MLPs in Good Shape, Despite Credit Crisis

The last 12 months have been an unusually volatile time for MLPs.

Traditionally they are low beta securities, but in September 2008 stocks fell off the cliff and MLPs joined in the massive sell-off. It looked like the end of the world; there were even requests to get Chicken Little's phone number. MLPs then had a very rough five months but came roaring back from the lows in March 2009. The Alerian MLP Index (AMZ) shot up from under 160 to just above 250. Then for two months the index traded sideways in the 240s; no advance while the rest of the markets kept going higher. Wednesday marked a new 2009 high of 252, but because the index did not break through the ceiling with conviction it's too early to tell if MLP buyers can take the index to new highs.

MLPs pipelines kept moving oil and gas in 2009. They have been able to secure large sums of outside financing for capital expansion (their main business), though a few MLPs have had to eliminate distributions to get their finances squared away. BreitBurn Energy Partners (BBEP), for example, just reaffirmed its borrowing base of $732 million (Translation: it reduced borrowings by $150 million and gave the impression that distributions may return fairly soon). The units gained and have more than doubled from the depressed lows earlier in 2009. Constellation Energy Partners (CEP) also eliminated its distribution in 2009 and will probably make an announcement soon about improving their finances. MLPs announce results and distributions for Q4 later in October.

The two largest MLPs, Kinder Morgan (KMP) and Enterprise Products Partners (EPD), have continued to attract billions for their capital expansion programs. Kinder Morgan said it has already raised over 75% of the $1 billion in equity funds it expected to raise by selling units in 2009. Increased equity allowed it to increase borrowing with attractive rates at a time when loans have been difficult to obtain. Enterprise Products Partners just borrowed another $1-plus billion after selling more than 8 million units. It is also completing a merger with TEPPCO Partners (TPP) which will make it the largest MLP.

Overall, MLPs have gotten through the credit crisis in good shape. Many have maintained or increased distributions, only a few have cut or reduced theirs and it looks like they will survive. The very brave might want to buy MLPs which have eliminated distributions hoping to benefit from higher prices if distributions are restored (or partially restored).

The biggest worry is if the economy pulls back again, how will that affect MLPs? Their results are fuzzier than for other companies since distributions are paid from distributable cash flow, not EPS, and few really understand distributable cash flow.

Disclosure: No positions

Comments

[MattZN:]

Distribution yields on the mid-stream segment have steadily dropped (due to their rising equity prices) to around 7%+. The G&Ps (gatherer and processors), which are more exposed to NG (Natural Gas) prices, still have yields in the 10%+ range indicating that investors still consider them fairly risky. That could be an opportunity for investors late to the game. I still consider the G&P space fairly speculative, though. Natural gas use is steadily increasing in the U.S. and low prices could help boost the bottom line for large energy users (such as steel producers), but use may not increase quickly enough to help recover NG prices.

If we see a recovery in natural gas prices I would expect to see the yield spread contract between the mid-stream and the G&Ps space, meaning their equity prices will go through another growth spurt.

If instead we see NG fall off another cliff, or not recover from their current lows, the G&P's distributions will probably drop resulting in a similar reduction in the spread. The equity prices for the underlying securities would then become extremely volatile. Again.

It will be interesting to see what actually happens. It also helps that the dollar has fallen so much since MLPs have significant exposure to commodity prices (depending on the type of MLP). I don't see the dollar recovering any time soon so right now my attention is focused on NG prices.

-Matt

Oct 08 06:42 PM

[zorro6204:]

You stated what seems to be a popular misconception concerning distributions by BBEP. This is what they said in the press release:

"As we begin the 2010 planning process, our improved liquidity position will allow us the flexibility to further accelerate capital spending to levels that should enable us to hold production flat and subsequently re-establish distributions when leverage has been reduced to acceptable levels."

First will come the 2010 planning process, then an increase in capex, then a reduction in leverage and then (subsequently) distributions. The way I read that, we're talking the second half of 2010 at the earliest. If the market thinks that's "fairly soon", well . . . fair enough!

It's a good investment, at a fair price, but there are other MLP's paying what BBEP did before suspending that trade in the $16-17 area, LGCY and VNR for example. Logically speaking, even if BBEP did re-establish the distribution in the $2 area for Q3 2010, a cap for the current price should be in the $14-15 area. It closed today at $12.81.

Disclosure: long BBEP, LGCY and VNR.

Oct 08 07:09 PM

[Juliet:]

It looks like Seth Klarman owns well over 8 million units of BBEP at an average of about 14 dollars a share. I wonder what he sees in it, then.

Oct 09 12:21 AM

[zorro6204:]

A loss he's trying to recoup? BBEP hasn't traded at $14 since the fall 2008 crash. Besides, you can argue that $14 is a fair value in relation to its peers, so what do you expect him to do, sell in the $12's?

Oct 09 10:11 AM

[Ozarker:]

Who is Seth Klarman and why should I need to know?

Oct 09 10:23 AM

[tk77mann:]

Ozarker,

Seth Klarman is an under-the-radar value investment manager who runs Baupost Group, a mutual fund which has averaged 20% annual returns since he helped found the fund in 1983 or so. His fund now only invests for not-for-profits now to help them.

He wrote a value investing book, Margin of Safety, which is now out of print and sells used on ebay for ~$800 a copy. It describes his valuation and investment style, which is based on Ben Graham's approach.

Here is a link to one interesting article. finance.yahoo.com/news...

Here is a link to a speech he gave to finance students which also describes his work and approach to investing. We should all be so thorough and analytical when picking investments.

www.gurufocus.com/news...

Oct 09 11:20 AM

[tc1:]

It was by following Seth Klarman's moves that, as a fairly new investor, i became interested in Linn Energy (LINE) and Breitburn Energy (BBEP) last Dec. (2008) I promptly took out a large position in LINE (up over 105% percent since doing so) and, six weeks later, a somewhat smaller position in BBEP (despite the subsequent dividend suspension, it's up 53% since i bought BBEP in late Jan.).
Though i'm not flush enough to be invested in Klarman's hedge fund, just following his lead has helped me see a handy shareprice gain in these two positions over the last 10 months.

For the record, my LINE investment was definitely helped by having Barron's magazine just several days later in Dec. 08 strongly recommend LINE, and then Jim Cramer visibly and vociferously got behind LINE and its CEO Michael Linn early in 2009. It sure helps to have these populist cheerleaders come and support any position that one has fortuitously taken.

Btw, readers interested in these U.S. MLPs will likely also want to investigate the various Canadian oi/gas/renewable energy "Canroys," the Canadian royalty energy income trusts, which, despite the looming 2011 tax issues for some of these companies, nevertheless look to become prominent value companies over the coming years (e.g., BTE, PWE, Brookfield Renewable, Boralex Power, et al.).

Oct 10 03:02 PM