Category Archives: MLP Market Post

MLPs finished the week very close to highs of the year, after a 1.4% week that once again beat stocks and gold.  Treasuries were favored this week as well, as it appears investors are targeting income all across the risk spectrum from limited risk (treasuries) to stocks and MLPs.

Despite the strong finish, it was a rocky year for MLPs, which hit their peak on April 28th.  The S&P 500 hit its peak on April 29th (1363.61), the difference is, MLPs have retraced almost 100% of the subsequent drop, while the S&P 500 closed flat for the year.  The S&P 500 finished up 11.1% for the 4th quarter, MLPs finished the year with a 14.5% 4th quarter (not including distributions). MLP Index had total return of 16.3% in the 4th quarter, the 4th best quarter ever for the Index and largest since the 4th quarter of 2009.  MLP Index finished December up 5.7%, the second best quarter of the year (after 9.6% in October).  For the year, MLP Index had a total return of 13.9%, its 10th positive year in the last 12.

The darkest day of the year for S&P 500 was on October 3rd, when it closed below 1100, before rallying 100+ point the next 7 trading days.  The low of the year for MLPs was August 8th, when the index closed at 315.91, 13% lower than it began the year and 19% from its peak.  Since that day, MLP index has gained 23.4%.

What worked in 2011?

• Recovery stories: EROC, APL
• Drop down stories: WPZ, GMLP, WES, TLLP
• Large caps: SXL, OKS, WPZ
• General partner holding companies
• UTICA: EVEP

What didn’t work in 2011?

• Natural gas storage: NKA, PNG, NRGY
• Propane: NRGY, FGP
• Contract compression: GSJK, EXLP
• Thinly traded small caps: NKA, OXF, CPLP, GSJK, STON

Last year (2010), only one of the 59 MLPs I was tracking had a negative year.  This year, 28 of the 70 MLPs that I track (40%) had negative total returns this year.   Only 1 of the top 10 largest MLPs was negative for the year (ETP), but five of the next 10 largest MLPs (10-20) had a negative year.

What will work in 2012?

• Gathering and processing in liquids rich plays
• General partners
• Small caps (relative to large caps) as new money continues to chase MLPs
• E&P MLPs

Winners and Losers This Week

CHKM led MLPs higher this week, helped by the announcement of a $865 million acquisition from its parent company, CHK (press release).  The deal was funded with $600 million in debt and $265 million in equity issued directly to CHK.   Biggest loser of the week was STON, basically taken down by a short seller’s public hit piece, detailed and discussed here.

News of the MLP World

Only other piece of news beyond the CHKM deal was EPD’s sale of $825 million of its ETE units.  EPD took advantage of prices for ETE not seen since early August, and received approximately $36.25 per unit, or about a 9% discount to the price per unit the day before the announcement.   ETE reacted positively initially, closing Tuesday up 3.5%, but drifted lower the rest of the week, closing up 2.0% for the week.

All else being equal, ETE is a more attractive company without the overhang from the EPD-owned units (overhang meaning the market knows EPD is out there holding more than $1.1 billion of their units, and will eventually sell).  After the transaction, EPD still holds 7.6 million units worth more than $300 million, so there is still some equity overhang out there.  It’s a great deal for EPD, which collects $825 million in proceeds, funding a substantial portion of its capital budget without causing volatility for EPD unit holders.

EPD has done an excellent job in recent years of tapping alternative sources of cash to equity offerings.  In addition to periodically selling ETE units it owns, EPD has steadily grown its coverage ratio (i.e. they have decreased percentage payout and retain more operating cash flow) to reduce its equity capital needs, and has tried hybrid junior subordinated notes in 2007.  “Necessity is the mother of creation” as they say, and as the largest MLP out there, EPD needed a way to avoid having issued $2.0+ billion of equity each year to keep growing, in a still developing MLP equity capital market that only issues around $20 billion of equity each year as a sector.

Disclosure: The information in this article is not meant to be financial advice, we are not your financial advisor and I am posting my comments for informational purposes only. 

The most public take down of a company by a short seller this year was when David Einhorn of Greenlight Capital outlined his short position in Green Mountain Coffee Roasters (as discussed in this interview with Reuters here).  Einhorn built his short position, then went public with his short case when the stock was at $92.09 on October 14th (after peaking at a closing price of $111.62 in early September).  Green Mountain had disappointing third quarter earnings, and finished the year with a price of $44.85.

A lesser known public short campaign played out this week for a largely misunderstood MLP that has a loyal following: StoneMor ($STON).  STON owns and operates cemeteries and funeral homes.   STON has a rollup strategy in a very fragmented industry, which has allowed the partnership to consistently buy assets at less than 5x EBITDA, a very attractive multiple that MLPs operating more traditional energy midstream businesses can’t find.

There is a GAAP accounting issue that causes STON to look worse than it is on a cash flow basis, related to the timing of pre-need services sold.  STON carries a 10% yield, has never cut its distribution, has actually raised its distributions per unit each year since it went public in 2004 (averaging 1.8% annual distribution growth last 3 years)

STON has had a rough year end.  Since closing at $28.89 per unit on November 29^th, STON has dropped 18% to finish the year at $23.45.  S&P downgraded some of STON’s unsecured debt on November 29th, citing cash flow issues and the need to issue equity to fund distributions.  That caused the initial dropped, which STON was attempting to recover from when an article was published on Seeking Alpha by Brian Harper, who manages a small hedge fund and asset management firm ($16 million of assets as of December 2010, according to SEC filings).  That seemed to cause the 5.8% drop on Thursday this week, and the overall 9.5% drop this week.

