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Hinds Howard

Principal, Associate Portfolio Manager, Infrastructure

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Week Thoughts: Midstream Getting Defensive

It was a short, wild week to start December, with tons of macro action, sparked by tweets, arrests in Canada and OPEC hallway chatter.  Amidst all the volatility and noise, midstream outperformed the S&P 500 and energy stocks broadly.  Oil finished up for a second straight week and appears to have stabilized after OPEC and Russia delivered the goods.  With the OPEC uncertainty put to rest for now, sentiment on midstream appears to be firming.

With just 15 trading days left this year, midstream is down between 3-6% depending on how you look at the universe, which is a lot better than Bitcoin this year. U.S. midstream has produced a positive total return year over year (AMUS +1.7%), while Canada has dragged down the North American midstream universe (AMNA -2.4%).  The biggest midstream stock in Canada will take center stage next week with its analyst day, in hopes of reversing that trend.

Midstream companies gathered in New York this week at the annual Wells Fargo midstream conference.  Commentary from companies out of the conference reinforced what we’ve heard all year:

  • Self-funding, lower leverage targets and capital discipline on the one hand
  • Ramping capital expenditures and empire building on the other
  • Aspirational discussions of free cash flow so abundant that buybacks will be an option…once the de-leveraging and spending is over
  • Defensiveness, confusion, frustration over stock price action
  • Efforts to be noticed by generalist investors by stacking up valuation metrics against “normal” public corporations
  • The few remaining MLPs with IDRs reiterating their stance that IDRs would be eliminated over time, either from “a position of strength” (DCP), or addressed “sooner than later” (PSXP)

The above commentary was largely expected and good to hear.  But as noted here last week, what gets the sector out of the penalty box is seeing the dust settle on the numerous still pending mergers, recent distribution cuts (stealth or outright), and index rebalances.  All of that, plus no hiccups from producer guidance season or commodity prices.  More of those stars align each week.

Winners & Losers

The big winners this week included several likely beneficiaries of the new Alerian MLP Index methodology announced last Friday and to be implemented with the special re-balance next week around SEP/EEP and for the quarterly re-balance on 12/21.  Non-index names that would seem to qualify under the new methodology traded up, including MMLP, DKL, PBFX.  NGL Energy and SMLP also caught a bid on no news.

Among the big losers, HCLP stands out as a potential loser in the Alerian MLP Index methodology change.  APU was down after parent UGI held its analyst day and announced a strategic review that has a possible distribution cut (stealth or outright) as an outcome of the IDR evaluation, in an effort to get APU closer to targets of 1.2x coverage and 4.0x leverage.  SPH seemed to trade off in sympathy with APU.  ANDX was down when MPLX’s analyst day offered no strategic resolution on its future.

Back-to-back weeks in the top 5 for DKL, back-to-back weeks in the bottom 5 for DLNG and HCLP.  The YTD leaderboard saw CEQP rise a couple of spots to third place.

Midstream Corporations & General Partners

Median performance among GPs and midstream corporations was better than the MLP Index, but larger cap names within this group underperformed, notably KMI, WMB and OKE.  Those names, which have benefitted from S&P 500 inclusion in the past seemed to be dragged down by broad market weakness this week.  PAGP took a break after last week’s gains.  ALTM outperformed as they gain greater awareness with conference attendance and analyst initiations.

The year to date leaderboard includes just 3 names with positive total returns in this group, but OKE’s lead narrowed this week.  Median total return of the group is far below YTD total return of the midstream indexes, highlighting some smaller cap names with woeful underperformance this year.

Canadian Midstream

Canadian had a full week of trading and was universally positive on Wednesday when the U.S. market was closed.  Implications of the Alberta-mandated production cut (announced over last weekend) weighed on the small, intra-Canada focused stocks in the universe like Gibson, Keyera and Pembina.  Gibson had benefitted in the wholesale business from wide WCS differentials to WTI, and with differentials down those margins will come in, and also storage demand might now be as robust with lower production.

Just one Canadian midstream name is positive YTD in U.S. dollar terms.  Keyera’s total return is 20%+ negative for the year.  The big cap names are middle of the pack at mid-teens negative returns.  Canadian midstream has struggled all year, but U.S. midstream is catching up with poor returns of late.

News of the (Midstream) World

MPLX put the major NGL players on notice that it would be joining the downstream NGL party on the Gulf Coast, not with big splashy M&A like they’ve done in the past, but with growth projects that mirror what they would get if they did a big splashy M&A transaction (i.e. if they were to somehow acquire TRGP).

Growth Projects / M&A

  • MPLX announced potential downstream NGL projects in Texas, including a 400-mile NGL pipeline and two potential fractionation facilities, at its analyst day this week (investor presentation)
  • Williams (WMB) announced sale of several Gulf Coast pipeline systems to Easton Energy LLC for $177mm in cash (press release)
    • Transaction closed on 11/30/18
  • Enbridge (ENB) announced sale of Enbridge Gas New Brunswick business for C$331mm to Algonquin Power (press release)
    • Enbridge Gas New Brunswick operates and maintains more than 1,200km of natural gas distribution pipeline in 12 communities in southern New Brunswick, serving 12,000 customers
  • TransCanada (TRP) for 630 mmcf/d of new natural gas transportation contracts from the Western Canadian Sedimentary Basin (WCSB) on TRP’s mainline (press release)

Capital Markets

  • None.