MLPs in 2009: Fundamentals Remain Strong

Includes: EEP, KMP, SPP
by: Avi Morris

While the stock market got a bad start this new year, MLPs have done much better. The Dow is down 6% YTD. But the Alerian MLP Index, even after a 12 point surge on the opening day of trading in 2009, is up 3% to 194 and has been sticking very close to the 195 line. MLPs, as high yield securities, may be benefiting from greater investor interest shown for high yields.

However, MLPs may be going through trying times. The recession is biting hard and maybe for MLPs in ways we can't fully assess. Already distributions, which are key to their valuations, are bringing mixed messages. Mixed is a metaphor for cuts, a new phenomenon for MLPs. A dozen MLPs are selling in single digits with extraordinary yields (20%, 30% and even higher).

One of those, a smaller MLP, Constellation Partners (CEP), recently cut their annualized distribution 77% from $2.25 to 52¢. Ahead of the news, the units had sold off to 2½. A few days after the news it virtually doubled, then pulled back to the lower 3s. Even at yesterday's price, its yield is heading back to 20%. But a few others have increased or at least maintained distributions.

Kinder Morgan (NYSE:KMP), the largest MLP, recently raised $900 million in financing (units and debt) followed by slightly higher market prices. They just announced the next distribution would be paid based on a $4.20 annual rate, up from a $4.08 rate in the last quarter. While their guidance was encouraging, KMP expects to pay distributions of $4.20 in 2009 (i.e. no further increases). In the next two weeks, the remaining MLPs will announce Q1 distributions. It will be interesting to see what influences the MLP index, the good news on distribution hikes or the bad news about cuts.

Most MLPs move oil and gas. With low prices for oil, not to mention other fuels, it is difficult to assess their impact on MLPs. MLPs just move oil and gas through their pipelines, they are not directly impacted by sharp declines in commodity prices.

For instance, I have followed Enbridge Partners (NYSE:EEP). They move oil and gas, but the oil (called liquids) is most interesting for me. They bring shale oil from Alberta, Canada, down to the upper Midwest and to eastern Canada. Shale oil makes Canada the top source of imported oil for the US, but it's also high priced. Those high prices may pinch Canadian producers, meaning less oil sent through the pipelines at the same time Enbridge is undergoing a major expansion for its oil pipeline capacity. These kinds of worries may not be much different than the uncertainties most companies are going through. But long term prospects for the industry are still quite good as the US needs more pipelines to move energy around the country.

Fundamentals remain strong for MLPs. They have good track records of growth, high yields and a history of raising distributions. This year is starting off very bumpy for the US economy, which adds uncertainty to MLPs. But for investors with long term horizons, strong MLPs offering high yields should help investors get through a difficult year (or longer if needed). After 13 years, the index has almost doubled (and that measure is hurt by a depressed value today). Including reinvested income, the index has grown to more than 4X (equivalent to a 11½% compounded annual growth rate). High yields and excellent growth prospects makes for very smart investing.

Disclosure: no positions