with downstream producers that include a minimum volume commitment.  That minimum volume commitment clause in the contract is intended to protect the pipeline owner from having producers completely cease shipping oil or gas through the pipelines.

Why Minimum Volume Matters

In a time of low oil and gas prices like we’re seeing today, a producer may be tempted to stop producing or to at least curb its shipments.  Without the minimum volume agreement a pipeline could see its business dry up overnight and have no recourse to force the producer to continue shipping through the pipeline.  There have been some concerns by investors that oil and gas producers, which have been so distressed as a result of recent price declines, are going to successfully terminate their contracts and avoid having to fulfill the minimum volume requirements.  Much of this worry has been spurred by a legal case involving the bankruptcy of Sabine Oil & Gas Corp.

Because pipelines typically charge producers under a toll-like model, charging for use of the pipeline based on volume, a drop in volume could mean millions of dollars in lost revenue for the pipeline operator. It is incredibly expensive to construct and maintain a pipeline and it’s a safe assumption that fewer would be built if it weren’t for the expectation that these are steady businesses with minimum volume agreements and thus assurances that the pipeline will have a steady flow of fuel being transported.  Investors (such as MLPs) need to know that their major investment in building the pipeline will be paid back over time by customers shipping extracted oil and gas to refineries and end users.

The MLP Model

For MLPs it is even more vital to their model that pipelines earn a steady flow of revenues and that business isn’t interrupted by frequent swings in the commodity prices in the same way that producers may be impacted.  That’s because master limited partnership unitholders are often expecting regular distributions from the MLP.  Many MLP investors are looking to master limited partnerships to add regular income to their portfolios and the MLPs can only do so if their assets are producing steady cash flows.

As you can see pipelines make a lot of sense for the master limited partnership model and that cash flow stream helps explain why so many MLPs have been formed and why they have been so critical to the development of oil and gas pipelines in the last several years.

 

tags: master limited partnership oil pipeline, MLP pipeline, master limited partnership pipelines, master limited partnership gas pipeline, natural gas pipeline, pipeline investments, pipeline development, oil and gas

Natural Gas and Master Limited Partnerships

To add to the education we’ve shared this week, we wanted to turn to veteran MLP investor and founder of DeWitt Capital, David DeWitt for his commentary on the industry.

Can Natural Gas Help Us Stay Cool This Summer?

DeWitt Capital focuses on MLPs that benefit from the increased production and use of natural gas (methane). This weekend over 200 million Americans will experience temperatures over 90 degrees.  This means electrical generatation will have to rise to meet the need for air conditioning.  Natural gas is the one fuel that represents a path forward that is both readily available and reduces carbon emissions versus the other readily available resource, coal.

Exports to Mexico

Exports of natural gas to Mexico is are growing quickly, tripling  over the last three years with expectations of doubling over the next two years.  Liquefied natural gas is beginning to ramp up as import facilities have been converted  to export facilities!

Are MLPs Beginning to Trade Separately from Oil?

Although MLP stocks prices have largely traded in line with oil over the last twenty four months, that correlation is beginning to break down. We have noticed lately that MLP prices are starting to chart their own path. Natural  gas and natural gas liquids (ethane and propane) are seeing a resurgence in both demand and pricing.  DeWitt continually researches the energy infrastructure universe to discover those companies that benefit from these trends. We believe that eventually the market will reward the increasing cash flow generated by these companies while investors enjoy the ample distributions they provide.

Hopefully this content from David DeWitt helped you understand what’s going on in the MLP space better and how the market is shifting.  We’ll continue to share educational articles here at MasterLimitedPartnerships.com

tags: master limited partnerships, master limited partnership stocks, master limited partnership pricing, MLP distributions, MLP natural gas, gas

Master Limited Partnership Dividends

Do Master Limited Partnerships Pay Dividends?

The short answer is: no, master limited partnerships do not pay out dividends.  Master limited partnerships make cash distributions to their unitholders.   These distributions are often made on a quarterly basis–though as we discussed in the comparison between MLPs and bonds, this is not a guaranteed schedule. Many investors mistakenly consider the quarterly cash distributions from their MLPs to be dividends but it is an important distinction between distributions and dividends given the tax implications.

Master Limited Partnerships Distribution Tax Implications

As a pass-through entity, a master limited partnership has a unique tax advantage in that as a limited partnership, there is no tax at the company level.  Dividends are taxed twice: once at the company level when the company issuing the dividends pays taxes on earnigs.  Then, again, at the investor level when the shareholder receives the dividend payment.  This double-taxation is not ideal for investors, of course, and it is part of the motivation driving investors to buy units in MLPs and only have to pay taxes at the investor level on distributions.

K-1 Filings and Tax Deferral 

The trade-off is that investors receiving these distributions must then complete a K-1 tax filing showing their ownership in the MLP and the taxes that must be paid by the unitholder, according to his/her own individual tax rate.  Most of the payments received by investors are tax deferred and the taxable income will be shown in the aforementioned K-1 filings distributed by the MLP to its unitholders.  We explain the tax planning benefits of MLPs in another article here.

Distributable Cash Flow 

MLPs also calculate these payments differently than dividends.  A unitholder is paid according to distributable cash flow, which adds back depreciation.  This means that unlike a dividend, the distribution per unit can be more than the net income.

So, while distributions and dividends share similar traits, it is important to remember the difference between these payments and that master limited partnerships pay out distributions, not dividends.

 

tags: master limited partnership tax, master limited partnerships taxation, master limited partnership dividends, master limited partnership distributions, calculating MLP distributions, do MLPs pay dividends

Looking at the Future of MLPs

The Future of MLP Investing

Ethane and natural gas more broadly look to be the future of master limited partnerships, as coal and (to a lesser extent) oil decline in use and demand for gas continues to increase domestically here in the U.S. and from other countries.

As longtime-MLP investor David DeWitt noted in his recent presentation at the Deal Flow Summit, the future of master limited partnerships is not in oil (and especially not in coal), but rather in natural gas.  Regulations, environmental concerns, and cheaper, cleaner alternatives have severely hampered coal production here in the U.S.  This means coal will likely continue to decline as an area of investment for MLPs, as most MLPs have nothing to do with coal production or transportation.

Oil is a more complicated story as technological innovations have helped expand the discoverable oil reserves and there is still worldwide demand for oil.  We aren’t in the business of forecasting the future of oil–many prognosticators have gone down in flames predicting the price of oil.  What we will say is that natural gas is quickly emerging as a major source of growth in the U.S. energy market and master limited partnerships are well-positioned to invest capital to support the necessary infrastructure to support natural gas production, transportation and shipping.

We asked David DeWitt, a veteran of the MLP space, for his opinion on the future of master limited partnerships:

I believe the future of the growth in nonrenewable energy in a world of reducing carbon emissions points to the use of natural gas in order to replace coal and oil. Also, exports of natural gas to Mexico and on LNG ships will likely continue to increase. In addition, propane exports will continue to increase and ethane consumption will skyrocket with the construction and deployment of ethane crackers to produce polyethylene, the building block of plastics.

Natural gas and its associated products such as propane and ethane will continue to grow in our estimation, creating the need for further infrastructure investment to support the production and exportation of these fuels.  In future posts, we’ll look at the possible impact of renewables on the master limited partnership space and what role MLPs will have in the development of clean energy and renewable resources.

 

tags: master limited partnership, master limited partnerships, future of master limited partnerships, oil, coal, natural gas, LNG exports, liquified natural gas, renewables

Master Limited Partnership Volatility

Investors have recently been riding a wave of market volatility driven by global economic instability, interest rate decisions by the Federal Reserve, the dramatic fall in commodity prices (especially oil), and slowing growth in China.  While not at the level we saw in 2008 when the Volatility Index (VIX) peaked, volatility is certainly playing a part in how today’s investors approach portfolio management and investment strategy.  Volatility has even bled into master limited partnerships, which have historically been one of the more stable asset classes.

Master Limited Partnership Volatility

Master limited partnerships historically have relatively low beta and are not usually subject to major price swings.  As you can see in the chart from Salient’s 2014 MLP Primer*, master limited partnerships had a lower beta from 2006-2013 than indexes of comparable investments, such as high yield bonds, REITs, and the S&P 500.

Salient Beta

That data even includes 2008, one of the most volatile periods for the U.S. stock market and a time when the MLP sector fell along with most asset classes.  Importantly, though, that beta average does not include recent turmoil in the MLPs caused by the oil price shock of 2014-15.  For commodity traders used to daily swings in the price of oil or natural gas, those 18 months were surely no picnic but a bit of price volatility is expected in the energy markets.  The volatility in the MLP space in the last year or more, however, was almost certainly more surprising to investors in master limited partnerships.

Historical Price Volatility

Historically, master limited partnerships have not been especially volatile and there have not been major price swings with the significant exception of late 2008 and the massive decline from August 2014 to February 2016.  You can see the steady climb from the Alerian Index (^AMZ)** below:

AMZ Volatility

Recent MLP Volatility

Even though the price of the Alerian and individual MLPs have seemed to recover in recent weeks, there are daily changes in prices that have been a cause of stress for some investors.  A good example of recent volatility was a week in March seen in the chart below***, particularly the 25th and 26th where you see dramatic intraday price changes in the MLP index.

AMZ Volatility May 26

As we have hopefully shown in the beginning of this article, the recent volatility is unusual in the MLP space but it continues to occur even as prices rise.  We will see whether the recovery that many MLP investors are hoping for comes to fruition and if so what level of volatility will accompany that upward price movement.

 

 

* Salient Partners, MLP Primer, http://www.salientpartners.com/wp-content/uploads/whitepaper-mlp-primer-2014.pdf

** Yahoo! Finance, Accessed 6/21/2016, http://finance.yahoo.com/echarts?s=%5EAMZ+Interactive#{“range”:”max”,”allowChartStacking”:true}

*** Yahoo! Finance, Accessed 6/21/2016, http://finance.yahoo.com/echarts?s=%5EAMZ+Interactive#{“customRangeStart”:1463889600,”customRangeEnd”:1464494400,”range”:”custom”,”allowChartStacking”:true}

tags: master limited partnership, master limited partnerships, master limited partnership volatility, volatility in master limited partnerships, MLP volatility, price moves MLPs, MLP beta

Master Limited Partnership Interview

Exclusive Interview: MLP Investor Explains Master Limited Partnerships

Master Limited PartnershipsWe wanted to share an exclusive interview we did with David DeWitt, President and Founder of DeWitt Capital Management.  David has spent more than two decades investing in master limited partnerships and has accumulated a wealth of knowledge in this space.

