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Hinds Howard

Principal, Associate Portfolio Manager, Infrastructure

Week Thoughts: Pain Distributed Across Markets, Midstream

Midstream and MLPs returned to earth this week, following lower oil prices and the market lower.  Solid earnings reports from some of the larger names weren’t enough to offset macro headwinds and ET’s large distribution cut. 

When the dust settled, it was the worst week for midstream (AMNA) since June and the worst week for MLPs (AMZ) in…4 weeks.  Utilities and infrastructure held up better than the S&P 500 this week, but it was a tough week all around.

There were some signs of resilience from midstream late in the week, when midstream indexes reverse Thursday and beat the S&P 500 on both Thursday and Friday.  Tuesday’s selloff also helped midstream holdup in the broad market’s selloff. 

While ex-dates for several large players passed this week (EPD, PAA, DCP, TCP, WES), there are more MLPs with ex-dates on 11/5 (MMP, ET, NS, CEQP, MPLX).  So there remains some seasonal distribution capture support through middle of next week.

But support could be met with volatility from the election Tuesday, oil price volatility, tax loss selling (to the extent tax losses remain unharvested pending one final distribution) and earnings surprises.  There are a lot of variables to consider.  Yield should not be one of them…

More Fake Yields

The distribution cut by ET was notable, because it was the first ever outright cut for the Energy Transfer family.  But through a series of simplification mergers, many investors in Energy Transfer companies have experienced multiple distribution cuts.  There may even be some investors who saw 4 stealth distribution cuts before this outright distribution cut (PVR merged into RGP, merged into ETP, merged into SXL, merged into ETE). 

Whatever the number of income reductions has been for ET, this was another blow to the idea that yield is a meaningful valuation metric for midstream stocks.  Distributions are variable, subject to change to protect the balance sheet or as a precursor to a buy-in.  While occasionally a 20%+ yield could be a home run, more often the yield is never realized, and you end up losing more in value than was expected in yield. 

ET was trading well ahead of its distribution announcement, up 16% for October through last Friday (10/23).  Its October stock price performance reminds me of the long run by Giants QB Daniel Jones last week against the Eagles.  This week, ET gave up it all back and more, dropping 18.2%, including 8.6% on the day after the announcement, just like how Jones stumbled and fell well short of the goal line.

NGL also cut its distribution again this quarter.  I would expect at least a few distribution cuts in 2021, leverage and overcapacity remain challenges for several MLPs and midstream companies.

Status Update: October Rebound, Despite Stumbling Finish

Midstream rebounded in October, although AMNA’s rebound was much more subdued than AMZ.  AMNA finished up 0.6% in October, including dividends, so on a price basis the stocks were down.  YTD, AMNA remains well ahead of MLPs, helped by better performing large cap corporations with natural gas pipeline systems (WMB, TRP, ENB).

With just two months left in the year, 2020 is another lost year for midstream, which will be the fourth negative year of the last 6.  Hope will start to emerge late in the year with an eye towards a sustainable recovery for a smaller sector with less institutional funds left to leave the space.

Looking ahead, November’s prospects may hinge on the election outcome this week (assuming there is a clear outcome).  MLPs have been negative for 3 straight years in November.  The last positive November was the last election year in 2016, when Trump’s surprise win sparked a relief rally.  Other election years offer little parallels to draw from.  November 2012 was slightly negative.  November 2008 saw a 17% drop in the most volatile period of the Global Financial Crisis.

Things feel very binary for midstream, with market commentators assuming a Biden win will be incrementally worse for the energy business than the status quo.  The status quo has been awful, though, and to date the energy sector hasn’t experienced as much “winning” as they probably expected when Trump was first elected.  The election outcome can have a long-term impact on energy policy and ability to develop infrastructure. 

But the knee jerk moves immediately after the election can be short-lived and overblown relative to actual fundamental forces driving energy stock challenges.  Regulatory headwinds haven’t helped these last 4 years, despite a supportive executive branch.  Oil prices and overcapacity of infrastructure across most regions will ultimately need to change for stock performance to change.

Winners & Losers

MLPs

There were a few positive MLPs this week, none of which are in the major MLP indexes that are tracked by ETFs, except BPMP.  The big moves were to the downside this week.  ET and NGL distribution cuts were not a huge surprise, but I believe most were positioned to capture one more big distribution this quarter before a cut happened.  Several other MLPs were down double digits this week.

Week over week, ENBL gave up last week’s gains, going from top 5 to bottom 5.  EVA went from worst to first.  YTD, EVA and SRLP extended their lead on the rest of the group.  ARLP’s strong week helped it climb a spot from near the bottom, while NGL dropped a few spots.

Midstream Corporations

Cheniere led the group this week, maybe helped by not having a dividend that could be traded around this quarter.  OKE outperformed in a sharply negative week for this group after announcing a strong quarter and positive 2021 outlook.  HESM outperformed after posting a strong quarter that continues the trend of better Bakken results than the market was expecting.  ETRN was the worst performer on no news and fellow Northeast natural gas player AM struggled despite strong results this quarter as the 2021 outlook remains cloudy.

OKE and WMB repeated in the top 5.  RTLR repeated near the bottom of the group.  On the YTD leaderboard, KMI climbed into the top 5 of the group, even with a -40% return YTD.  No other material changes.

Canadian Midstream

Canadian midstream had a rough week, but as usual returns were more tightly bunched than in U.S. midstream.  TRP was the first to report in Canada this week, posting solid results and re-affirming guidance, but still trading down.  Others report next week, including this week’s outperformers Pembina and Enbridge, which offer more chances for Canadian names to show their relative stability in cash flow outlook.

Pembina has led the group for a few weeks now, slowly chipping away at the big YTD underperformance to ENB and TRP.  Keyera was a laggard again.  YTD, TRP took over the top spot in the group after GEI had a rough week.  Pembina hopped Keyera for 4th place this week.

News of the (Midstream) World

Transaction news was basically nothing this week.  The ET distribution announcement was the big news that rocked the sector early in the week. 

Capital Markets

  • None.

M&A / Growth Projects

  • TC Energy (TRP-CA) announced $200mm Wisconsin Access Project on ANR Pipeline System (press release)

Other

  • Sunoco (SUN) announced Dylan Bramhall as CFO (press release)
    • Bramhall was most recently SVP of Finance and Treasurer for Energy Transfer

Distributions

  • After a few weeks of mostly flat distributions, this week we crapped out and got two distribution cuts.