The article Brian wrote can be found here on Seeking Alpha.  He says STON’s issues go beyond the nuances of their accounting for pre-need services.  He highlights that coverage ratio has declined, management has watered down the definition of distributable cash flow, equity issued appears to be funding distribution growth and founding management cashed out in the February stock deal.  While certainly some of those things are true, others are debatable.  This rebuttal article by Jens Heycke does a nice job of explaining some of the confusion.

Who knows how long Harper has been short.  Maybe he’s been short since the news broke that S&P’s announcement on November 29^th, and STON’s upward trend since the initial drop wasn’t working for him.  Maybe he was in desperate need for some returns heading into the end of the year, and built a short position, then published the article.  However long he has been short, the gameplan worked.  STON’s complicated operations adds confusion to what would ordinarily be an obvious hit piece.

It’s always amazing to me that people own an MLP without understanding how the business works.  If you own STON and it was news to you that STON issues lots of equity and when looked at on a PE basis it will look more expensive than its peers, maybe it makes sense for you to sell.  The investors that like STON are the long term types that like it when weak hands sell, giving them an opportunity to buy more stock at the right time: when its on sale.  I don’t own any STON, but have met with management and they seem credible.  There may be some risk and red flags out there to some, but that’s why STON carries a 10% yield, and not a 7.5% yield.

What interests me about this week’s action going forward is how well it worked, because its likely to be tried again on other small cap MLPs with light volume and thin research coverage.

It has never been easier or cheaper for short sellers to execute smear campaigns on companies they are short.  Seeking Alpha, Stocktwits, message boards and blogs are all hungry for ideas.  If you write an article and submit it to Seeking Alpha without enough “actionable” ideas, it will not get published.  To get published, you throw an idea out there, even if you (a) don’t know what you’re talking about or (b)  are deliberately confusing people and trying to get people to sell, an idea is an idea.  If the idea is controversial and leads to a bunch of comments from people saying the author doesn’t know what he’s talking about, even better (more page views!).

The sad part is that for MLPs there are so few sources out there with opinions about thinly traded MLPs, that even some random guy with a small fund and a short pitch gains traction and moves the market for a stock.  As more people start to discover MLPs, I expect what happened to STON to become a trend going forward, creating opportunities to acquire small cap MLPs on sale in the future.

Disclosure: The information in this article is not meant to be financial advice, we are not your financial advisor and I am posting my comments for informational purposes only. 

2011 appears to have been the year of the aristocrats.  Our country’s aristocrats, the 1% top earning Americans, have garnered lots of negative press in the second half of the year.  And this month, I am reading in several corners of the internet about how well so-called “dividend aristocrats” are doing relative to other large cap stocks, most notably this post at the Wall Street Journal and James Bianco on The Big Picture blog.

A common index for people to point to when discussing such stocks is the S&P 500 Dividend Aristocrats, which consists of the S&P 500 members that have increased their dividends every year for the last 25 years.  That index currently consists of 51 members, mostly household name type companies such as Walmart, Exxon, Colgate-Palmolive, McDonald’s, Clorox and Coca Cola.

So far in 2011, through 12/23/2011, the Dividend Aristocrats Index has risen 5.8% not including those dividends compared with the S&P 500, which has been roughly flat.  The average dividend yield of the constituents of the Dividend Aristocrats Index is 2.8%.

What would a list of MLP distribution aristocrats look like, and how would it have performed?

First, given that energy MLPs in their current form have only really been around since 1986, there are not very many MLPs that have been around to pay distributions for even 15 years, much less 25 years.  So, to make a distribution aristocrat list, the criteria for inclusion would need to be relaxed a bit.  To make it very simple, for my MLP list, I’ll include MLPs that have grown distributions each year for the last 10 years.  There are 11 such MLPs, as shown in the table below.

That simple criterion excludes those MLPs that went public less than 10 years ago, even if they have grown distributions consistently since their IPO.  11 out of the 50 MLPs included in the MLP Index is slightly more than 20% of the index constituents, but 52% of the MLP Index’s weighting.  In case you were wondering the longest streak of annual distribution growth of MLPs that are not in the Alerian MLP Index are HEP and STON, each with 7 straight years, followed by TLP at 6 years.

The table below highlights the results over the years.  I left out the MLP distributions, because showing these numbers on a total return basis just isn’t fair given by how much MLPs have outperformed stocks on a total return basis over the years, as discussed here.

The results are not surprising, given that large cap MLPs have outperformed in 2011, and most of the list is large cap MLPs.  The general rule that gets thrown out about dividend aristocrat stocks is that they outperform in down markets and under-perform in up markets.  That appears to be the case in 2007 and 2008 for both stock aristocrats and MLP ones.  But in 2006, 2009 and 2010, all strong years for stocks and MLPs in general, the aristocrats faired very well also.

Looking at these numbers, it’s hard to argue against owning aristocrats vs. regular stocks / MLPs, over any time period.  Companies that are disciplined about maintaining and growing distributions can’t afford to waste their cash flow or earnings on low-return or no-return projects.  Capital discipline is extremely important, particularly in an era where capital is so cheap and the temptations to squander capital are rampant.

What do you call your act? I call it The Aristocrats!

Disclosure: The information in this article is not meant to be financial advice, we are not your financial advisor and I am posting my comments for informational purposes only.