For this interview, we picked David’s brain on a range of subjects from how MLPs first started, to what he and his team look for in an MLP investment, to how he tracks the market for events and trading opportunities.  If you’ve ever wanted to learn about master limited partnerships, this is a great introduction to the industry from someone who knows it very well.

For more interviews, visit our Expert Interviews Library.

 

tags: master limited partnership interviews, master limited partnerships explained, what is a master limited partnership, history of MLPs

Master Limited Partnership Interview

Exclusive Interview: DeWitt Capital Founder Talks MLP Investing

Master Limited PartnershipsWe wanted to share an exclusive interview we did with David DeWitt, President and Founder of DeWitt Capital Management.  David has spent more than two decades investing in master limited partnerships and has accumulated a wealth of knowledge in this space.

For this interview, we picked David’s brain on a range of subjects from how MLPs first started, to what he and his team look for in an MLP investment, to how he tracks the market for events and trading opportunities.  If you’ve ever wanted to learn about master limited partnerships, this is a great introduction to the industry from someone who knows it very well.

For more interviews, visit our Expert Interviews Library.

 

tags: master limited partnership, master limited partnerships interview, investing in MLPs, how to invest in MLPs, buying master limited partnerships, master limited partnerships david dewitt, history of MLPs

Master Limited Partnerships are Not Bonds

Master limited partnerships are sometimes confused with bonds and many people use bonds as a comparison to master limited partnerships.  There is a similarity, in that master limited partnerships aim to deliver consistent distributions of income to unit holders.  However, as I’ll discuss in this article, master limited partnerships are not bonds and should not be considered as such.

Why are MLPs Not Bonds?

One of the most defining characteristics of a bond is the guaranteed interest rate to the bondholder. A bond, as you likely know, is a debt investment where the borrower typically agrees to a fixed interest rate along a set schedule.  Although there are variable rate bonds, when investors use bonds as a comparison, they typically are referring to that fixed rate coupon.  Master limited partnerships do strive to produce steady income distributions but the fact that master limited partnerships can and often do raise their distributions over time is very unlike a bond.

Similarly, master limited partnerships may cut their distributions in distressed situations when they need to conserve cash or where their business has been negatively affected, such as you are seeing today with the recent decline in oil and the pull back from many producers–a key client for MLPs.  Many investors learned in the 2014 to 2016 decline in the price of oil that if you’re thinking of master limited partnerships as a bond you’re thinking of steady distributions that don’t change and never go down. Unfortunately for investors, there were a number of MLPs where the distributions went down. They went down with the gathering of processors that take the oil out of the ground and sell it, those distributions went from whatever they were to nothing. The ones that aren’t gathering and processing in areas where the volumes declined, some of them cut their distributions and some of them did not and some of them raised their distributions. So you have to be aware of the financial strength of the company and the geographic region in which they work because that is going to determine whether or not they are going to be able to pay what they’re paying or at risk to have their distributions be cut.

As you have seen, the frequency and consistency of distributions makes bonds and master limited partnerships an imperfect comparison.

 

tags: master limited partnership, master limited partnerships, master limited partnership bond, bonds MLPs, is a master limited partnership a bond, mlp debt, difference between a master limited partnership and a bond

Upstream Master Limited Partnerships

Oil_wellBefore a gallon of gasoline is pumped into your car or a cubic feet of natural gas is piped into your home heating system, there is a complex series of events that must first occur.  This supply chain from extraction to sale to the final end user is broken up into three distinct segments: upstream, midstream, and downstream.

Upstream is the segment that attracts a lot of media and investor attention, especially lately with the rise of unconventional drilling techniques minting billionaires like Harold Ham and Farris Wilks and drawing scorn from politicians and even presidential candidates like Bernie Sanders.  In this post, we’ll discuss the upstream segment, from exploration to production to refining.

Upstream Explained

The first phase of the energy supply chain is the upstream phase, which includes the exploration, extraction and production processes.

Exploration

Producers first commence with the exploration work, identifying oil, gas, or other energy deposits.  Today, exploration efforts are highly scientific, engineers, geologists, and technical specialists pour over maps and survey results to find the most fertile deposits that will deliver the highest volume and/or highest quality energy.

Extraction

Once the targets are identified, extraction phase commences wherein the producer will set about digging into the ground and extracting the energy source.  It is worth noting that the extraction processes have radically changed in the last few years, as more and more producers have adopted non-conventional drilling techniques including horizontal drilling and hydraulic fracturing.

Unconventional Drilling Methods Defined

  • Hydraulic fracturing (fracking) is a drilling technique in which the producer injects a mostly liquid substance at a high pressure into the ground to stimulate wells, fracture shale rocks, and ultimately free up trapped natural gas for extraction.
  • Horizontal drilling is a method of drilling in which an oil or gas well is turned horizontally underground in order to extract energy beyond what is capable only from vertical drilling.

These unconventional techniques, along with new energy discoveries and technological advancements, have unleashed vastly more domestic energy supply than was ever thought possible and spurred on the domestic energy revival that is taking place today.

Processing and Refining

After the energy is discovered and extracted then the energy must be processed and refined for more useful consumption.  Oil and gas have thousands of different uses and must be refined in the processing phase so that it is consumable by end users. For example, a barrel of crude oil is not a good fuel for cars until it is refined and processed into gasoline.

Upstream Master Limited Partnerships

Most MLPs are focused on the midstream segment, which includes the transportation, storage, and shipping of energy, but there are some upstream master limited partnerships.  Range Resources Co., for example, is a publicly-traded master limited partnership that is dedicated to extracting and producing petroleum and natural gas.

While there are no guarantees as to how any MLP will perform, some investors view upstream investments as involving a greater degree of volatility than midstream investments because the former’s revenues are linked closely to energy prices while the latter may afford investors more stability in revenues because transportation and storage contracts are often structured based on volume rather than price.  At the same time, investors in the upstream segment are typically looking for big discoveries or great extraction projects to compensate for the volatility and risk involved in this phase.

Because master limited partnerships are structured to make regular cash distributions to investors, most MLPs are concentrated in the midstream where transportation and shipping may be more stable and predictable with long-term contracts.

For information on the midstream segment, see this related article: http://MasterLimitedPartnerships.com/midstream-master-limited-partnerships/

 

tags: master limited partnerships, upstream master limited partnerships, upstream MLPs, upstream oil and gas, exploration, extraction, production, processing, transportation, shipping, MLP investors

Infrastructure Master Limited Partnership

America has enjoyed an amazing revolution in oil and gas production, thanks largely to the technological advancements in hydraulic fracturing and horizontal drilling.  Once thought to be decades past Peak Oil, domestic energy production has grown remarkably in recent years, even outpacing Russia and nearly doubling Saudi Arabia’s production in 2014.  Master limited partnerships are uniquely positioned to invest in infrastructure and drive the development of the necessary ports, pipelines, transportation assets, and other key infrastructure investments needed to support a burgeoning domestic oil and gas industry.

MLP Production 2008-2014

The Need to Build Energy Infrastructure

Despite the historic decline in energy prices in 2015-2016, there is still a tremendous need for infrastructure investment to support America’s energy industry.  Master Limited Partnerships (MLPs), have been an important vehicle for capital investment in America’s energy infrastructure and there is good reason to expect MLPs to play a big role in that infrastructure expansion in years to come, as well.  For the uninitiated, Master Limited Partnerships are tax-exempt publicly-traded limited partnerships that own storage tanks, pipelines, and other infrastructure-related holdings.  Most master limited partnerships seek to own income-generating assets, generating cash flow that is largely passed on to the investors in the form of distributions.

The expansion of our national energy supply is critical not only to economic development but also our national security.  Our dependence on foreign governments for energy supply poses a significant threat to our national security, according to many informed voices such as Former CIA Director R. James Woolsey, who told Scientific American that America’s foreign oil dependence is a grave threat to our national security. (1)  In order to continue on this country’s path to energy independence, the federal government’s Quadrennial Energy Review recommended that America invest billions into its energy infrastructure. (2) Master limited partnerships are a uniquely well-suited vehicle for infrastructure investment as we will discuss below.

Why Master Limited Partnerships Invest in Infrastructure

The majority of master limited partnerships today are concentrated in oil and gas assets in the midstream and downstream segment of the market, primarily transportation, pipelines and infrastructure.  Master limited partnerships are focused primarily on hard assets and natural resources because of the laws Congress passed decades ago stipulating the various commodities and assets from which MLPs must derive the majority of their income.

But beyond the legal and tax reasons for focusing on energy, the master limited partnership model is a great fit for midstream oil and gas segment because these are mostly income-producing assets.  Master limited partnerships invest in these so-called “toll road” businesses because they provide the type of regular, steady cash flow that MLP investors expect in their quarterly distributions.

Future Infrastructure Investments

Renewable energy infrastructure might be another opportunity for master limited partnerships to serve as the vehicle for infrastructure investments.  There have been bills introduced into the Senate to extend the definition of master limited partnerships to include renewables, most recently the Master Limited Partnerships Parity Act introduced by Senator Chris Coons.  The latest action on this bill was in 2015 when it was read twice and referred to the Senate’s Committee on Finance.  We’ll have to see how that bill proceeds and whether the door is opened to master limited partnerships investing in renewables and alternatives to traditional energy sources.

Regardless of whether the bill becomes law, there are still a number of infrastructure projects that need funding.  Many people think energy infrastructure is mostly oil transportation and shipping but natural gas is a major part of our nation’s energy story, especially with the aforementioned advances in drilling and extraction.  There are still significant capital needs to develop our import and export infrastructure to support energy markets.

 

tags: energy infrastructure, infrastructure master limited partnerships, infrastructure investing, infrastructure MLPs, investing in infrastructure, master limited partnership renewables, gas infrastructure, LNG, export infrastructure, import infrastructure

Master Limited Partnership Fund

If you were looking at the charts and metrics we’ve provided in previous posts and thinking, it would be easier to just outsource the selection and management of an MLP portfolio to an experienced stock picker, much like you would a pooled equity fund, then an MLP fund might make more sense to you.  A Master Limited Partnership fund is a pooled investment vehicle that allows investors to spread their capital across multiple master limited partnerships, instead of investing directly into individual MLPs.

