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Hinds Howard

Principal, Associate Portfolio Manager, Infrastructure

Week Thoughts: Market Seeks Shelter, Not MLPs

MLPs and midstream came back to earth this week, dragged down by oil and natural gas prices that were too weak to be ignored by midstream investors after 6 weeks of gains.  It was the worst week for midstream since December 2018.  Even the S&P 500 was down 1.0% this week.  Utilities rallied in the flight to defense.  Utilities are up 11 straight days, catching and passing midstream during that stretch.

MLPs and U.S. corps fared much worse than Canadian midstream, helping AMNA separate from the other benchmarks.

Kinder Morgan Review

Kinder Morgan (KMI) reported results this week that were generally better than anticipated due to natural gas pipeline and CO2 results, mostly.  While some in the market are skeptical KMI can stay disciplined and avoid aggressive M&A, KMI management continues to talk up projects it could have built but didn’t and talk down acquisitions.  

While KMI’s $2.4bn growth capital plan in 2020 will mostly go towards replacing declining EBITDA from CO2 and contract roll offs in the next few years, the trend of lower leverage, de-funding the CO2 business, and the ability to self-fund the entire capital budget make KMI more investable than many other U.S. midstream companies, which accounts for the positive market reaction this week.   

The Dodgers of the MLP World

The Houston Astros and their aggressive sign stealing in recent years continues to ripple through major league baseball.  The Red Sox and Mets have changed managers as a result.  World Series wins for the Astros and Red Sox are now to some degree tainted, but the World Series championships won’t be vacated or replayed.  The results will stand.

These sign stealing revelations may be most frustrating for the Los Angeles Dodgers, the team with the best record in baseball from 2017-2019, but with nothing to show for it.  They were the losing team in the World Series in 2017 and 2018. 

What the Dodgers (especially Clayton Kershaw) and their fans must feel is probably similar to what the management teams and investors of MMP and EPD must feel.  They have been objectively the best MLPs of the group.  EPD is more of a standout because of its scale and operating results, MMP more because of its standout capital discipline and balance sheet. 

They have been the Dodgers of the MLP sector, nothing much to show for their excellence.  EPD continues to trade below $28/unit today, unable to sustain a $30/unit price for 5+ years now.  MMP outperformed this week after announcing a $250mm asset sale and a $750mm unit repurchase program, while leaving the door open to special distributions.  MMP trades at a premium multiple to the MLP group, but its stock price continues to lag midstream corporation peers in the U.S. and Canada.

Why Should I Change?

The answer, for an increasingly vocal group of investors, is for MMP and EPD to leave the MLP group altogether by converting to a corporation.  Corporate conversion will be a big discussion point on the EPD earnings call this week.  I expect their comments on that issue will be consistent with recent messaging: they continue to evaluate it, but they don’t see it as a panacea for better valuation.  EPD will also voice concerns that the current tax regime could prove temporary, while conversion to corporation is permanent, so shouldn’t be done lightly.

All of the above reminds me of the character in Office Space named Michael Bolton.  It’s a running gag in the film that his name is the same as the popular soft jazz musician.  At one point his buddy Samir asks him why he doesn’t change his name if it’s so annoying.  His response is perfect: “Why should I change, he’s the one who sucks!”

Without saying those words, EPD probably shares a similar sentiment when it comes to the rest of the MLP sector.  Why should they or MMP change when it’s other MLPs with problems?  While these MLPs have been good actors in a space where there have been bad actors, there comes a point when it doesn’t make sense to fight against the wave of fund outflows and the slow march towards irrelevance for these large cap names that have outgrown the MLP structure.

An Invitation to a Houston Meet-Up

I will be in Houston late next week and want to use my short time in town to maximize the opportunity to connect with those in the midstream community.  I plan to post up for a few hours in a local Starbucks.  I’d be happy for any readers to stop by.  If meeting is of interest, but you don’t live in Houston or will be busy on that particular day, respond and let me know so I can circle back when I’m in your area or maybe we can set up an ad hoc call or meeting.

