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September 18, 2011

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Week Thoughts: No Boehner for MLP Tax Reform

MLPs had an ok week on an absolute basis, but were crushed by stocks on a relative basis.  Stocks (represented here by the S&P500) posted their best week of the year up 5.4%, with positive gains in each day of the week.  Gold and treasuries were down, while MLPs held flat for the week.  Interesting to note that since the 4/28 peak, MLPs and S&P 500 are basically even on a price basis, which means MLPs have outperformed when including the 2 quarters of distributions received since then.
Snapshot of where MLPs are right now.
Most of that MLP under-performance happened on Friday, when MLPs were down 1.4% (while stocks were up 0.6%), although in the last half hour of trading several MLPs were up sharply on heavy volume.
MLP Index this Week
It seems like at least some of the negative MLP action on Friday was a result of  Speaker of the House John Boehner’s remarks on his press tour.   On CNBC Thursday afternoon, Boehner spoke with CNBC live and said basically the same thing he had said at the Economic Club in Washington DC earlier in the day, except with an added part about taxing all companies and individuals at the same basic rate:

“We believe that the target should be about 25 percent, on the corporate side and the personal side. And it’s not just big c-corporations. Regardless of the entity, whether it’s an S-Corp, an LLC, a partnership, all ought to be taxed at the same rate.”

He didn’t elaborate and wasn’t asked a follow up on this comment, but it seems like a pretty general statement.  Not many people would bet that broad based tax reform, completely eliminating the flow-through nature of partnerships could make it through the house and senate and actually get passed any time soon.  On the other hand, not many people seem to be interested in betting that they will NOT pass tax reform that affects MLPs.  Hence, MLPs have bounced around a bit, but ended flat for the week.
I know it seems crazy that some obscure CNBC interview could have a meaningful impact on how a whole sector would trade, but the MLP investor base is pretty skittish these days, particular with the advent of ETFs and open-end mutual funds targeting the space, allowing for simpler entry and exit into the sector.  I’m not saying all of the decline Friday was due to this latest tax scare, especially given that oil prices were down more than 1% and $XLE was basically flat as well, but the ongoing tax scare drama is certainly worth watching, especially given the tendency in markets for perception to become reality.
Click here to watch the full Boehner.

On an individual MLP basis, the chart below shows the best and worst performing MLPs this week.  It was a pretty tight range, with one glaring exception that rose 21.3% this week: $QRE.  On the downside, $CQP was down 7.2% as it marketed and priced the only equity deal of the week.

The big winner this week was QRE, an E&P MLP sponsored by Quantum Energy out of Houston.  2 significant news items concerning QRE happened last week.  On Monday, before the market opened, QRE announced a $577 million acquisition of properties from Quantum for $350 million of convertible preferred units and $227 million in debt (read press release here).  The deal would increase the enterprise value of the company by roughly 50%.  The market liked the deal, and it traded up 3.8% on Monday.  This was reminiscent of the 2006 and 2007 days when E&P MLPs would acquire assets and issue PIPEs for the equity financing simultaneously to remove the equity overhang.
But as shown below, QRE didn’t really take off until Tuesday.   Tuesday morning before the market opened, Alerian announced that QRE would replace $NKA (down 6% on the week), in the Alerian MLP Index.  QRE was up 10.3% on Tuesday.  The Alerian Index is followed by a greater number of passive investment vehicles and capital than ever before, which means the difference in trading for MLPs in the index and not in the index is significant.

On both the overall industry level and the individual MLP level, new ways to invest in MLPs are having a significant impact on a daily basis.  This only creates opportunity for sane investors who can buy solid MLPs when there is blood on the streets because someone said tax and partnerships in the same sentence within the city limits of Washington DC.
Case in point on the fund flows in and out of exchange traded products targeting MLPs: $AMJ, which is the largest ETN tracking the MLP sector, on Tuesday was the market’s least popular exchange-traded product with $261.3 million in redemptions.  Then on Wednesday,  AMJ was the most popular exchange-traded index on the market, with $262.2 in additions.  Very indecisive out there, should be a fun filled last 10 days of the quarter…
Disclosure: The information in this article is not meant to be financial advice, we are not your financial advisor and I am posting my comments for informational purposes only.

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