Master Limited Partnership Funds

We went over ETFs in a previous post which are more passive vehicles compared to the actively-traded MLP funds in this post.  These actively-managed funds are run by a portfolio management team that selects a number of MLPs to invest fund assets in.  The fund may be structured as a mutual fund, long-only fund, through a separately-managed account at an investment adviser, and even some hedge funds have started investing in MLPs.  There are relatively few master limited partnership funds out there, with open-end funds being a relatively new creation stemming from the expansion of the asset class in recent decades.

Fund Management Team

The fund management, comprised of the portfolio manager and research team, actively manages the fund to identify undervalued MLPs, assess portfolio risk, review available research as well as conduct internal research on specific MLPs and their underlying assets, and make investments for the benefit of the limited partners in the fund.  There are a number of smaller MLP funds or specialists that employ just a couple people on staff–a portfolio manager, operations manager, and an investor relations director perhaps.  Other funds, typically backed by a large institution, may employ a dozen or more professionals and dedicate more resources to covering all the MLPs and serving a larger pool of investors.

Within the broader master limited partnership sector, there are many sub-sectors (upstream, transportation, timber, etc.) and different market capitalizations.  Many MLP funds will seek to spread the portfolio across multiple sub-sectors and potentially different sizes; other MLP funds may have a specific mandate to invest only in, say, small-cap infrastructure MLPs.

Fees

Of course, for the service of actively managing your capital, the fund will charge investors a fee.  These fees may vary by share class, too, as the fund may provide anchor investors who commit large pools of capital with superior terms to reward their commitment and attract these larger investors.  Fees may include: sales charges; annual fund operating expenses; management fees; distribution and service fees; miscellaneous expenses; deferred income tax expenses; interest expenses from borrowings; and other fees depending on how the fund is structured.  While hedge funds focused on MLPs are relatively rare, the fees that hedge funds usually command are more expensive than the typical MLP fund with an annual management fee and a high portion of the profits (20% or more) going to the fund manager.  Most mutual funds or other MLP funds, however, are less than 10% and some investment vehicles like SMAs can charge considerably lower fees to investors.

 

tags: master limited partnerships, master limited partnership funds, master limited partnership fund structure, what is a master limited partnership fund, MLP fund, guide to MLP funds, MLP funds, definition master limited partnership fund

 

Master Limited Partnerships Commodity Price Sensitivity

One concern that investors in Master Limited Partnerships may have is that because Master Limited Partnerships are often acquiring assets linked to commodities then MLPs will have tremendous pricing exposure.  For example, in 2015, oil prices fell below $30 as part of a negative price swing that hit the oil industry recently.  Master limited partnerships were certainly affected at least in part by this oil price decline, as you can see by the Alerian’s decline in 2015:

Alerian 3-Year Index

During the same timeframe, you can see that crude oil prices have declined dramatically from more than $100 in 2014 to below $50 in 2016:

WTI 3-Year Index

While two charts does not a trend make, the decline in the price of oil has certainly had an impact on the industry and its investors, including MLPs.  The U.S. oil & gas industry has been dealing with a glut of supply, partly created by the domestic production boom and partly from the unwillingness of OPEC members to curb production.  This oversupply has pushed down commodity prices, to the point that some producers here in the U.S. are having to scale back production or even falling into bankruptcy.  While recent reports have suggested we may be near the bottom, it wasn’t soon enough to spare many investors.

The majority of master limited partnerships are in the midstream segment of the energy market, investing in infrastructure, transportation, and storage.  While there is some pricing exposure, especially during such a sustained down period like we’ve seen recently, pipelines and other midstream businesses are considered less tied to the daily swings in commodity prices compared to upstream energy investments which are closely connected to the price of the commodity being extracted and what they can fetch on the market for their product.  Many pipeline and storage companies earn their revenue through contracts based on volume as opposed to price, offering some degree of protection from a sharp dip in the price of oil or gas.  Midstream businesses like pipeline operators are often likened to toll-road operators, charging producers to transport their oil, gas and other commodities.

Over a more sustained period, the losses incurred by upstream producers will tend to impact the midstream segment as volume will likely dip (as it has in 2015) when producers decide to scale back when prices make production unprofitable or less profitable than initially expected.  It’s hard to clearly show what is influencing investor sentiment toward MLPs and how sensitive MLP performance is to oil and gas prices and other commodoities.  But the relationship certainly isn’t as clear as the price of a barrel of oil fell, so master limited partnerships must have, too.

tags: master limited partnerships, mlps, master limited partnerships commodities, commodity price master limited partnerships, commodity prices MLPs, price of oil MLPs, price of oil master limited partnerships

Midstream Master Limited Partnerships

Defining Midstream Master Limited Partnerships

When we’re discussing master limited partnerships with people, especially those who aren’t working in the MLP space, it can be easy to lose sight of the distinctions between different MLPs.  One major distinguishing factor is what the MLP owns.  For example, some MLPs are focused in the extraction and production of fossil fuels (upstream), others are involved in transportation and infrastructure (midstream), while still others are acquiring assets in different products, asset types, etc.

Today we wanted to focus on the aforementioned midstream segment of the energy market.  Midstream master limited partnerships are focused largely on infrastructure supporting energy like oil & gas and other commodities.  The master limited partnership structure is thought to be a good fit for the midstream segment of the energy market because pipelines and transportation assets typically generate income through contracts that at fixed rates with minimum volume commitments from counter-parties.   Given that investors are often attracted to MLPs for the emphasis on regular income distributions, these consistent fixed-rate contracts for pipeline transportation or marine shipping are a natural fit.

Here is a breakdown of some of the common areas of investment for midstream master limited partnerships:

  • Pipelines
    • Natural Gas
    • Crude Oil
    • Refined Products
    • Storage
  • Shipping
    • Dry Bulk
    • Marine
    • Transportation
    • Global Exposure
    • Refined Products

 

Tags: midstream mlps, midstream investments, midstream energy, midstream master limited partnerships, master limited partnership, master limited partnerships focused on midstream, midstream energy

Master Limited Partnership Primer

 

Master Limited Partnerships

An Educational Primer on Master Limited Partnerships (MLPs)

 
MLP Slider

 

Produced By: 

MLP

 

Master Limited Partnership Primer

The purpose of this educational white paper is to provide the reader with a basic understanding of the master limited partnership, or MLP, and the different ways by which investors buy and sell MLPs.

What is a Master Limited Partnership?

A Master Limited Partnership is a publicly-traded limited partnership that derives most of its income from commodities, real estate, and energy.  Especially in recent years, master limited partnerships are most commonly associated with energy because the high majority of MLPs invest in natural resource-related assets, especially oil and gas infrastructure.  This is in contrast to Real Estate Investment Trusts (REITs), which are the preferred publicly-traded vehicle for real estate investments and MLPs are primarily focused on energy and commodities.

The two most important features of the master limited partnership structure are tax efficiency and liquidity.  As a pass-through entity, master limited partnerships are not taxed at the entity level; only the MLP’s unitholders are taxed on distributions.  Master limited partnerships are necessarily publicly-traded, meaning that investors can buy and sell units in MLPs on the major exchanges.  This public-market component is key, as it allows investors to gain the tax benefits of the master limited partnership structure without sacrificing the ability to trade shares on the public markets.

A Master Limited Partnership (MLP) is a publicly traded limited partnership that derives more than 90% of its cash flows from qualifying sources such as natural resources, real estate, and commodities.  Master limited partnerships often generate income from energy-related sources, such as oil & gas storage and transportation.  For investors, the benefits to investing through an MLP structure are the liquidity of a publicly-traded security and the tax benefit of being able to pass through income and avoid taxes at the entity level.

Key Features of MLPs

Income: MLP owners receive cash distributions — usually paid quarterly — from the business operations of the partnership. The cash distributions have increased over time at around 6% per year and the annual yield has averaged 6.9% since 2005.

Performance: Although the energy sector has been hit hard as of late, MLPs have outperformed the S&P 500 every year from 2000-2011. MLPs can combine capital appreciation potential with steady yield to deliver high total returns.

Energy Sector Experience: The U.S. is experiencing a dramatic boom in domestic oil and natural gas production due to advancements in drilling technology. MLPs are uniquely positioned to take advantage of the boom with minimal commodity price exposure. Midstream MLPs generate revenues based on volumes transported, not the price of the commodity.

Tax Advantages: Importantly, MLPs do not pay corporate tax and the income they pay out is tax-deferred due to pipeline and infrastructure depreciation costs.

Liquidity: MLPs are publicly traded on the NYSE and the NASDAQ. MLPs combine the tax advantages of a partnership with the liquidity of publicly traded securities.

Estate Planning: If MLPs are left to an heir, the deferred tax bill is eliminated. The heir receives the MLPs at a new cost basis based on the market value of the units when they are passed on.

Summary

Master Limited Partnerships (MLPs) are limited partnerships that are publicly traded on a securities exchange. They combine the tax benefits of a partnership (pay no corporate taxes) with the liquidity of publicly traded securities. The modern day MLP got its start in 1986-87 when Congress passed the Tax Reform Act of 1986 and the Revenue Act of 1987. The new laws stated that to qualify as a Master Limited Partnership, an entity had to earn at least 90% of its income from qualified sources.

History of the Master Limited Partnership

The first master limited partnership was formed in 1981, when the Apache Petroleum Corporation debuted an MLP.  This would mark the beginning of a vehicle that would rise in prominence over the subsequent decades all the way until today, where the master limited partnership is a widely-known, albeit sparingly used limited partnership structure.

Apache Leads to Way

In the beginning, most MLPs were formed to invest in and develop oil and gas assets.  However, the structure has since been adopted by other asset types, from casinos to real estate.  After the success of Apache’s MLP, other companies decided to form master limited partnerships for the tax advantages.

Limit to Sectors

Eventually, the U.S. government grew concerned that it was losing corporate tax revenue and Congress passed a law in 1987 that limited the MLP structure to only a few sectors.  Specifically, the U.S. government opened the door for master limited partnerships as they exist today with 7704(d)(1)(E) of the US tax code.  This revision of the tax code set clear requirements for qualifying sources of income.  The relevant text reads:

(d)Qualifying income For purposes of this section—

(1) In general Except as otherwise provided in this subsection, the term “qualifying income” means—

(A)

interest,

(B)

dividends,

(C)

real property rents,

(D)

gain from the sale or other disposition of real property (including property described in section 1221(a)(1)),

(E)

income and gains derived from the exploration, development, mining or production, processing, refining, transportation (including pipelines transporting gas, oil, or products thereof), or the marketing of any mineral or natural resource (including fertilizer, geothermal energy, and timber), industrial source carbon dioxide, or the transportation or storage of any fuel described in subsection (b), (c), (d), or (e) of section 6426, or any alcohol fuel defined in section 6426(b)(4)(A) or any biodiesel fuel as defined in section 40A(d)(1),

Essentially, Section 7704(d)(1)(E) specifies that qualifying income for master limited partnerships must mostly be derived from the extraction, processing or transportation of non-renewable energy sources, real estate income, or investment income.  Since the regulatory changes of the late 1980s, fewer and fewer MLPs have been real estate focused, in favor of REITs—the publicly-traded real estate investment vehicle.  Today’s MLPs are largely energy focused, allowing investors to supply capital to create much of the energy infrastructure (pipelines, storage, transportation, etc.) that has fueled America’s domestic energy boom.

