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March 30, 2012

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MLP Week Thoughts: Broken Window Dressing

MLPs managed to finish the quarter with a positive day today, after 6 straight losing days, and a meek last month of trading.  MLPs are still roughly flat for the year on a price basis and are around 2% including distributions.  Flat performance for the quarter was driven by lower commodity prices, rising rates, and fast money shifting towards stocks over MLPs.

Propane, coal, natural gas storage, dry gas focused gathering and processing, E&P MLPs, natural gas pipelines are all a little broken at the moment with natural gas prices and the weather as it is.  The few panes of the MLP space that remain unbroken so far are NGL-focused and crude focused MLPs.  If energy prices continue to languish, and America maintains a sustained competitive advantage in energy prices, that should have a very positive impact on the economy generally and on large cap U.S. stocks.  MLPs will benefit generally from the growth in supplies (and hopefully growth in demand) for natural gas, oil and other petroleum byproducts.  But the positive impacts on some MLPs would be balanced by MLPs with businesses that would be negatively impacted (like dry gas focused gathering, natural gas storage, and E&P MLPs).  Oh, and rising interest rates wouldn’t help matters much, either.

The chart below highlights that the under-performance the last month has not been limited to MLPs.  Energy stocks generally (represented here by XLE), have been hammered as well, no doubt the result of continued natural gas price declines.

Natural gas prices, the story of the first quarter for MLPs and energy, broke down completely starting in late 2011, when it became apparent that a harsh winter was not going to happen.  Colder than normal winter weather in late 2010 / early 2011 propped up natural gas prices even with rapid production growth and high levels of natural gas in storage.  This year not so much, and it is clear that a new, very large demand source will be needed to clear the glut of natural gas currently in storage.

So, sub $3.00 per mmbtu natural gas is here to stay and that realization seeped into the investing consciousness throughout the quarter at an increasing rate.  Energy stocks peaked in late February, then drifted lower and lower into the end of the quarter (today’s window dressing rally notwithstanding).  The energy and MLP sell off seems overdone, certainly relative to the broader stock market, which had its best first quarter since 1998.

Certainly some MLPs will be in trouble if natural gas prices remain range bound between $2.00 and $3.00 per mmbtu.  However, there are many MLPs that have never seen more opportunities to deploy capital profitably around build out of shale infrastructure.  The trend highlighted with the chart below, natural gas production, is a new normal.  Natural gas, oil and NGL production will be increasing in the coming years, and in areas that have not historically grown production, creating massive opportunities for MLP capital deployment.

In summary, there are some serious headwinds facing the MLP sector overall, but there are also some very good opportunities.  The days of picking a handful of MLPs out a hat and doing well are over.  Note: investing in MLP ETFs, ETNs, and even closed end funds constitutes picking a handful of MLPs out of a hat in my book.  These days, if you don’t know much about the sector, you’d be better served doing a little research on assets owned, looking at valuation and choosing a small portfolio yourself… or you can hire someone like me, of course. 

News of the (MLP) World

  • VNR Debt Offering – VNR priced up-sized $350 million in senior notes due 2020, with a 7.875% yield (press release)
  • Seaway Expansion – EPD and JV Partner ENB announced they have secured the requisite multi-year crude volume commitments to expand Seaway Pipeline to 850,000 barrels per day.  First phase set to begin operating by June 1, with 150,000 barrels per day, then capacity would increase to 400,000 bpd by 1Q2013. The plan is for full capacity to be reached by mid-2014. (press release)
  • KMP Terminal Expansion – KMP announces expansion to Edmonton terminal in Alberta region of Canada.  Commitments will support an additional 1.2 million barrels of capacity.  Total cost of the expansion is estimated at $284 million. (press release)
  • APU Tender – APU announces that its offer to tender $200 million of its 6.5% Senior Notes due 2021.  The offer was well oversubscribed, such that there will be proration in terms of who gets to sell to APU. (press release)
  • ETE / SUG Deal Closed (press release)
    • Remember how much fun it was to watch this bidding war last summer… (read my posts from last summer here and here)
    • $5.4 billion ($3.0 billion in cash, $2.4 billion in equity) is the final purchase price


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