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January 16, 2014

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2014 MLP Over Unders

Now that everyone has read everyone else’s 2014 outlook on MLPs, natural gas prices, oil exports, U.S. production, propane exports, etc., you can apply what you’ve learned by sharing your expectations with us.  Below, for the third straight year, I outline the MLP odds.  The goal is to discern the market’s expectation for certain numbers related to the MLP sector, and then to make a directional call on that number with some commentary.  In other words, we set lines for MLP sector numbers and we enter our picks (see previous years: 2012 and 2013).  Then we come back next year and review how we did (last year I went 8 for 13).  The concept was originally inspired by a recurring segment on the TV show “Pardon the Interruption” called Over Under.
Because I set the lines, it would be easy for me to set it up so that I get almost everything right.  I do make an honest attempt to set the lines, though, because this piece is more about having fun and stimulating thought than about getting everything right.  This year, by voting in the 10 categories below yourself, you can either agree with my pick or disagree, and as Rich Kinder said on the KMP earnings call yesterday, “you sell, I’ll buy and we’ll see who comes out best in the long run” (transcript).

  • Line: 12
  • My Pick: Under
  • 2013 Result: 19 (not counting CQH or PAGP)
  • 2012 Result: 12

The last three years, we have seen an average of 15 MLP IPOs per year.  I expect fewer IPOs this year than last year.  At the beginning of 2013, the pipeline of companies that had discussed forming an MLP or had filed a prospectus for an MLP IPO was significantly higher that it is today.  Also, the tailwinds from the stock market and MLP stock prices helped keep the IPO train going all year in 2013.  Although it is still early in the game, we haven’t seen much strength in MLPs this year. Sorry, there are no polls available at the moment.  
2. Returns vs. S&P 500

  • Line: Pick ’em
  • My Pick: Over
  • 2013 Result: -482 basis points
  • 2012 Result: -1050 basis points

My thought is that MLPs will outperform the S&P 500 this year after underperforming by a wide margin in each of the last two years.  Interest rates and tempered 2014 guidance proved to be a headwind in the second half of 2013 for MLPs.  Interest rates may rise, but probably not on a percentage basis by as much as they did in 2013 (when the U.S. 10-year treasury rate rose from 1.76% to 3.03%), and modest rate increases we believe are priced in.  The secular tailwinds of U.S. energy activity persist for MLPs, and should help MLP distribution continue in 2014, even if the broader stock market takes a pause, allowing MLPs to hopefully outperform in 2014. Sorry, there are no polls available at the moment.  
3. Variable Distribution IPOs

  • Line: 3
  • My Pick:Under
  • 2013 Result: 3
  • 2012 Result: 3

Variable distribution MLPs have their place, and their niche of the overall MLP sector will continue to grow in 2014.  But I don’t see a flurry of variable distribution MLPs going public this year, perhaps 1 or 2.  The buzz in the marketplace around the structure when it was new and interesting is just not there any more, but the market is still there as an exit option for owners of non-traditional MLP assets.  Fertilizer MLPs have started very strong so far this year, and they may perform well enough to spark more variable distribution IPO activity in 2015, but not in 2014. Sorry, there are no polls available at the moment.  
4. General Partner Holding Company IPOs

  • Line: 1
  • My pick: push
  • 2013 Result: 1, but 3 if you count CEQP and OKE
  • 2012 Result: 1

Each of the last 4 years, we have had 1 MLP GP IPO.  I believe we see another one in 2014, but not more than that.  The logical candidates have all gone public. In 2013, PAA’s GP went public (PAGP), CMLP’s GP executed a reverse merger into NRGY and is now CEQP, and OKE announced a spinoff of its natural gas utility business to leave OKE as essentially a GP holding company of OKS. Sorry, there are no polls available at the moment.  
5. MLP Consolidations / General Partner Sales