MLPs by Sector

When master limited partnerships debuted in the 1980s there was a wide variety of sectors in which MLPs invested.  In 1987, congress passed legislation that required MLPs to derive at least 90% of income from specific qualified sources, largely natural resources and energy-related holdings.  Today, master limited partnership investments are largely concentrated in energy-related holdings.

Kevin Mahn put together an insightful table that shows the breakdown in MLPs by industry concentration:

MLP Industry Concentration 1990 2013
Oil and Gas Midstream and Downstream 10% 51%
Oil and Gas Exploration & Production (Upstream) 21% 12%
Propane 0% 3%
Oil & Gas Marine Transportation 1% 5%
Coal Leasing or Production 0% 4%
Other Natural Resources 5% 7%
Real Estate – Income Properties 14% 2%
Real Estate – Developers, Homebuilders 4% 0%
Real Estate – Mortgage Securities 13% 2%
Hotels, Motels, Restaurants 12% 0%
Investment / Financial 6% 9%
Other Businesses 15% 4%

 

Source: Forbes, Capital Innovations, Master Limited Partnership (MLP) Investing, 2014

MLP Sectors in 2016

As the table above shows, master limited partnerships are primarily investing in oil & gas.  In 2013, 71% of MLPs are focused on oil & gas midstream, downstream, upstream, propane, and oil & gas transportation by sea.  In 1990, we can see that real estate used to be a major investment area for MLPs but now make up only about 4%.  Another interesting development in recent years is the growth in financial or investment industry MLPs, as various financial entities have considered listing as an MLP. We will see if that is a new area for growth in MLP industry or whether we’ll continue with the energy focus that dominates today’s master limited partnerships.

Master Limited Partnership Structure

How Master Limited Partnerships are Structured 

Before we dig into the more technical facets of the MLP such as incentive distribution rights (IDRs), it is helpful to understand the structure of an MLP. As we have explained above, an MLP is structured as a publicly-traded limited partnership that owns the operating company which in turn acquires assets.  An MLP is managed at the partnership level by a General Partner (GP) or Sponsor who takes the lead on managing the MLP, essentially operating the business.  The GP will sell a portion of the MLP to the public in an Initial Public Offering (IPO) and the remainder will be owned by the GP, as well as a 2% interest.

The pubic buys common units in the MLP while the GP holds subordinated units, giving the public preference over the GP when it comes to cash distributions.  As the MLP prepares for IPO, it will submit its prospectus to the SEC and set a minimum quarterly distribution, which the public will receive first, then the GP’s subordinated units.  We have created a diagram to show the different entities and parties involved in a master limited partnership.

MLP Structure Diagram

Incentive Distribution Rights

A unique aspect of the master limited partnership structure is the incentive distribution right (IDR).  An IDR is a right of the General Partner in the MLP to a greater proportion of the Limited Partnership’s quarterly distributions.  The IDRs provide the GP with an increasing cut of the incremental distributable cash flow from the MLP.

Incentive Distribution Rights Defined

In addition to that two percent interest, the GP earns the aforementioned incentive distribution right (IDR).  The incentive distribution right is the GP’s right to an increasing cut of the cash distributions from the MLP.  For those who are familiar with hedge funds and private equity, it may be helpful to think of IDRs as a form of carried interest, an incentive to hit specific benchmarks that benefit the other investors, too.

How Incentive Distribution Rights Work

An important note is that we said this is an increasing cut of the cash distributions.  The cut increases according to a pre-determined schedule which motivates the GP to perform because the greater returns produced by the MLP, the greater the share of the distributions for the GP.  The MLP is constructed with different targets set for when distributions percentages will change.

At the outset, the unitholders will take 98% of the distributions, while the general partner only earns 2%.

Now, don’t feel too bad for the general partner, because the GP’s share of the distribution grows as the MLP hits those predetermined benchmarks.  For example, upon hitting a total quarterly distribution target of $0.50, the split might shift to 85% for unitholders, and 15% for the general partner; after exceeding $0.55, the split may be 50-50.  That certainly provides exceptional compensation for the general partner and rewards it for all of the hard work, the disproportionate risk in the beginning, and the stellar performance exceeding the distribution benchmarks.

For unitholders, you can see how important incentive distribution rights are because the MLP, if successful and hitting its benchmarks, will surrender a greater portion of its cash distributions to the GP.  Much like hedge fund and private equity fund sponsors, MLP sponsors can reap enormous profits if the MLP outperforms.

MLP Performance

We have outlined some of the reasons that MLPs have grown such as changes in the regulatory environment, the tax efficient structure, and the growth of domestic energy production, but for investors the most important factor to consider is performance.  Fortunately, MLPs performed impressively for much of recent history.

Take the following chart, provided by DeWitt Capital Management using data from Bloomberg and Alerian to showcase the performance of MLPs over the last 15 years as compared to other sectors and asset classes:

MLP Performance 15 Year Chart

As you can see, MLPs have been solid performers for many of the last 15 years even including the considerable exception of 2015—when energy prices fell to historic lows and MLPs suffered along with other energy investments.  Despite the recent energy turmoil, MLPs still have outperformed REITs, S&P Energy, Small Cap, Utilities, the S&P 500, Municipals, US Bonds, and All World sectors on an annualized return basis over the years from 1998 to 2015.

What is the Alerian MLP Index?

The performance of a Master Limited Partnership (MLP) is often compared to the Alerian MLP Index, which tracks large- and mid-cap energy MLPs.  Before we get into the application of the Alerian MLP Index, we should first define the Alerian and explain the index.

The Alerian MLP Index was created by Alerian, an independent provider of Master Limited Partnership and energy infrastructure market intelligence.  Alerian shares its own definition of the MLP Index: “The Alerian MLP Index is the leading gauge of large- and mid-cap energy Master Limited Partnerships (MLPs). The float-adjusted, capitalization-weighted index, which includes 50 prominent companies and captures approximately 75% of available market capitalization, is disseminated real-time on a price-return basis (AMZ) and on a total-return basis (AMZX).”

Why Does the Alerian MLP Index Matter?

When an MLP’s (or MLP fund’s) performance is higher than the returns of the Alerian MLP Index, the investment has outperformed this specific sector’s benchmark; when an MLP posts returns less than the Alerian MLP Index over the same time period, the reverse is true and the investment has underperformed.  So, you can understand why investors are interested in the performance of the Alerian MLP Index and how specific MLPs fared relative to the Alerian.  Investors who evaluate the performance of MLPs or MLP funds will likely see a chart comparing the Alerian MLP Index (or a more nuanced index such as the Alerian MLP Infrastructure Index) and other benchmarks against asset’s performance.

Of course, the Alerian MLP Index is not a perfect representation of the MLP sector and it does not show the specific performance of any one Master Limited Partnership.  Rather, this index includes 50 well-known companies in the sector and acts as a barometer of the MLP space.  For observers looking for an indication of how MLPs are performing or for investors seeking a benchmark upon which to judge their investments, this is a very useful index.

Where can I see how the Alerian MLP Index has performed?

Since the Alerian MLP Index is available on a real-time basis, you can see the performance of any of the indices online easily as you would other stocks, bonds, or indices.  For example, if I wanted to see the performance of the Alerian MLP Index for the last month I can simply Google search for “Alerian MLP Index” or use whatever finance search you would use for another stock.  If you enter AMZ on Yahoo Finance, for example, you can see that performance over the last five years, like you see below:
Alerian 5 Year MLP Index Chart

An Example of the Alerian MLP Index Performance from Yahoo! Finance over the last five years.

You can also view the performance on your trading platform or at the Alerian website.

The Alerian MLP Index and other Alerian indices allow investors to compare the performance of the MLP asset class against other investments, MLP funds, and individual MLPs.  We hope that this educational article has improved your understanding of the Alerian MLP Index.

Investing in MLPs

There are multiple vehicles by which investors can gain exposure to master limited partnerships including index funds, direct investments in individual MLPs, or through a fund manager that invests in a selection of MLPs.

MLP Index Fund

Index funds provide a broad exposure to a basket of MLPs, rather than an individual MLP.  This diversification is a great benefit to investors who are unwilling or unable to buy and sell units in individual MLPs.  Consider an average investor or even a sophisticated investor, with limited time to monitor the portfolio

There are a few options available to investors seeking exposure to master limited partnerships – or the energy, commodities, and infrastructure assets they acquire.  One of these options is an MLP exchange-traded fund (or ETF) that holds a basket of MLPs.  For those unfamiliar, an exchange-traded fund is an investment fund that trades on a stock exchange and tracks a basket of securities, an index, bonds, or commodities.  Unlike a mutual fund or closed end fund, ETFs trade on public exchanges and may have higher daily liquidity than other investments.

Benefits of a Master Limited Partnership ETF

  • Greater Liquidity: As we mentioned, a MLP ETF gives investors greater liquidity than a less liquid closed end fund since the former trades on a public exchange.
  • Exposure to Energy and Natural Resources: For investors that are seeking exposure to energy, commodities, infrastructure or other MLP-holdings, then a master limited partnership ETF may be an attractive, liquid, and cost-efficient vehicle for that exposure. An MLP ETF also allows the investor the ability to invest indirectly in MLPs without actually having to select specific MLPs and actively manage individual allocations.
  • Potential for Diversification: Depending on an investor’s holdings, a master limited partnership ETF may be an attractive option for diversifying from other investments in the portfolio. The liquidity of an ETF may be helpful to an investor with less liquid holdings such as a private equity fund commitment or portfolio company.  Given that MLPs invest in specific assets such as commodities, natural gas, oil, etc. an investor may be able to diversify from other specific assets that make up a strong concentration of the portfolio.

