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December 13, 2015

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MLP Week Thoughts: Market Ready for Self Help

MLPs declined 5.3% this week and this index is now down 15.6% in two weeks.  The equal weight version of the index declined 6.8%, indicating relative weakness for smaller MLPs.  The S&P 500 declined 3.8% and is negative for the year so far.  Oil and natural gas prices were weak.  The high yield debt market deteriorated.
Weekly Review_12-11-15
MLPs were hammered Monday, but managed to gain back all of its losses with strong rallies Tuesday and Wednesday on what appeared to be short covering.  MLPs then declined Thursday and Friday as oil prices and credit markets crushed hopes of follow through.
Historical Context
Since peaking on 8/31/14, the MLP Index has produced total returns of -49.0%.  The price index has not been this low since October 2009, and the total return index is at its lowest point since August 2011.  The index now yields 9.85%, its highest yield since 4/24/09, just when MLPs began to recover from the global financial crisis.
MLP Yield Chart
Last week was the 5th worst week for the index of all time, and this week was the 22nd worst week.  It was the third time ever that the index has declined 5%+ in two straight weeks.  The other two times happened in October and November 2008.
Kinder Lays Down Cover Fire
Last week, I suggested it would be better for the MLP industry if KMI figured out a way not to cut dividends, restoring confidence in the high payout model that made Rich Kinder wealthy.  Well, KMI did cut, and it turned out to be a positive for the MLP sector, at least initially.  While the KMI collapse the last few weeks was certainly detrimental to the MLP sector, it may also provide cover for MLPs to reduce distribution growth expectations and reduce growth plans without further retribution.
Slow Down to Stop Going Down
Sometimes the best way to avoid losing is to not play. MLPs have been feeling like Clark Griswold in Vegas Vacation, when he continues to lose in an increasingly manic way at casino tables, eventually bottoming out playing silly table games like “Pick a Number” or “Coin Toss”. The frustration for MLP management teams was evident at the conference I attended this week. No matter what news they put out there, they lose. The market has lost confidence in MLPs and is pricing MLPs for inability to access capital at a reasonable cost leading to distribution cuts (or worse).

MLPs are caught in a broken circular reference of returns on growth capital being impacted by financing costs. As the cost of equity goes higher, investing capital and expecting to fund that capex with increasingly expensive capital destroys value rather than create it. The only reasonable way out of such a circle is to defer capital spending, defer financing, and defer distribution growth. Avoid playing altogether, until the odds are more in your favor. Don’t aggressively grow distributions, don’t aggressively add leverage. Find ways to defer capital projects, seek sponsor support in the form of IDR waivers or other support. The market is giving MLPs a pass to get their houses in order, and the sooner they use that pass, the sooner MLPs can start to recover even if oil prices do stay low throughout 2016.
A message from management teams that they will be good stewards of capital is the signal that can turn sentiment around, turn the broken cycle back into a virtuous one, and bolster the MLP sector.
Some of the management teams I saw this week were already doing this, while others have been forced to do so by humbling stock prices. It’s clear that oil prices will not save the sector any time soon. But if MLPs can prove sustainability in a $40/bbl oil environment, then when oil does start to move higher, the sector can grow again off of a healthier base.
Winners & Losers
In a week where the AMZ was down over 5%, the top five were all positive and generated returns above 5%.  CPPL was the top performer on no company news while EQM rallied after announcing 2016 guidance on Monday.  The bottom five was largely represented by upstream MLPs with the exception of NGL, which was unable to escape the bottom despite reiterating the stability of the distribution and funding plans for projects on Friday.
Year-to-date with the AMZ down over 40%, only four MLPs have generated positive returns with four of the five being refinery logistics MLPs.  PBFX cracks the top-five replacing DKL while LGCY replaced FELP in the bottom five.
General Partner Holdings Companies
Only one GP generated positive returns this week and on average GPs underperformed LPs.  EQGP, like EQM performed well after announcing initial 2016 guidance.
News of the (MLP) World
KMI’s distribution dominated the news like no other midstream story has ever before.  For MLPs, the news was naturally focused on sustainability of current distributions, sponsor support, and private equity stepping up.  Some of those worked out, some only briefly stemmed the tide of selling.  On the periphery as oil prices declined further, congress appears to be closer to passing legislation that will include a repeal of the oil export ban.  Many doubt it will have much impact on price, but it couldn’t hurt at this point, right?

  • EnLink Midstream (ENLK) announced $1.55bn acquisition of Tall Oak Midstream, LLC, operator of fee-based natural gas gathering & processing assets in Northern Oklahoma (press release)
    • ENLK’s sponsor, Devon Energy, simultaneously announced the acquisition of Tall Oak’s largest producer customer Felix Energy, LLC for $1.9bn
    • The purchase of Tall Oak will be made in installments, with $1.05bn due at closing and another $500mm due one year after closing
    • To partially finance the transaction, ENLK plans to issue $750mm worth of convertible preferred units to private equity firm TPG and to Goldman Sachs
    • In addition, ENLK’s G.P., ENLC issued $250mm worth of common shares to TPG
    • The purchase price represents 7.5x to 8.0x EBITDA in 2018
    • The assets include two gathering & processing systems located in the STACK and CNOW plays in Oklahoma, plus a rich gas pipeline under construction to connect the two systems
  • Summit Midstream (SMLP) and its private equity sponsor ECP announced the conclusion of its strategic review (press release)
    • SMLP announced that its sponsor will not sell its ownership of SMLP at the current time
    • SMLP announced $100mm buyback program by its sponsor
    • SMLP announced that its sponsor will provide support for drop downs in 2016 that will remove the need for any equity issuance at SMLP in 2016
    • SMLP traded up 19.4% on the announcement, after falling 19.3% on Monday


  • NGL Energy announced intentions to maintain flat calendar 2016 distributions and indicated that coverage will be 1.2-1.4x in 2016 (press release)
  • Crestwood Equity (CEQP) announced that First Reserve has been authorized to initiate a buyback program to purchase up to $100mm worth of CEQP units (press release)
    • CEQP traded positively on the day of the announcement, and finished the week positive in the face of heavy MLP selling
  • Alerian index changes to criteria that will suspend the market capitalization test in rebalancing (press release)
    • Alerian also plans to modify the criterion at the end of December to dynamically respond to equity price movements going forward
  • Alerian announced the following index changes:
    • GEL and TLLP to join the Alerian Energy Infrastructure Index, Exterran Corporation will be removed
    • Boardwalk Pipeline (BWP) to join the Alerian Natural Gas MLP Index, replacing Tallgrass Energy (TEP)
    • No changes to the Alerian MLP Index and Alerian MLP Infrastructure Index
  • Given the press from KMI, there was quite a bit of chatter in the media about MLPs and their struggles of late. To counter some of those claims, Jamie Welch spent some time on CNBC defending the MLPs he helps manage as CFO of the Energy Transfer MLP family (See video here)
    • CEO Kelcy Warren also bought $42mm worth of ETE units this week, as ETE pulled out all the stops to arrest their unit price decline
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