Income investors have always had an affinity for master limited partnerships, or MLPs. These unique vehicles offer exposure to the energy sector through a high yield, equity-like security. Their business models and tax structures are such that they can pass through a great deal of their profits to shareholders in the form of dividends. This makes them coveted for both their unconventional returns vs stocks or bonds and their healthy income streams.
Those who have dabbled in owning MLPs through an exchange-traded product are probably most familiar with the venerable Alerian MLP (NYSEARCA:AMLP) or JPMorgan Chase Capital XVI JP Morgan Alerian MLP ETN (NYSEARCA:AMJ). Together these two exchange-traded funds control nearly $15 billion in total assets in a concentrated group of the largest MLPs by market capitalization.
I consider these indexes the first generation of MLP fund exposure, and they surely get the job done. However, like any technology or innovative process, there is room for improvement in many areas. For starters, the expenses on these funds are still quite high compared to traditional stock-like indexes — 1.42% for AMLP and 0.85% for AMJ.
There is also room for improving the index construction criteria to broaden exposure to this group or hone in on varying characteristics of the MLPs themselves.
Fortunately, the second generation of MLP funds is now taking note of these shortcomings and improving on them dramatically. At the tip of this spear is a relatively new fund that is rapidly becoming one of my favorites in the class.
The Tortoise North American Pipeline ETF (NYSEARCA:TPYP) is nearing its second anniversary and has accumulated over $72 million in total assets. This unique ETF tracks the Tortoise North American Pipeline Index, which represents a benchmark of energy pipeline, distribution, storage and processing companies.
The fund is more diversified than a pure MLP index. In fact, it has 55% of the portfolio in traditional MLPs and the remaining in energy-related corporations and LLCs. This broadens the exposure to include nearly 90 stocks rather than the conventional 25-40 holdings that most dedicated MLP indexes are beholden to.
I tend to like greater diversification because it reduces single-sector volatility, while still allowing investors to participate in the overall trend and price action. Top holdings are in familiar names such as: Williams Companies Inc (NYSE:WMB), TransCanada Corporation (USA) (NYSE:TRP), Enbridge Inc (TSE:ENB) and Kinder Morgan Inc (NYSE:KMI).