Considerations for Owning a Master Limited Partnership ETF

  • Tax Drag of the AMLP and Other ETFs: The largest ETF that invests in MLPs is the Alerian MLP ETF (AMLP). As the sector becomes more and more recognized, AMLP has captured a large amount of the investment dollars. It currently has more than $6.5 billion in net assets. AMLP is structured as a taxable C-Corporation which allows it to issue a 1099 tax form to investors. While the 1099 makes the ETF a much less complicated investment from a tax administration viewpoint, being classified as a taxable C-Corp means that the ETF has to pay a 35% corporate level tax. Thus, it is important to note that in an exchange traded fund or closed end fund, there is a tax drag as the NAV is reduced by the tax that would be paid if the portfolio were to be liquidated.  This reduces performance in an up market and cushions performance in a down market by about 35% in each direction.
  • ETF Expense Ratio: In order for MLP exchange-traded funds like the aforementioned Alerian MLP ETF (AMLP) to invest fully in MLPs, the ETFs are structured as C-Corps and this creates a not insignificant tax burden on investors. Morningstar, the investment research firm, first drew attention to this in2012 cautioning investors that while the then-stated expense ratio was only 0.85%, its expense ratio was closer to 5%. This higher-than-expected expense ratio gave investors pause, especially those investors who viewed the MLP ETF as a very low-cost MLP investment vehicle.Since that time, AMLP has provided investors with greater clarity on the actual expenses associated with the AMLP.  In the latest summary prospectus, the reader can understand better that as a result of the deferred income tax expense (4.58%) combined with the management fees (0.85%), the net expense ratio is actually 5.43%.  The following chart shows how these fees add up beyond the basic 0.85% management fee:

AMLP Prospectus

Source: Summary Prospectus, Alerian MLP ETF, March 31, 2015.  http://www.alpsfunds.com/regulatory-reports/AMLP

So, in sum, a master limited partnership ETF is an exchange traded fund that provides investors with a liquid fund that owns a basket of MLPs or is pegged to an MLP index like the Alerian.  While there are many benefits to an ETF vehicle, investors should keep in mind the tax considerations and true expense ratio.

Exchange Traded Notes

Like exchange traded funds, exchange-traded notes (ETNs) provide investors with a passive investment into MLPs.  An ETN, however, is a publicly-traded debt security, rather than an equity-linked ETF.  ETNs are issued by banks and trade publicly, providing investors with the total returns of all the indices including dividends, but not including the management fees or transaction costs.

Since the ETNs are notes issued by banks, there is credit risk associated with the investment. The largest ETN, the JP Morgan Alerian ETN (AMJ), has just over $3 billion in net assets. The distributions on ETNs are classified as interest income, which negates the key tax deferral benefit that is received by direct investment into MLPs. A bank issues a limited number of ETNs, which can cause the ETNs to trade at a premium to its indicative note value. Investors can incur significant losses if they sell the ETNs when the premium is no longer present. The returns of an ETN are the total returns for all the indices which reflect the performance of each index, including dividends, but do not include the management fee, the repurchase fee or any transaction costs or expenses.

Direct

For those who have the skill, experience, and time to confidently select individual master limited partnerships, this is a way for an investor to exercise greater discretion over his portfolio as compared to a more diversified pool of MLPs through an ETF or MLP fund.  The trick, as with buying any individual stock, is selecting the right MLP and holding that stock over a long enough time period to earn healthy tax efficient distributions on top of the stock appreciation.

For example, an investor that held a unit of Magellan Midstream Partners LP over the last five years (2011-2016) would have seen the stock appreciate by more than 115% during that time period as you can see in the chart below:

MMP Performance 5-Year

Five-year performance of Magellan Midstream Partners LP via Yahoo Finance as of February 23, 2016.

Investors and analysts evaluate MLPs using many of the same metrics employed to value traditional stocks.  To illustrate this point, we’ve included the relevant statistics for that same Magellan Midstream Partners MLP:

MMP Stock Analysis

Statistics from Capital IQ and Yahoo Finance, as of February 23, 2016.

For anyone who has analyzed a stock before, many of these measures are very familiar though some will be more relevant than others to most MLP investors.

Separately Managed Accounts

Separately Managed Accounts (SMAs) provide investors with the tax benefits of direct MLP ownership, along with corporate tax free income and index outperformance, if managed by a strong portfolio manager.    This may be an attractive vehicle for an investor that wants a degree of customization and visibility on the MLP investments but lacks the time or sophistication to buy directly and manage those investments.  SMAs are managed by a portfolio manager and thus investors should expect to pay an annual management fee, though other expenses associated with an SMA are minimal.

Separately Managed Accounts (SMAs) offer investors the tax benefits of direct MLP ownership, corporate tax free income and index outperformance if managed by the right portfolio manager. The majority of MLP investors are at the retail level and invest directly in MLPs. By buying units of an MLP directly, an investor becomes a limited partner in a partnership that owns real energy infrastructure such as pipelines, storage facilities and refineries. Many managers charge an annual management fee for SMAs, but there are no repurchase fees or other expenses and transaction costs are minimal.

SMA vs. ETF vs. ETN

As the asset class has grown from an $11B market cap in 1999 to a $500B market cap in 2015, many different investment vehicles have been created to give investors access to the MLP sector. Many of the exchange traded products (ETFs and ETNs) offered provide investors easy access to the MLP sector. That easy access comes at a price; large tax burdens and management expenses have led to significant underperformance when compared to a Separately Managed Account investment. Another disadvantage to the passive exchange traded investment is the lack of active management. There has been significant difference in the performance within subsectors of the MLP universe. Active management allows for tactical MLP selection that leads to outperformance. The table below gives a basic breakdown of the structure of the various investment options.

Comparisons MLP Vehicles

MLP Fund

If you were looking at the charts and metrics in the previous section and thinking that it would be easier to just outsource the selection and management of an MLP portfolio to an experienced stock picker, much like you would a pooled equity fund, then an MLP fund might make more sense to you.

An MLP fund is a pooled investment vehicle that allows investors to spread their capital across multiple master limited partnerships, instead of investing directly into individual MLPs.  We went over ETFs which are more passive vehicles compared to the actively-traded MLP funds in this section.  These actively-managed funds are run by a portfolio management team that selects a number of MLPs to invest fund assets in.  The fund may be structured as a mutual fund, long-only fund, through a separately-managed account at an investment adviser, and even some hedge funds have started investing in MLPs.

The fund management, comprised of the portfolio manager and research team, actively manages the fund to identify undervalued MLPs, assess portfolio risk, review available research as well as conduct internal research on specific MLPs and their underlying assets, and make investments for the benefit of the limited partners in the fund.  Within the broader master limited partnership sector, there are many sub-sectors (upstream, transportation, timber, etc.) and different market capitalizations.  Many MLP funds will seek to spread the portfolio across multiple sub-sectors and potentially different sizes; other MLP funds may have a specific mandate to invest only in, say, small-cap infrastructure MLPs.

Of course, for the service of actively managing your capital, the fund will charge investors a fee.  These fees may vary by share class, too, as the fund may provide anchor investors who commit large pools of capital with superior terms to reward their commitment and attract these larger investors.

Fees may include: sales charges; annual fund operating expenses; management fees; distribution and service fees; miscellaneous expenses; deferred income tax expenses; interest expenses from borrowings; and other fees depending on how the fund is structured.  While hedge funds focused on MLPs are relatively rare, the fees that hedge funds usually command are more expensive than the typical MLP fund with an annual management fee and a high portion of the profits (20% or more) going to the fund manager.  Most mutual funds or other MLP funds, however, are less than 10% and some investment vehicles like SMAs can charge considerably lower fees to investors.

Now that we have discussed a number of the ways by which investors may gain exposure to MLPs, we should consider why investors want to invest in MLPs in the first place.

Why Invest in MLPs

Master Limited Partnership Tax Efficiency

Master limited partnerships have unique tax characteristics that are beneficial to investors.  Unlike most corporations, MLP distributions are not subject to double taxation.  MLP income is taxed only at the company level and passes through at the partnership level, thus MLPs pay no corporate income taxes.  This is a big advantage for MLPs over companies which are taxed both at the company level and then upon distribution to investors.

Historic Performance

As the chart we showed earlier demonstrates, MLPs have outperformed many comparative asset classes including the S&P 500 over the past fifteen years since 1998 on an annualized return basis.

Growth Potential

The domestic oil and gas boom has created significant capital expansion opportunities for MLP investors.

Comparatively High Cash Returns

Compared to other asset classes, MLPs provide a significant yield.  The average current yield of MLPs in February of 2016 was approximately 6.9%, yielding some 500+ bps above 10-Year Treasuries.

Operating Cash Flows

Fees (Tariff Rates) which generate the MLP’s Revenue and Cash Flow are historically largely insensitive to commodity prices and rely mostly on volumes processed, stored, or transported to market.

MLPs Today

Investors have been showing more interest in MLPs in recent years, fueled especially by the growth in domestic oil and gas production.  After more than 3 decades of master limited partnerships, there are now more than 100 MLPs and the market capitalization of MLPs is estimated to be at least $414 billion while other estimates are as high as $464 billion.[1]  MLPs continue to grow in size and are traded more than ever, with energy MLPs leading that growth.

Learn More

We hope that you have enjoyed this educational white paper.  If you would like to learn more about Master Limited Partnerships, we are releasing fresh educational content every week on our website, MasterLimitedPartnerships.com.  We welcome you to engage with us on our website, in person at one of the many conferences we are presenting at this year, or simply contact us directly at: http://MasterLimitedPartnerships.com/contact/

[1] The National Association of Publicly Traded Partnerships, Thomson Reuters Datastream, and Interactive Data Corporation. FactSet and Wells Fargo Securities as of 12/31/2013,

 

Tags: master limited partnership primer, master limited partnerships guide, primer for master limited partnerships, MLP Primer, MLP Guide, MLP Overview, What is a Master Limited Partnership?, Master Limited Partnership White Paper, White Paper Master Limited Partnerships

New Investors in Master Limited Partnerships

New investors reviewing the recent performance of MLPs might be scared off for good. But the reality is that market volatility is not quite what it seems, because MLPs have maintained or boosted distributions despite a collapse in oil prices. According to a Think Advisor interview with Jeremy Held, director of Research & Investment Strategy for ALPS Portfolio Solutions, to the patient go the spoils.

“Long-term investors, if can they can withstand the volatility … will be rewarded for staying the course in the asset class,” Held explained.

What new investors need to look for in MLPs
The most important thing to keep in mind for new investors looking into the MLP space for the first time is that fundamentals matter more than oil commodity price volatility. In the long term, the fundamentals for MLPs, particularly midstream companies, will remain intact because demand for oil will continue to be prevalent. So too will the growing need for energy infrastructure.