  • Line: 4
  • My Pick: over
  • 2013 Result: 9
  • 2012 Result: 2

This line was determined based on the average of the prior three years results, and I think reflects about where the market expectations are.  It is unlikely that we see as many MLPs change hands in 2014 as last year, but I expect we’ll see a few of them.  My best guess is between true consolidations and GP sales, we get around 5 such transactions. Sorry, there are no polls available at the moment.  
6. MLP Distribution Cuts

  • Line: 1.5
  • My pick: over
  • 2013 Result: 1
  • 2012 Result: 3

NRP already announced a distribution cut, just a week into 2014.  So there will be at least as many distribution cuts in 2014 as there were in 2013.  I bet we see at least one more distribution cut.  Anecdotally, an increasing number of MLPs have grown comfortable running their businesses with less than 1.0x distribution coverage.  When an MLP doesn’t cover its distribution with cash flow, that MLP has little margin for error, because one more misstep can put the MLP in major distress that might lead to a distribution cut.  I see that risk rising for MLPs in 2014, particularly those that have direct commodity price exposure and have been holding on to their distribution and waiting for commodity prices to rise and bail them out.

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7. MLP Tax Law Changes

  • Line: None
  • My pick: None
  • 2013 Result: None
  • 2012 Result: None

MLPs have clearly climbed the wall or worry around MLP tax changes.  I think 3Q 2011 was the last time that MLP tax changes fears materially impacted MLP stock prices.  I don’t see those fears resurfacing this year either.  At some point, MLPs may come under fire as part of a broad based tax reform, but I view the risk of such tax reform happening in 2014 as very small.  If you feel otherwise, please indicate by voting as such below. Sorry, there are no polls available at the moment.  
8. Equity Issuance in Marketed Offerings

  • Line: $27.5bn (average of last two years)
  • My Pick: under
  • 2013 Result: $26.5bn (doesn’t include CQH and PAGP)
  • 2012 Result: $28.7bn

Consistent with my picks of under on IPOs and over on ATM programs, which would both reduce the pool of equity raised via marketed offerings, I am going under the $27.5bn line.  I expect that this year we will see marketed equity offerings (IPOs and follow-on offerings) will represent the lowest percentage of the sector’s market capitalization since 2010, when the equity markets were just opening up again after the Global Financial Crisis. Sorry, there are no polls available at the moment.  
9. MLPs Launching At-The-Market Equity Distribution Programs

  • Line: 12.5 (average of last two years)
  • My pick: Over
  • 2013 Result: 17
  • 2012 Result: 8

MLP ATMs have become a large slice of the equity capital markets activity of MLPs, much to many a banker’s chagrin.  Expect MLPs to continue to put these programs in place, and expect the biggest MLPs to issue more than $500mm each using those programs in 2014.  For example, KMP issued more than $1.1bn under its ATM program in 2013. Sorry, there are no polls available at the moment.  
10. MLP Sub-Sector Returns
Sub-sector returns the last 2 years are broken down in the chart below.  General partner holding companies, as per usual, performed well, and were the biggest outperformers last year.  That was helped by the success and trading action in ETE and XTXI.  Upstream MLPs had the weakest results.  I think if each of the subsectors below had a betting line, the favorite would probably be G.P. holding companies. That subsector is the perennial favorite, akin to the New England Patriots in the NFL.  Upstream MLPs would consistently be the longshot, as more often than not, upstream MLPs have underperformed the MLP Index.
Returns by Subsector
My Pick: I’m not going to bet the favorite, although I do have a favorable view of the prospects of GP holding companies.  My darkhorse pick for the top subsector this year is the gathering and processing MLPs, which should generally benefit from rising natural gas and NGL prices as the excitement builds in the second half of 2014 for export possibilities and domestic petrochemical demand coming online in the following few years.  I also believe gathering and processing MLPs will be active in the M&A market, either as acquirers of assets or as acquirees if the MLP consolidation trends continues.   What do you think? Sorry, there are no polls available at the moment.

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