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Hinds Howard

Principal, Associate Portfolio Manager, Infrastructure

Week Thoughts: Market Advances, Midstream Unmoved

It was a short, but steady week for midstream, helped by strong Canadian midstream performance that more than offset weakness from MLPs.  Midstream stocks underperformed utilities and the S&P 500, both of which finished the week up 18.8% YTD on a price basis.  On the macro, a sub-50 ISM number caused some heartburn Tuesday, which was long forgotten after gains Wednesday and Thursday risk-on trading.

Midstream stocks were weaker than you’d expect in a positive tape for commodity prices.  Oil prices were up on a bullish inventory report and the general risk-on vibes, while natural gas traded up in spite of bearish inventory data.  NGL prices rallied, ethane prices continue to recover off late July lows, normalizing back into the historical range (see chart below).  And yet, the market apathy towards midstream left the stocks little changed overall.

At the Barclays Energy CEO conference this week, midstream messages communicated were the same messages we’ve heard, and it seemed the market was more willing to hear those messages this time around, at least early in the week.  The messages included:

  • Capital disciplined growth focused on defending strong existing footprints
  • De-leveraging (natural or otherwise)
  • Potential for additional asset sales, especially with what is seen as a wide value gap between public and private markets
  • Potential for buybacks some day
  • Universal disdain for offensive M&A given the bid-ask spread and robust organic growth opportunities

Midstream Demolition Man

It’s been a while since I tried to connect an obscure film from my childhood to the current state of the midstream market, so here is how I got there.  I started the search for this week’s film with a common trope I thought I could build on: using bad guys to get bad guys.  And I went from there.

  • Sometimes it takes a criminal to catch a criminal, like in the film “48 Hours”.
  • Sometimes you have to get inside the mind of a criminal to catch a criminal, like in “Silence of the Lambs”.
  • Sometimes you need to deputize a whole group of really hot young actors to be regulators to catch a criminal, like in “Young Guns”.
  • Sometimes you need the only man to ever break out of Alcatraz to break back into Alcatraz to catch some criminals, like in “The Rock.”
  • Sometimes being a criminal can lead to a career helping to catch criminals, like in “Catch Me If You Can”.
  • And, sometimes it takes the police officer who caught the criminal several decades prior to catch the crazed criminal who breaks out of prison in utopian future Los Angeles several decades after being cryogenically frozen, which is what happened in the 1993 film “Demolition Man.”

Demolition Man got a lot of play in my house growing up, likely due to an extended run on the premium movie channels we had growing up.  It came out in 1993, starred Sylvester Stallone as John Sparton and Wesley Snipes as Simon Phoenix, who sported a style and attitude that Dennis Rodman would co-opt immediately after the film’s release.  Demolition Man was a critical (62% Rotten Tomatoes) and commercial ($159mm in box office) success. 

Several quotes from that film I believe relate to the midstream market today.

“Simon Phoenix is an old-fashioned criminal, and we need an old fashioned cop.”

Sometimes, it takes an MLP mafia member to explain honestly what’s happening in the MLP sector, which is what I try to do here.  Despite being an MLP insider and homer for the sector, I have advocated caution at times when others are permanently bullish.  There are times to have high midstream exposure and times to have low exposure, unless you are an individual investor seeking to hold MLPs forever.

Given all the mergers, chances are you’ve been forced to step up your basis in some MLP investments.  Be sure to use those taxable events to re-assess your overall allocation to what has become an increasing cyclical sector with shorter cycles. 

“We’re police officers, we’re not trained to handle this kind of violence.”

This quote from Rob Schneider’s character in the film reflects (to me) the challenges of navigating a new normal in midstream when memories of the old normal remain firmly implanted.  Buy-and-hold MLP investors of old have likely been surprised several times in recent years by the unfamiliar distribution cuts and violent swings in prices. 

But investors are trained now to look more skeptically at high yields offered in midstream, because 111 times in the last 5 years, those yields were reduced by either outright or stealth distribution cuts.  That may be why yields are so elevated today.

“Anything not good for you is bad, hence illegal.”

The utopian Los Angeles outlawed everything, including cursing and gasoline, among other things.  Along the same lines, Democratic nominee hopefuls are making aggressive statements regarding fracking in recent weeks.  If such promises were actually carried out (i.e. if Elizabeth Warren banned fracking nationwide), it would quickly erase the last decade plus of progress on energy independence that fracking has enabled. 

The utopian society of Demolition Man was silly in its uber sanitized fascism, but at least before outlawing toilet paper, they first developed an alternative method that (apparently) worked: the three seashells.

“Taco Bell was the only restaurant to survive the franchise wars…so, now all restaurants are Taco Bell.”

It is starting to feel like this quote somewhat in midstream, where rationalization and consolidation may eventually lead to a few very large companies controlling most of the assets.  As noted in this post, almost all natural gas pipelines are already owned by corporations.

Not all the current midstream companies will survive the current period of contraction.  As noted a few weeks ago, more than 80 tickers in the universe have already been eliminated.

“You are an incredibly sensitive man, who inspires joy-joy feelings in all those around you.”

In the film, this quote is what an automated kiosk tells a citizen after that citizen tells the computer therapist he isn’t feeling his best that day.  Affirmation that you are not alone in being interested in midstream is sometimes helpful.