This is the reason why midstream MLPs have withstood oil price drops in the last two years. For instance, oil prices ranged from $92 to $117 a barrel and distributions increased by 7.3 percent in 2013, while oil prices dropped to between $59 to $106 per barrel and distributions improved by 6.8 percent in 2014. This has been further evidenced in the last 12 months as oil has dipped to about $43 to $60 a barrel, but distributions have increased by 7.5 percent. In fact, midstream distributions have increased by 1.9 percent in Q2 2015, up from 1.5 percent Q1.

Therefore, new investor concerns about declining oil commodity prices need to be put into context. What matters most is the stability of the distribution, something midstream MLPs have maintained in all market conditions.

MLPs as a hedge for savvy investors
MLPs offer investors real assets that act as a great hedge against inflation and market conditions. This is due to the fact that most midstream MLPs have long-term contracts that are indexed for inflation. In fact, MLPs operating pipelines were allowed to raise their fees 4.58 percent. In July, federally-mandated tariff increases were implemented for pipelines, which include the Producer Price Index. Therefore, with oil prices likely to stabilize with the domestic production boom combined with the increasing demand for oil, midstream MLPs are positioned for growth in the next few years.

The bottom line is distribution growth
MLPs are down by over 18 percent since January, making many lose faith in the sector. New investors see the record lows in oil prices, and may be scared off from the energy sector as a whole. But it is important to note that the Alerian MLP Index has grown by 4.3 percent this third week of August, showing that the sector has recovered a substantial portion of the losses it incurred with the price collapse.

Supporting this rebound is Darren R. Schuringa, chief investment officer for Yorkville Capital, who explained that midstream MLPs are yielding 7.5 percent. What this means is that the pullback in the sector was not related to the fundamentals of these midstream companies. So with these midstreamers unaffected by market volatility, distributions have been maintained and exceeded.

For context among new investors to the sector, the spread between MLPs and U.S. Treasuries is a good comparison. This is due to the fact that historically, when spreads between MLPs and U.S. Treasuries have been wider than 5 percent, MLPs produced positive returns over the next twelve months 100 percent of the time. This is what makes the current market conditions a great entry point for new investors.

But when infrastructure MLP distributions are put under review, it is clear that with 11.5 percent growth year-over-year, investors are provided with high yielding assets that are volatility resistant.

 

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MLP ETF Tax Considerations

Tax Considerations for Owning a Master Limited Partnership ETF

  • Tax Drag of the AMLP and Other ETFs: The largest ETF that invests in MLPs is the Alerian MLP ETF (AMLP). As the sector becomes more and more recognized, AMLP has captured a large amount of the investment dollars. It currently has more than $6.5 billion in net assets. AMLP is structured as a taxable C-Corporation which allows it to issue a 1099 tax form to investors. While the 1099 makes the ETF a much less complicated investment from a tax administration viewpoint, being classified as a taxable C-Corp means that the ETF has to pay a 35% corporate level tax. Thus, it is important to note that in an exchange traded fund or closed end fund, there is a tax drag as the NAV is reduced by the tax that would be paid if the portfolio were to be liquidated.  This reduces performance in an up market and cushions performance in a down market by about 35% in each direction.
  • ETF Expense Ratio: In order for MLP exchange-traded funds like the aforementioned Alerian MLP ETF (AMLP) to invest fully in MLPs, the ETFs are structured as C-Corps and this creates a not insignificant tax burden on investors. Morningstar, the investment research firm, first drew attention to this in2012 cautioning investors that while the then-stated expense ratio was only 0.85%, its expense ratio was closer to 5%. This higher-than-expected expense ratio gave investors pause, especially those investors who viewed the MLP ETF as a very low-cost MLP investment vehicle.Since that time, AMLP has provided investors with greater clarity on the actual expenses associated with the AMLP.  In the latest summary prospectus, the reader can understand better that as a result of the deferred income tax expense (4.58%) combined with the management fees (0.85%), the net expense ratio is actually 5.43%.  The following chart shows how these fees add up beyond the basic 0.85% management fee:

AMLP Prospectus

Source: Summary Prospectus, Alerian MLP ETF, March 31, 2015.  http://www.alpsfunds.com/regulatory-reports/AMLP

Conclusion

So, in sum, a master limited partnership ETF is an exchange traded fund that provides investors with a liquid fund that owns a basket of MLPs or is pegged to an MLP index like the Alerian.  While there are many benefits to an ETF vehicle, investors should keep in mind the tax considerations and true expense ratio.

 

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Master Limited Partnership Definition

A Master Limited Partnership is a publicly-traded limited partnership that derives most of its income from commodities, real estate, and energy.  Especially in recent years, master limited partnerships are most commonly associated with energy because the high majority of MLPs invest in natural resource-related assets, especially oil production and servicing.  This is in contrast to Real Estate Investment Trusts (REITs), which are the preferred publicly-traded vehicle for real estate investments and MLPs are primarily focused on energy and commodities.

Two Important Features

The two most important features of the master limited partnership structure are tax efficiency and liquidity.  As a pass-through entity, master limited partnerships are not taxed at the entity level; only the MLP’s unitholders are taxed on distributions.  Master limited partnerships are necessarily publicly-traded, meaning that investors can buy and sell units in MLPs on the major exchanges.  This public-market component is key, as it allows investors to gain the tax benefits of the master limited partnership structure without sacrificing the ability to trade shares on the public markets.

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Size of the Master Limited Partnership Industry

The Size of the Master Limited Partnership Industry 

The Master Limited Partnership, as an industry, has grown in size in the United States since the first master limited partnership was formed in 1981.  MLPs today control more than $400 billion in assets across over 100 MLPs.

Investors have been showing more interest in MLPs in recent years, fueled especially by the growth in domestic oil and gas production.  After more than 3 decades of master limited partnerships, there are now more than 100 MLPs and the market capitalization of MLPs is estimated to be at least $414 billion while other estimates are as high as $464 billion.[1]  MLPs continue to grow in size and are traded more than ever, with energy MLPs leading that growth.

Today, master limited partnerships are largely concentrated in oil & gas.  The recent boom in domestic energy production has further heightened the need for investment in the sector and MLPs have been an attractive option for funneling money into the space. We will have to see whether the recent troubles in the energy sector amid record-low oil prices will pare the number of MLPs.

tags: Master Limited Partnerships, MLPs, size of the MLP industry, how many MLPs are there, number of master limited partnerships, how many master limited partnerships, master limited partnership industry,

Incentive Distribution Rights

A unique aspect of the master limited partnership structure is the incentive distribution right (IDR).  An IDR is a right of the General Partner in the MLP to a greater proportion of the Limited Partnership’s quarterly distributions.  The IDRs provide the GP with an increasing cut of the incremental distributable cash flow from the MLP.

How Master Limited Partnerships are Structured 

Before we dig into incentive distribution rights (IDRs), it is helpful to understand the structure of an MLP. As we have explained in previous articles, an MLP is structured as a publicly-traded limited partnership that owns the operating company which in turn acquires assets.  An MLP is managed at the partnership level by a General Partner (GP) or Sponsor who takes the lead on managing the MLP, essentially operating the business.  The GP will sell a portion of the MLP to the public in an Initial Public Offering (IPO) and the remainder will be owned by the GP, as well as a 2% interest.

The pubic buys common units in the fund while the GP holds subordinated units, giving the public preference over the GP when it comes to cash distributions.  As the MLP prepares for IPO, it will submit its prospectus to the SEC and set a minimum quarterly distribution, which the public will receive first, then the GP’s subordinated units.  We have created a diagram to show the different entities and parties involved in a master limited partnership.

MLP Structure Diagram

Incentive Limited Rights Defined

In addition to that two percent interest, the GP earns the aforementioned incentive distribution right (IDR).  The incentive distribution right is the GP’s right to an increasing cut of the cash distributions from the MLP.  For those who are familiar with hedge funds and private equity, it may be helpful to think of IDRs as a form of carried interest, an incentive to hit specific benchmarks that benefit the other investors, too.

How Incentive Limited Rights Work

An important note is that we said this is an increasing cut of the cash distributions.  The cut increases according to a pre-determined schedule which motivates the GP to perform because the greater returns produced by the MLP, the greater the share of the distributions for the GP.  The MLP is constructed with different targets set for when distributions percentages will change.

At the outset, the unitholders will take 98% of the distributions, while the general partner only earns 2%.  Now, don’t feel too bad for the general partner, because the GP’s share of the distribution grows as the MLP hits those predetermined benchmarks.  For example, upon hitting a total quarterly distribution target of $0.5, the split might shift to 85% for unitholders, and 15% for the general partner; after exceeding $0.55, the split may be 50-50.  That certainly provides exceptional compensation for the general partner and rewards it for all of the hard work, the disproportionate risk in the beginning, and the stellar performance exceeding the distribution benchmarks.

Why Incentive Limited Rights Matter

For unitholders, you can see how important incentive distribution rights are because the MLP, if successful and hitting its benchmarks, will surrender a greater portion of its cash distributions to the GP.  Much like hedge fund and private equity fund sponsors, MLP sponsors can reap enormous profits if the MLP outperforms.

 

tags: Master Limited Partnerships, MLPs, IDRs, Incentive Distribution Rights, idr definition, what is an IDR, MLP definition, MLP structure, how an IDR works, how an MLP works, how MLP incentive distribution rights work, what are IDRs, master limited partnership incentive distribution rights

Master Limited Partnership Sectors

When master limited partnerships debuted in the 1980s there was a wide variety of sectors in which MLPs invested.  In 1987, congress enacted the Tax Reform Act of 1986 and the Revenue Act of 1987 which required MLPs to derive at least 90% of income from specific qualified sources, largely natural resources and energy-related holdings.

Today, master limited partnership investments are largely concentrated in energy-related holdings.  Two recent pieces of legislation likely contributed to the growth of MLPs: The American Jobs Creation Act of 2004 allowed mutual funds to pump more money into MLPs and the Energy Improvement and Extension Act of 2008 further widened the definition qualifying income and made room for more MLPs to reap the tax benefits.