Potential Discussion Topics:

  • MLP and Midstream outlook
  • Infrastructure – what it is, outlook relative to midstream and utilities
  • Pipeline history, movies, sports
  • Deadlifts, intermittent fasting

You are invited to MLPguy Office Hours in Houston:

  • Date: Thursday (1/30/2020)
  • Time: 2-4pm
  • Location: Starbucks at this address: 5535 Memorial Dr A, Houston, TX 77007
  • RSVP by email ([email protected]) or via Twitter DM.
Winners & Losers

MLPs

It was an ugly week for winners this week.  None of the MLPs in the Alerian MLP Index were positive this week, the only marginally positive ones were names like CINR, HMLP and EVA that aren’t in the AMZ.  There were plenty of losers this week.  The biggest one was GLOP, which was down 28% apparently because of a downgrade, potential distribution reduction and loose global LNG market. 

EQM went from top 5 to bottom 5, giving back last week’s gains and more.  On the YTD leaderboard, GLOP and EQM are suddenly at the bottom.

Midstream Corporations

Midstream corporations as a group had median returns below the MLP Index, but on a market cap-weighted basis, this group outperformed MLPs, given KMI was positive and OKE outperformed.  KMI rallied hard after the strong results to finish the year caught the market off guard.

The biggest losers were those with upstream-oriented midstream assets in support of natural gas assets (ALTM, ETRN, AM).  ENLC gave up most of last week’s gains, despite an investor relations tour through New York City.

Week over week, ALTM repeated at the bottom, KMI went from near the bottom to the top.  By staying flat, TGE underperformed last week and outperformed this week.  On the YTD leaderboard, HESM is still the overall leader of this group, but KMI shot up the board to the second spot, displacing LNG.

Canadian Midstream

In the entire universe of midstream companies we track, there were 5 that traded up this week, 4 of them were in Canada.  In familiar fashion, as U.S. midstream stocks have traded with more volatility recently, Canadian midstream stocks have held up much better.  GEI was the biggest loser this week, but it was a big outperformer last week.

On the YTD leaderboard, IPL retained the bottom spot after another week close to the bottom.   PPL continues to lead the pack in the afterglow of KMI’s smooth exit from its stake a few weeks ago.

News of the (Midstream) World

Light news week, but the Magellan buyback and asset sale announcement are worth noting.  From the strongest balance sheet position in the industry, MMP is selling assets at high multiples and investing in their units rather than growth (internal or external).  While other midstream companies are not today positioned to behave like MMP, that should be the aspiration.

Capital Markets

  • Holly Energy (HEP) priced $500mm of 5.00% senior notes due 2028 at par (press release)
  • Magellan Midstream (MMP) announced $750mm unit re-purchase program
    • Program authorization good through 2022, and MMP will be opportunistic in utilizing the program
    • MMP indicated other return of capital options are still on the table, including special distributions

Growth Projects / M&A

  • Magellan Midstream (MMP) announced sale of three marine terminals to Buckeye Partners for $250mm (press release)
    • Whisper EBITDA multiple was 12.5x, based on approximately $20mm in annual EBITDA
  • Enterprise Products (EPD) announced it began operations at two cryogenic natural gas processing plants in Texas (press release)
    • Mentone plant in Loving County has the capability to process 300 MMcf/d of natural gas and extract more than 40,000 bpd of NGLs
    • Bulldog plant in Panola County has the capability to process 200 MMcf/d of natural gas and extract up to 12,000 bpd of NGLs

Other

  • Tallgrass Energy (TGE) announced that EVP and CFO, Gary Brauchle, will resign on February 14 (press release)
    • TGE board appointed SVP and Chief Accounting Officer, Gary Watkins, as EVP and CFO
    • Brauchle intends to remain with TGE in a non-executive capacity through 2020
  • TransMountain Expansion Project wins major victory against BC in Canada’s Supreme Court when the case was dismissed (Bloomberg)

Dividend / Distribution

  • 18 distribution announcements this week, including 8 increases.
  • Delek Logistics (DKL) insists on announcing their distribution on Friday after the market closes, so they are not included in the chart below.