Quality midstream stocks own important infrastructure that is necessary to support growth in demand for energy globally.  Quality midstream stocks are improving their financial positions and should achieve high free cash flow levels if they can remain disciplined.  Quality midstream stocks will continue to outperform, driven by the strength of their existing footprints, prudent capital deployment and their superior access to capital.  Owning quality midstream stocks is likely to inspire joy-joy feelings.

Winners & Losers

Beaten down gathering & processing names (SMLP and WES) led MLPs in performance this week.  WES came out with its first real public/investor relations effort specifically focused on WES since the sponsor sale news broke, which may have allayed some concerns and help its stock price. 

There was no material news on any of the top or bottom 5 performing MLPs this week, just general noise. On the downside, USAC was a notable underperformer on what appeared to be some negative articles published on Seeking Alpha this week. 

SMLP repeated near the top this week, while big winners last week NGL and USAC dropped to the bottom 5.  Note: I removed MMLP from the charts because it has less than $250mm market cap at this point.  That makes SMLP the worst performing MLP for the year so far, even after leading all MLPs in performance the last two weeks.  BPL took over the top spot as the best performing MLP for the year after NGL fell back.  PSXP and TGP joined the top 5, replacing USAC and CEQP. 

Midstream Corporations

Beaten down gathering & processing names (TRGP, ALTM) topped the winners list for U.S. corporations this week.  Beneficiaries of higher commodity prices and more optimism around China trade discussions (such as Cheniere and again TRGP) were notable outperformers as well.   Non-Permian focused natural gas players were the biggest losers this week.  AM’s weakness was helped by Friday’s big seller via block trade and an analyst downgrade of parent AR.

ALTM went from near the bottom to first place this week.  TRGP repeated in the top 5 this week.  ETRN and AM repeated near the bottom of the group.  On the YTD leaderboard, TRGP broke back into double digit total returns YTD.  ETRN dropped a spot on the bottom 5, edging closer to AM.

Canadian Midstream

All Canadian midstream corporations were positive this week, except for TRP, which took a respite after leading the group last week.  Smaller names led the way, perhaps on more M&A speculation, but likely just trading on positive commodity prices and fundamental optimism that was lacking in the U.S. market.

Week over week, the three worst performers last week (IPL, KEY and GEI) were the best three this week.  No changes to the order of the YTD leaderboard, but notable that ENB is back above 15% total returns YTD (in USD).

News of the (Midstream) World

Like many companies across the market, midstream companies eagerly jumped on the opportunity to issue debt at low interest rates this week.  There was $3.45bn of debt from investment grade MLP issuers this week.  Also, there was a head scratching block trade that weighed on AM Friday.

Capital Markets

  • MPLX priced public offering of $2bn of unsecured senior notes (press release), including:
    • $1bn of notes due 2021 at par with interest at a floating of three-month LIBOR plus 0.900% per annum, reset quarterly
    • $1bn of notes due 2022 at par with interest at a floating of three-month LIBOR plus 1.100% per annum, reset quarterly
  • Phillips 66 Partners (PSXP) priced public offering of $900mm of senior notes (press release)
    • $300mm of 2.450% notes due 2024 at 99.763% of par
    • $600mm of 3.159% notes due 2029 at 99.781% of par
  • Enable Midstream (ENBL) priced offering of $550mm of 4.150% senior notes due 2029 at 99.821% of par (press release)
  • Large holders of Antero Midstream (AM), funds owned by Warburg Pincus and Yorktown, sold 20mm shares of AM in a block trade at $6.88/share (3.8% discount to prior closing price), for proceeds of $137.6mm
    • Same holders sold 19mm worth of shares at $13/share in a 144A block trade in May
    • Willingness to liquidate shares at 47% discount to sales from 3 months ago shows a shocking level of price insensitivity

Growth Projects / M&A

  • New reports revealed the source of the $30/share bid that was rejected by Inter Pipeline (IPL), as reported a few weeks ago (Globe and Mail)
    • Bidder was CKI Infrastructure, Hong-Kong based company backed by billionaire Li Ka-Shing
    • CKI Infrastructure is a global infrastructure investor with investments in Canada, including investments in Husky Midstream, joint venture with TransAlta and parking lot services at airports
    • According to this article, IPL reportedly was concerned with the political risk of a deal with a foreign investor that might not receive approval, less focused on the price or avoiding a sale altogether
  • Cheniere (LNG) announced substantial completion of Train 2 at its Corpus Christi liquefaction facility (press release)
    • Under sale and purchase agreements, the date of first commercial delivery from this LNG train is expected to occur in May 2020, and until then Cheniere can realize marketing revenue
    • Execution and on-time construction of massive LNG export projects continues to impress
  • NuStar Energy (NS) announced it has completed and is moving volumes on three key pipeline projects that will expand capacity to transport and export Permian crude oil (press release)


  • Shell filing indicates delay for Lake Charles LNG export project until at least 2025 (Reuters)
    • Energy Transfer (ET) is a partner in the project
  • Buckeye (BPL) provides update on impact of Hurricane Dorian on its operations at its Buckeye Bahamas Hub (press release)
    • BPL reported that all of its employees had been accounted for and that its initial assessments found minor damage to the facility but no indications of any product release