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Hinds Howard

Principal, Associate Portfolio Manager, Infrastructure

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Week Thoughts: Midstream Not Green, No New Deals

January enthusiasm gave way to profit taking and dividend capture for midstream this week. Commodity prices were negative, which may have been the catalyst for that shift.  Canada and US midstream corporations held up better than MLPs, opening up an even wider YTD and YOY performance gap for the AMNA vs AMZ.

Midstream underperformed broad equities and utilities.  Interests rates continue to drop such that the US 10-year rate is down to 2.63%, down 19 bps from a year ago when inflation and rate increases were a focus in the US and Canada.

Peace Dividends vs Peace Out Dividends

On the horizon for midstream companies is a peace dividend.  A term popularized by Margaret Thatcher and George H. W. Bush in the early 1990s, “peace dividend” refers to the general economic benefit that results from a decrease in defense spending.  There is some debate as to whether it was real or not, but as a political slogan it seemed to resonate immediately after the Cold War.

A peace dividend for midstream I am going to say refers to the free cash flow that should be on the horizon now that distribution cuts and dilutive simplifications are mostly behind us and capital spending may slow down starting in 2019.  There is some debate in the midstream market on whether that peace dividend will be reached, or whether costly equity financing and overbuilding will drag down free cash flow.  While convicted long midstream investors believe in the peace dividend, some investors have likely had enough of the volatility of prices and distributions and are taking this latest quarterly dividend and reducing midstream exposure.  Call it a peace-out dividend.

Simplification Holdouts

Speaking of war, at the end of World War II, in remote areas of the Pacific Theater, small factions of soldiers continued to fight even after surrender.  Famously a Japanese soldier Hiroo Onoda survived for nearly 30 years before surrender.  He was found in 1974 and refused to surrender until his commanding officer came to relieve him of duty.  He returned to Japan to great fanfare and went on to live another 40 years after that.

This week seemed to be another golden opportunity for the sector to continue momentum from last year on simplifying the remaining MLPs.  But no simplification transactions were announced by MPC/MPLX/ANDX, PSXP or APU, although APU was the least anticipated.  These aren’t the only holdouts among MLPs, but they are among the few remaining who have work to do to remove reasons for investors to avoid their units.

The war is over.  IDRs are not palatable or feasible any longer.  The shame of it, however, is that L.P investors have generally lost in the great simplification wave and will probably continue to in the transactions to come.  If it’s inevitable, the least you could do is be quick about it.

Winners & Losers

Penny stock TOO gained 15% Friday to finish the week at $1.32/unit, good for a 6.4% gain over last week to lead all MLPs. Notable losers this week include EQM, which seemed to be impacted by lower natural gas prices, weaker results from another Marcellus Shale player and an analyst downgrade. That other Marcellus player is MPLX, which showed up in the bottom 5 as well. Lower commodity prices and indications of slower producer activity may have dragged down DCP and USAC.

GLP repeated in the top 5 for a second straight week. On the YTD leaderboard, SMLP took over the top spot and HESM climbed into the second spot, even though each one of the top 5 YTD last week traded down this week. SRLP and GMLP joined the top 5 with attrition of DCP and NS.

General Partners and Midstream Corporations

Every single stock in this midstream Corp and GP bucket was negative this week. PAA’s blow out results and modest 2019 guidance revision helped PAGP lead the group. ETRN was the worst performer in the group this week, perhaps due to weaker results from MPLX due to some asset crossover, but also probably down on weak natural gas prices.

WGP and ALTM were big losers this week too, dragged down by weaker outlook from sponsor producers and lower oil prices that might send activity further.

KMI and OKE repeated in the top five. ETRN repeated towards the bottom. On the YTD leaderboard, every stock in the group is up double digits for the year, except TGE.  OKE took over the top spot from WMB this week.  KMI also moved up a spot. Relatively simpler, larger names leading the way.

Canadian Midstream

Pembina outperformed this week, perhaps as a read through of positive PAA S&L results more so than the FID of a major PDH development. TRP and ENB were in-line with midstream peers in the US, although ENB was having a very good week before a 3% drop Friday.

Pembina repeated in the top two of the group, helping Pembina extend its year to date total return lead.

News of the (Midstream) World

Lighter news week than probably some expected, with no simplification announced by MPC and no IDR elimination by PSXP.  We did get a small simplification from the SunCoke family of companies.  And we did get a big FID from Pembina for a PDH plant within Alberta.  While earnings season so far has been pretty boring so far, next week should change that with NGL, DCP, AMGP, WMB reporting next week, among others.

Capital Markets

  • None.

Growth Projects / M&A

  • SunCoke Energy (SXC) to acquire all units not already owned in SunCoke Energy Partners in simplification transaction (press release)
    • All equity deal whereby SXCP will receive 1.4 SXC common shares for each SXCP common unit
    • Deal terms represent 9.3% premium to SXCP’s closing price
    • Transaction expected to close late in the second quarter or third quarter 2019
  • Enable Midstream (ENBL) announced Golden Pass, a JV between Qatar Petroleum and ExxonMobil (XOM), as the cornerstone shipper for Gulf Run Pipeline Project (press release)
    • Golden Pass made a final investment decision on a $10bn investment to add liquification and export capabilities to its existing LNG facility in Sabine Pass, TX which will be served by the Gulf Run Pipeline
  • EPIC Midstream announced that Noble Midstream (NBLX) exercised its option for a 30% equity stake in the EPIC Crude Pipeline Project and a 15% equity stake in the EPIC NGL Pipeline (press release)
    • Altus Midstream (ALTM) and Rattler Midstream, a subsidiary of Diamondback Energy (FANG), exercised options for 15% and 10%, respectively, in the Crude Pipeline Project
  • Pembina Pipeline Company (PPL CN) announced final investment decision for integrated petrochemical facility in joint venture with Petrochemical Industries Company KSC of Kuwait (press release)
    • The 550,000 tons per annum integrated propane dehydrogenation (“PDH”) plant and polypropylene (“PP”) upgrading facility is expected to cost C$4.5bn, including C$0.5bn for supporting assets
    • Facility is expected to be in-service by mid-2023