Master Limited Partnerships by Sector

Kevin Mahn put together an insightful table that shows the breakdown in MLPs by industry concentration:

MLP Industry Concentration

1990

2013

Oil and Gas Midstream and Downstream

10%

51%

Oil and Gas Exploration & Production (Upstream)

21%

12%

Propane

0%

3%

Oil & Gas Marine Transportation

1%

5%

Coal Leasing or Production

0%

4%

Other Natural Resources

5%

7%

Real Estate – Income Properties

14%

2%

Real Estate – Developers, Homebuilders

4%

0%

Real Estate – Mortgage Securities

13%

2%

Hotels, Motels, Restaurants

12%

0%

Investment / Financial

6%

9%

Other Businesses

15%

4%

Source: Forbes, Capital Innovations, Master Limited Partnership (MLP) Investing, 2014

MLPs Today

As the table above shows, master limited partnerships are primarily investing in oil & gas.  In 2013, 71% of MLPs are focused on oil & gas midstream, downstream, upstream, propane, and oil & gas transportation by sea.  In 1990, we can see that real estate used to be a major investment area for MLPs but now make up only about 4%.  Most real estate MLPs have converted to Real Estate Investment Trusts (REITs) and abandoned the MLP structure.

Another interesting development in recent years is the growth in financial or investment industry MLPs, as various financial entities have considered listing as an MLP. We will see if that is a new area for growth in MLP industry or whether we’ll continue with the energy focus that dominates today’s master limited partnerships.

 

Tags: master limited partnership, master limited partnerships, master limited partnership definition, MLP industries, MLP sectors, master limited partnership by sector, master limited partnership by industry, MLP industry type, MLPs types, MLP sectors

Master Limited Partnership History

History of the Master Limited Partnership

The first master limited partnership was formed in 1981, when the Apache Petroleum Corporation debuted an MLP.  This would mark the beginning of a vehicle that would rise in prominence over the subsequent decades all the way until today, where the master limited partnership is a widely-known, albeit sparingly used limited partnership structure.

Apache Leads to Way

In the beginning, most MLPs were formed to invest in and develop oil and gas assets.  However, the structure has since been adopted by other asset types, from casinos to real estate.  After the success of Apache’s MLP, other companies decided to form master limited partnerships for the tax advantages.

Limit to Sectors

Eventually, the U.S. government grew concerned that it was losing corporate tax revenue and Congress passed a law in 1987 that limited the MLP structure to only a few sectors.  This is the MLP structure we have today, where an MLP must derive about 90% of its income from real estate, natural resources and commodities.  As a result of this change, MLPs since 1987 have largely been energy-related, with investors pouring millions of dollars into oil, gas, and energy-related infrastructure through MLPs.

MLPs Today

Investors have been showing more interest in MLPs in recent years, fueled especially by the growth in domestic oil and gas production.  After more than 3 decades of master limited partnerships, there are now more than 100 MLPs and the market capitalization of  MLPs is estimated (Source 1) to be at least $414 billion while other estimates are as high as $464 billion (Source 2).  MLPs continue to grow in size and are traded more than ever, with energy MLPs leading that growth.

 

Sources: 

  1. The National Association of Publicly Traded Partnerships, Thomson Reuters Datastream, and Interactive Data Corporation.
  2. FactSet and Wells Fargo Securities as of 12/31/2013,

Tags: master limited partnership, master limited partnerships, master limited partnership definition, history of a master limited partnership, size of the MLP Industry, how many MLPs are there?, first MLP, what is an MLP, history

 

The Benefits of Master Limited Partnerships

When investors consider a master limited partnership against other investments, they may wonder what are the benefits of a master limited partnership.

Benefits of a Master Limited Partnership

  • Tax Efficiency: As noted above, Master Limited Partnerships have a unique tax advantage in that Limited Partners appreciate. A portion of the payout to the Partners can be tax-deferred, although that portion varies by distribution. The avoidance of double taxation is considered one of the key advantages to the MLP structure. Investors will receive a K-1 statement and pay individual income tax rate on their share of the partnership’s income but the investor is compensated by the cash distributions which are deferred until the MLP is sold. The high cash payments make this investment more tax efficient than it would otherwise be with the taxed income.[1]
  • Exposure to Energy and Natural Resources: For investors that are seeking exposure to energy, commodities, infrastructure or other MLP-holdings, then a master limited partnership may be an attractive vehicle for that exposure.
  • Potential for Diversification: Depending on an investor’s holdings, a master limited partnership may be an attractive option for diversifying from other investments in the portfolio.  Given that MLPs invest in specific assets such as commodities, natural gas, oil, etc. an investor may be able to diversify from other specific assets that make up a strong concentration of the portfolio.
  • Defensive Characteristics.
  • Strong Cash Flow Visibility.

According to Ethan Bellamy of Robert W. Baird & Company, while the aforementioned advantages are important, there is another that is often undervalued: “We think that the most underappreciated feature of the MLP structure is the capital discipline that is instilled in the full payout model. Management teams must deliver all returns to investors each quarter, which we believe provides an important check on capital allocation and investment not present to the same degree in regular corporations. Further, since MLPs generate returns for investors by paying out rather than retaining equity, management must come back to the market frequently in order to finance growth. The market’s constant check on capital allocation instills further discipline.”

These advantages have contributed to the impressive growth of the Master Limited Partnership industry.

 

Tags: master limited partnership, master limited partnerships, master limited partnership definition, benefits of a master limited partnership, benefits of a mlp, why invest in an mlp, why invest in a master limited partnership, master limited partnership advantage

 

  1. Nathaniel Riley.  “Discover Master Limited Partnerships.” Investopedia. February 20, 2007.

Master Limited Partnerships List

List of Master Limited Partnerships

MasterLimitedPartnerships.com is an educational website and as such, we want to deliver value to you.  We have seen a number of lists of master limited partnerships for sale and we receive requests for lists all the time.  We decided to share an expanding list of master limited partnerships for free here and we’ll continue to add to this resource to make it even more valuable to you and other visitors of this site.

  1. Alliance Bernstein Holding
  2. Alliance Holdings GP
  3. Alliance Resource
  4. AmeriGas Partners
  5. American First Tax Exempt Investors
  6. American Midstream
  7. Apollo Global Management
  8. Atlas Energy
  9. Atlas Pipeline Partners
  10. Atlas Resources Partners
  11. Blueknight Energy
  12. Boardwalk Pipeline
  13. Breitburn Energy
  14. Brookfield Infrastructure Partners
  15. Buckeye Partners
  16. CVR Partners
  17. Calumet Specialty Products
  18. Capital Products
  19. Cedar Field
  20. Cheniere Energy Partners
  21. Chesapeake Midstream
  22. Compass Diversified Holdings
  23. Compresso Partners
  24. Constellation Energy Partners
  25. Copano Energy
  26. Crestwood Midstream
  27. Crosstex Energy LP
  28. DCP Midstream
  29. Dorchester Minerals
  30. EV Energy
  31. Eagle Rock
  32. El Paso Pipeline Partners
  33. Ellington Financial
  34. Enbridge Energy
  35. Energy Transfer
  36. Energy Transfer Equity
  37. Enterprise Products
  38. Exterran Partners
  39. Ferrellgas
  40. Fortress Investment Group
  41. Genesis Energy
  42. Global Partners
  43. Golar LNG Partners
  44. Holly Energy
  45. Icahn Enterprises
  46. Inergy
  47. Inergy Midstream
  48. KKR & Co
  49. KKR Financial Holdings
  50. Kinder Morgan
  51. LINN Energy
  52. LRR Energy
  53. Lazard, Ltd
  54. Legacy Reserves
  55. ML Macadamia Orchards
  56. Magellan Midstream
  57. MarkWest
  58. Martin Midstream
  59. Memorial Production
  60. Mid-Con Energy
  61. NGL Energy
  62. NTS Realty Holdings
  63. Natural Res. Partners
  64. Navios Maritime
  65. New England Realty Associates
  66. Niska Gas Storage
  67. NuStar
  68. NuStar GP Holdings
  69. ONEOK Partners
  70. Oaktree Capital Management
  71. Och-Ziff Capital Management Group
  72. Oiltanking Partners
  73. Oxford Resource Partners
  74. Penn Virginia
  75. Pioneer Southwest Energy
  76. Plains All American
  77. Plains Natural Gas Storage
  78. Pope Resources
  79. QR Energy
  80. Regency Energy
  81. Rentech Nitrogen Partners
  82. Rhino Resource Partners
  83. Rose Rock Midstream
  84. Spectra Energy
  85. Star Gas Partners
  86. StoneMor Partners
  87. Suburban Propane
  88. Sunoco Logistics
  89. TC Pipelines
  90. Targa Resources
  91. Teekay LNG
  92. Teekay Offshore
  93. Terra Nitrogen Company
  94. Tesoro Logistics
  95. The Blackstone Group
  96. The Carlyle Group
  97. TransMontaigne
  98. Vanguard Natural Resources
  99. W.P Carey & Co.
  100. Western Gas
  101. Williams Partners

If you have a master limited partnership that you’d like to see added to the list, send us an e-mail and we’ll

Tags: list of master limited partnerships, master limited partnership list, MLP list, database of MLPs, MLP database, free list of MLPs, free list of master limited partnerships, MLP databases

What is a Master Limited Partnership ETF?

What is a Master Limited Partnership ETF?

There are a few options available to investors seeking exposure to master limited partnerships – or the energy, commodities, and infrastructure assets they acquire.  One of these options is an MLP exchange-traded fund (or ETF) that holds a basket of MLPs.  For those unfamiliar, an exchange-traded fund is an investment fund that trades on a stock exchange and tracks a basket of securities, an index, bonds, or commodities.  Unlike a mutual fund or closed end fund, ETFs trade on public exchanges and may have higher daily liquidity than other investments.

Benefits of a Master Limited Partnership ETF

  • Greater Liquidity: As we mentioned, a MLP ETF gives investors greater liquidity than a less liquid closed end fund since the former trades on a public exchange.
  • Exposure to Energy and Natural Resources: For investors that are seeking exposure to energy, commodities, infrastructure or other MLP-holdings, then a master limited partnership ETF may be an attractive, liquid, and cost-efficient vehicle for that exposure.  An MLP ETF also allows the investor the ability to invest indirectly in MLPs without actually having to select specific MLPs and actively manage individual allocations.
  • Potential for Diversification: Depending on an investor’s holdings, a master limited partnership ETF may be an attractive option for diversifying from other investments in the portfolio.  The liquidity of an ETF may be helpful to an investor with less liquid holdings such as a private equity fund commitment or portfolio company.  Given that MLPs invest in specific assets such as commodities, natural gas, oil, etc. an investor may be able to diversify from other specific assets that make up a strong concentration of the portfolio.

So, in sum, a master limited partnership ETF is an exchange traded fund that provides investors with a liquid fund that owns a basket of MLPs or is pegged to an MLP index like the Alerian.

