by Aaron Levitt | February 27, 2014 10:56 am
For investors looking for strong dividend yields, master limited partnerships (MLPs) remain a powerful portfolio tool. After all, the corporate structure is designed to kick out large, tax-advantaged dividends to unit holders and the sponsoring general partners. Those high yields often average in the 5% to 8% range.
Yet, despite the sector’s long-term stability, there have been some major hiccups lately.
Analysts continue to question pipeline kingpin Kinder Morgan’s (KMP) cash flows and capital expenditure spending, while former industry stalwart Boardwalk Pipeline Partners (BWP) slashed its dividend payout by 80%. Shares of both KMP and BWP have plunged heavily over the last few weeks on the news.
Which is why going broad may be the best strategy for adding MLPs to a portfolio. There are now more than 18 different exchange-traded funds (ETFs) that focus on MLPs and their monster dividend yields. For investors, making a play on one of these funds could be the best way to gain exposure to the big yields, while avoiding potential dividend blowups.
Here are five of the best MLP ETFs yielding 5%-plus.
Dividend yield: 6.2%
Tracking the sector’s benchmark index — the Alerian MLP Infrastructure Index — the ALPS Alerian MLP ETF (AMLP) is the most popular way for investors to gain MLP exposure via an ETF. The fund’s nearly $7.6 billion in assets under management prove as much.
AMLP tracks the 25 largest companies in the midstream sector of the MLP universe. These midstream MLPs earn the majority of their cash flows from the transportation, storage, and processing of energy commodities. Think pipelines and gathering systems. Top holdings for AMLP include KMP and Enterprise Products Partners (EPD).
AMLP focuses on the top firms in the stable midstream sector of the market, which produces some pretty hefty dividends for investors. Currently, the ETF yields a hefty 6%. That’s a high yield, even for MLP ETFs.
The only real drawback to AMLP is very high expenses. The ETF effectively costs a whopping 5% to own — or $500 per $10,000 invested. The reason is that mutual funds technically aren’t allowed to own MLPs beyond a certain percentage of assets. In order to be MLP-focused, AMLP had to be structured as a C corporation. Essentially, the fund has to pay taxes on its holdings — leading to high expense ratio.
While that’s a significant drawback, AMLP is still the No. 1 way to gain exposure to MLPs and their high dividend yields.
Dividend yield: 7.3%
The other big index in the MLP sector is the Cushing 30. This popular index equally weights its constituents and focuses on the entire MLP spectrum — not just midstream firms. The Morgan Stanley Cushing MLP Hi-Income ETN (MLPY) takes it a step further by screening and weighting the Cushing 30 by dividend yield.
Among the top holdings for MLPY are upstream/production MLPs like BreitBurn Energy (BBEP), and propane distributors like Suburban Propane (SPH). The fund also includes exposure to shipping and coal MLPs.
MLPY focuses on MLPs with high yield across the entire spectrum, producing a basket of MLPs that yields a huge 7.32%. However, investors should keep in mind that many of these “other” MLPs perhaps aren’t as stable when it comes quarterly payouts.
Distributions from the fund could fluctuate widely, as several of these other sectors are heavily tied to commodity prices or economic conditions. The bright side for MLPY is the fund’s 0.85% expense ratio. Unlike AMLP, MLPY is an ETN and there is no tax liability on behalf of the fund.
Dividend yield: 6.3%
The two previous funds tend to focus on the largest MLPs. But there is still plenty of value — and big dividends — to be found in smaller midstream and variable-distribution MLPs. The often-overlooked Global X Junior MLP ETF (MLPJ) allows investors to tap into those smaller firms.
MLPJ tracks the Solactive Junior MLP Index — which provides exposure to 23 different small-cap MLPs across all sectors. That provides a nice 6.3% dividend yield and offers plenty of capital gains growth as well.
Small-cap MLPs have been big targets of increasing M&A activity in the midstream sector. Larger firms are finding it easier to buy out smaller pipeline purveyors and use their gathering systems as trunk lines, rather than building an entire new system from scratch. MLPJ offers investors to buy into several potential M&A targets at once — while still collecting a some monstrously high yields.
MLPJ is structured as a C corp. So like the previously mention AMLP, the fund will incur a tax expense in addition to the fund’s 0.75% in operating expenses.
Dividend yield: 7% (estimated)
ETF sponsor Direxion is best known for its suite of leveraged and inverse funds that allow traders to short or “juice” their performance. However, the firm has begun moving into the smart beta and alternative ETF space with a fury of new launches. Its latest is the new Direxion Zacks MLP High Income Shares (ZMLP).
The fund tracks a new index by investment ratings and information service. Zacks uses a quantitative rules-based methodology to sort MLPs by their value, liquidity, short interest, dividend yield and other factors to produce the portfolio. ZMLP is then weighted equally.
The new fund currently tracks 25 different MLPs — again from across the entire spectrum. Currently, 44% of the ETF is in midstream and pipeline firms.
Zacks has had a lot of success in the ETF space, particularly with high yields. The Guggenheim Multi-Asset Income ETF (CVY) — which tracks a Zacks high yield index — is one of the most popular dividend funds around. ZMLP shouldn’t be much different. Especially when you consider the new fund’s dividend yield is estimated to be a sizable 7%.
Dividend yield: 4.9%
If there’s one energy commodity that is pushing the United States towards energy independence, it has to be natural gas. From Pennsylvania’s Marcellus to Colorado’s Niobrara shale, energy producers are pulling out a sheer abundance of natural gas and natural gas liquids (NGLs). Moving and processing all of that natural gas is quickly becoming a booming business.
That’s where the ignored UBS E-TRACS Alerian Natural Gas MLP ETN (MLPG) comes in.
The fund tracks the 20 largest natural gas-focused MLPs in the previously mentioned Alerian index. To be included, MLPs must earn the majority of their cash flows from the transportation, storage and processing of natural gas and NGLs. There’s no coal MLPs here.
What investors get is a stable portfolio of midstream firms that yields a nice 4.9%. It isn’t the highest-yielding ETF on this list, but it does provide plenty of stability. Secondly, MLPG could see some hefty capital gas as much more natural gas infrastructure is needed to tap our shale reserves. MLPG’s underlying holdings could see plenty of share price appreciation as that takes place.
Expenses for MLPG cost just 0.85%.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.
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