Master Limited Partnerships (ETN proxy AMJ) are generating higher yields than bonds or stock. They have generated higher total returns over 3 months, 1 year, 3 years, 5 years and 10 years than either aggregate US bonds (proxy AGG or BND or VBMFX) or the S&P 500 (proxies SPY, IVV or VFINX). However, the volatility of MLPs is high and essentially the same as that of stocks.
In Part 1, we identified 79 MLPs by primary business activity. That list includes all 50 of the largest MLPs which are constituents of the Alerian MLP index.
We developed this view by identifying the 10 largest MLPs in the Alerian MLP index, which also had 10 years of data, then created a hypothetical equal weighted portfolio of those MLPs for comparison to stocks and bonds. Those 10 MLPs in the portfolio have symbols (in alphabetic order): ARLP, APU, EEP, ETP, EPD, KMP, OKS, PAA, SPH, TCLP. All data is from Morningstar and is as of June 30, 2010.
Note that the hypothetical portfolio is not a recommendation, merely a useful gauge of MLP group performance over a 10 year period.
This table shows the total return for the hypothetical portfolio versus the S&P 500 index as represented by Vanguard's S&P 500 fund (VFINX). The total return data assume monthly rebalancing of the portfolio to equal weighting of the MLPs. Over all periods the MLPs had a higher total return.
This table shows the total return for the hypothetical portfolio versus the Barclay's Aggregate Bond index as represented by Vanguard's Total Bond Fund (VBMFX). The total return data assume monthly rebalancing of the portfolio to equal weighting of the MLPs. Over all periods the MLPs had a higher total return.
In addition to superior total return, MLPs generated less severe "worst" 3-month, 1-year and 3-year periods than stocks. On the other hand, MLPs generated much larger value draw downs than bonds.
While MLPs generated higher total returns than stocks or bonds, they exhibited standard deviations roughly equal to the standard deviation of stocks. They are volatile.
The 12-month trailing yield on the hypothetical portfolio as of June 30 was, 6.88% versus 2..20% for VFINX and 3.62% for VBMFX.
You might want to include MLPs in your portfolio for current yield or total return, but must expect much higher volatility than from bonds.
As we will discuss in some detail in a subsequent article, MLPs generate some extra tax filing complexity due to the issuance of K-1 reports to the IRS, and pose certain risks or issues when used in a qualified plan.
Holdings Disclosure: As of August 8, 2010 we own AGG, BND, EPD, KMP, OKS, and PAA variously in some managed accounts. We do not currently own any other securities mentioned in this article in any managed accounts.
Disclaimer: Opinions expressed in this material and our disclosed positions are as of August 8, 2010. Our opinions and positions may change as subsequent conditions vary. We are a fee-only investment advisor, and are compensated only by our clients. We do not sell securities, and do not receive any form of revenue or incentive from any source other than directly from clients. We are not affiliated with any securities dealer, any fund, any fund sponsor or any company issuer of any security. All of our published material is for informational purposes only, and is not personal investment advice to any specific person for any particular purpose. We utilize information sources that we believe to be reliable, but do not warrant the accuracy of those sources or our analysis. Past performance is no guarantee of future performance, and there is no guarantee that any forecast will come to pass. Do not rely solely on this material when making an investment decision. Other factors may be important too. Investment involves risks of loss of capital. Consider seeking professional advice before implementing your portfolio ideas.