Tags: Alerian MLP Index, Alerian MLP ETF, Master Limited Partnership ETF, What is a MLP ETF, Definition MLP ETF, master limited partnership etf, exchange traded fund, what is an exchange traded fund, list of master limited partnership ETFs

What is the Alerian Index?

What is the Alerian MLP Index?

The performance of a Master Limited Partnership (MLP) is often compared to the Alerian MLP Index, which tracks large- and mid-cap energy MLPs.  Before we get into the application of the Alerian MLP Index, we should first define the Alerian and explain the index.

The Alerian MLP Index was created by Alerian, an independent provider of Master Limited Partnership and energy infrastructure market intelligence.  Alerian shares its own definition of the MLP Index: “The Alerian MLP Index is the leading gauge of large- and mid-cap energy Master Limited Partnerships (MLPs). The float-adjusted, capitalization-weighted index, which includes 50 prominent companies and captures approximately 75% of available market capitalization, is disseminated real-time on a price-return basis (AMZ) and on a total-return basis (AMZX).”

Why Does the Alerian MLP Index Matter?

When an MLP’s (or MLP fund’s) performance is higher than the returns of the Alerian MLP Index, the investment has outperformed this specific sector’s benchmark; when an MLP posts returns less than the Alerian MLP Index over the same time period, the reverse is true and the investment has underperformed.  So, you can understand why investors are interested in the performance of the Alerian MLP Index and how specific MLPs fared relative to the Alerian.  Investors who evaluate the performance of MLPs or MLP funds will likely see a chart comparing the Alerian MLP Index (or a more nuanced index such as the Alerian MLP Infrastructure Index) and other benchmarks against asset’s performance.

Of course, the Alerian MLP Index is not a perfect representation of the MLP sector and it does not show the specific performance of any one Master Limited Partnership.  Rather, this index includes 50 well-known companies in the sector and acts as a barometer of the MLP space.  For observers looking for an indication of how MLPs are performing or for investors seeking a benchmark upon which to judge their investments, this is a very useful index.

Where can I see how the Alerian MLP Index has performed?

Since the Alerian MLP Index is available on a real-time basis, you can see the performance of any of the indices online easily as you would other stocks, bonds, or indices.  For example, if I wanted to see the performance of the Alerian MLP Index for the last month I can simply Google search for “Alerian MLP Index” or use whatever finance search you would use for another stock.  If you enter AMZ on Yahoo Finance, for example, you can see that month’s performance like you see below:

AMZ Performance

An Example of the Alerian MLP Index Performance from Yahoo! Finance

You can also view the performance on your trading platform or at the Alerian website.

Conclusion

The Alerian MLP Index and other Alerian indices allow investors to compare the performance of the MLP asset class against other investments, MLP funds, and individual MLPs.  We hope that this educational article has improved your understanding of the Alerian MLP Index.

 

 

Tags: Alerian MLP Index, Alerian Index, What is the Alerian MLP Index, What is a Master Limited Partnership, MLP

 

MLPs: Enough Blood in the Streets?

The Audience at the 2015 Family Office Super Summit in Miami.

The audience at the conference.

I just returned from presenting the case for MLPs at an investment conference.  The title was “MLPs: Enough Blood in the Streets?”  Now we have all heard Warren Buffet say “buy when there is blood in the streets” and we have plenty of that in the MLP space currently.

We have investors panicking out of incredibly valuable income producing companies that are the very companies that could give them great tax deferred and growing income for the future.

Many people believe that all MLPs are the same.  This is simply not the case.” 

I think that many people cannot differentiate one MLP from another, believing that all MLPs are the same.  This is simply not the case.  There are plenty of MLPs that will continue to raise distributions and have plenty of reserve capacity to do so.  There are “drop down” MLPs with strong corporate sponsors that will provide a steady stream of growth opportunities for years to come.  There are long haul pipelines that are experiencing ever increasing volumes of natural gas to electrical generation facilities where they are replacing coal.  There are MLPs preparing to ship natural gas (LNG) for the first time ever.  Companies that are engaged in the infrastructure to get natural gas out of the Marcellus and Utica are some of the ones that have bright futures.

I will continue to use forums such as conferences, articles, and blog posts like this to share education on master limited partnerships.  If you have any questions or areas that I may be able to add insights to, please don’t hesitate to get in touch.

President & Portfolio Manager at an MLP investment firm.

 

tags: Master Limited Partnership, MLPs, MLP, MLP Fund, MLP Differences, Selecting a MLP, MLP Presentation, What is a Master Limited Partnership

Master Limited Partnerships Taxation

How are Master Limited Partnerships Taxed?

Master Limited Partnerships provide investors income with favorable tax benefits.  Under Section 7704 of the IRS Code, master limited partnership distributions are not taxed at the entity level but only at the partnership level as income.  For investors, taxes are deferred until the units in the MLP are sold.

tags: taxes, master limited partnership taxes, taxation MLP, MLP tax, how are MLPs taxed

What is a Master Limited Partnership?

A Master Limited Partnership (MLP) is a publicly traded limited partnership that derives more than 90% of its cash flows from qualifying sources such as natural resources, real estate, and commodities.  Master limited partnerships often generate income from energy-related sources, such as oil and gas production.  For investors, the benefits to investing through an MLP structure are the liquidity of a publicly-traded security and the tax benefit of being able to pass through income and avoid taxes as the entity level.

Here are a few of the key features that make MLPs unique:

Income: MLP owners receive cash distributions — usually paid quarterly — from the business operations of the partnership. The cash distributions increase over time at around 6% per year and the annual yield averages 5.7%.

Performance: Although the energy sector has been hit hard as of late, MLPs have outperformed the S&P 500 every year from 1999-2011. MLPs can combine capital appreciation potential with steady yield to deliver high total returns.

Energy Sector Experience: The U.S. is experiencing a dramatic boom in domestic oil and natural gas production due to advancements in drilling technology. MLPs are uniquely positioned to take advantage of the boom with minimal commodity price exposure. Midstream MLPs generate revenues based on volumes transported, not the price of the commodity.

Tax Advantages: Importantly, MLPs do not pay corporate tax and the income they pay out is tax-deferred due to pipeline and infrastructure depreciation costs.

Liquidity: MLPs are publicly traded on the NYSE and the NASDAQ. MLPs combine the tax advantages of a partnership with the liquidity of publicly traded securities..

Estate Planning: If MLPs are left to an heir, the deferred tax bill is eliminated. The heir receives the MLPs at a new cost basis based on the market value of the units when they are passed on.

Summary

Master Limited Partnerships (MLPs) are limited partnerships that are publicly traded on a securities exchange. They combine the tax benefits of a partnership (pay no corporate taxes) with the liquidity of publicly traded securities. The modern day MLP got its start in 1986-87 when Congress passed the Tax Reform Act of 1986 and the Revenue Act of 1987. The new laws stated that to qualify as a Master Limited Partnership, an entity had to earn at least 90% of its income from qualified sources.

Tags: what is a master limited partnership, master limited partnerships, what is an MLP, mlps, mlp definition, how does an MLP work, master limited partnership structure

New MLP Investors See Resiliency

New investors see resiliency in MLPs

We wanted to include the following piece authored by David DeWitt of DeWitt Capital Management, who has decades of experience investing in master limited partnerships and is always willing to share his thoughts with readers of this site.

New investors reviewing the recent performance of MLPs might be scared off for good. But the reality is that market volatility is not quite what it seems, because MLPs have maintained or boosted distributions despite a collapse in oil prices. According to a Think Advisor interview with Jeremy Held, director of Research & Investment Strategy for ALPS Portfolio Solutions, to the patient go the spoils.

“Long-term investors, if can they can withstand the volatility … will be rewarded for staying the course in the asset class,” Held explained.

What new investors need to look for in MLPs
The most important thing to keep in mind for new investors looking into the MLP space for the first time is that fundamentals matter more than oil commodity price volatility. In the long term, the fundamentals for MLPs, particularly midstream companies, will remain intact because demand for oil will continue to be prevalent. So too will the growing need for energy infrastructure.

This is the reason why midstream MLPs have withstood oil price drops in the last two years. For instance, oil prices ranged from $92 to $117 a barrel and distributions increased by 7.3 percent in 2013, while oil prices dropped to between $59 to $106 per barrel and distributions improved by 6.8 percent in 2014. This has been further evidenced in the last 12 months as oil has dipped to about $43 to $60 a barrel, but distributions have increased by 7.5 percent. In fact, midstream distributions have increased by 1.9 percent in Q2 2015, up from 1.5 percent Q1.

Therefore, new investor concerns about declining oil commodity prices need to be put into context. What matters most is the stability of the distribution, something midstream MLPs have maintained in all market conditions.

MLPs as a hedge for savvy investors
MLPs offer investors real assets that act as a great hedge against inflation and market conditions. This is due to the fact that most midstream MLPs have long-term contracts that are indexed for inflation. In fact, MLPs operating pipelines were allowed to raise their fees 4.58 percent. In July, federally-mandated tariff increases were implemented for pipelines, which include the Producer Price Index. Therefore, with oil prices likely to stabilize with the domestic production boom combined with the increasing demand for oil, midstream MLPs are positioned for growth in the next few years.

The bottom line is distribution growth
MLPs are down by over 18 percent since January, making many lose faith in the sector. New investors see the record lows in oil prices, and may be scared off from the energy sector as a whole. But it is important to note that the Alerian MLP Index has grown by 4.3 percent this third week of August, showing that the sector has recovered a substantial portion of the losses it incurred with the price collapse.

Supporting this rebound is Darren R. Schuringa, chief investment officer for Yorkville Capital, who explained that midstream MLPs are yielding 7.5 percent. What this means is that the pullback in the sector was not related to the fundamentals of these midstream companies. So with these midstreamers unaffected by market volatility, distributions have been maintained and exceeded.

For context among new investors to the sector, the spread between MLPs and U.S. Treasuries is a good comparison. This is due to the fact that historically, when spreads between MLPs and U.S. Treasuries have been wider than 5 percent, MLPs produced positive returns over the next twelve months 100 percent of the time. This is what makes the current market conditions a great entry point for new investors.

But when infrastructure MLP distributions are put under review, it is clear that with 11.5 percent growth year-over-year, investors are provided with high yielding assets that are volatility resistant.

tags: Master limited partnerships, master limited partnerships 2016, master limited partnership 2015, MLPs, MLP performance, Treasuries MLP, MLP yield