For a collection of companies that tend to own boring, cash flowing assets, it sure has been a wild ride in master limited partnerships (MLPs).
On a total return basis (including dividends), the Alerian MLP Index — which is heavily weighted to the largest midstream oil & gas pipeline operators — doubled in value between the fourth quarter of 2010 and its all-time high in the fourth quarter of 2014.
Unfortunately, it all went downhill quickly. Encouraged by low interest rates and high energy prices, the pipeline companies borrowed heavily to finance their growth projects while distributing virtually all of their cash flow from operations as cash distributions. When crude oil started to tumble in 2015, the banks and bondholders got jittery and even some of the largest players found themselves effectively locked out of the capital markets.
Before it was over, the distribution growth that investors found so attractive went into reverse. Many MLPs froze their distributions and several actually had to slash them.
But those rough years helped to create the fantastic opportunity we have today. As a sector, MLPs got their leverage under control and started funding their growth projects with internally generated cash flow rather than new debt. This brings the sector more in line with “normal” public company behavior.
With firmer energy prices and more stable financing, MLPs are getting their growth mojo back, yet prices don’t fully reflect that reality, at least not yet.
So, today we’re going to take a look at five MLPs that I expect to deliver market-crushing total returns in the years ahead.
MLPs That Should Crush the Market: Enterprise Products Partners (EPD)
Dividend Yield: 6%
I’ll start with one of my very favorite long-term holdings, blue-chip MLP Enterprise Products Partners L.P. (NYSE:EPD).
Enterprise Products is the bluest of blue chips. It’s one of the oldest and best-respected companies in this space. In an industry that has historically been run by the proverbial gun-slinging cowboys, Enterprise has been level headed, if not downright boring.
Enterprise Products went public in 1998, and in the 20 years that have passed it has grown into an infrastructure giant with over 50,000 miles of pipelines carrying primarily natural gas and natural gas liquids.
And in an act of shareholder friendliness that has historically been uncommon in this space, Enterprise eliminated its incentive distribution rights (IDRs) years ago.
Traditionally, an MLP’s general partner enjoys a disproportionate share of any increases in the distribution to shareholders. The idea is that this incentivizes them to grow the distribution for the unitholders’ benefit. But the reality is that it encourages them to bet the ranch by raising distributions at a breakneck pace. EPD eliminated IDRs years ago, eliminated that temptation.
EPD has boosted its distribution every year since going public, and over the past decade its annual distribution hikes have averaged just under 6%. At today’s prices, EPD shares sport a 6% yield, which is very high by historical standards.
MLPs That Should Crush the Market: Magellan Midstream Partners (MMP)
Dividend Yield: 5.4%
If EPD has a true equal, it would be Magellan Midstream Partners LP (NYSE:MMP).
Magellan’s product mix is significantly different, as it is primarily an oil and refined products pipeline. Today, MMP has nearly 10,000 miles of refined products pipelines (making it the largest operator in the United States), 2,200 miles of oil pipelines and 1,100 miles of ammonia pipelines. MMP also has storage capacity for 100 million barrels of gasoline, diesel fuel and crude oil.
Rather than pursue growth at an unsustainable pace, MMP chose to be the proverbial tortoise that beat the hare and managed its growth responsibly. But that doesn’t mean Magellan is a slouch. The company has been a model of consistency, raising its distribution every year since going public in 2001 IPO at a compound annual growth rate of 12%.
In its latest earnings call, management said that they expect to see distribution growth of about 8% this year, which is very respectable. At current prices, it yields a competitive 5.4%. That’s not high by MLP standards, but what it lacks in raw yield it more than pays back in increased peace of mind.
MLPs That Should Crush the Market: Energy Transfer Equity (ETE)
Dividend Yield: 7.2%
But I should be clear here: ETE is a more aggressive bet than Magellan Midstream and Enterprise Products. Its billionaire founder Kelcy Warren might be classified as one of those “gun-slinging cowboys” I mentioned earlier. But that’s perfectly fine, as the risks have mostly paid off over the years.
Today, ETE is the linchpin in an energy infrastructure empire with over 71,000 miles of natural gas, natural gas liquids, crude oil and refined products pipelines.
Energy Transfer’s structure can be a little confusing to the uninitiated. Energy Transfer Equity is the general partner of two other MLPs: Energy Transfer Partners LP (NYSE:ETP) and Sunoco LP (NYSE:SUN), which distributes fuel to gas stations in over 30 states.
This complicated structure has become something of a liability to the company in an era in which investors demand more transparency. Furthermore, the company really hurt its reputation when it tried to buy Williams Companies (NYSE:WMB) back in early 2016 … before changing its mind and resorting to questionable means to terminate the deal.
That’s OK. I like companies that have a little egg on their face, as we can often get them at a good price. Today, ETE is no exception. It yields a solid 7.2% and, after a short hiatus, started growing its distribution again last year.
MLPs That Should Crush the Market: Phillips 66 Partners (PSXP)
Dividend Yield: 5.7%
Up until now, every MLP I’ve mentioned has been a large-cap operator, and for good reason. With prices as good as they are, we have no incentive to reach for potentially higher returns in riskier small-caps.
But I would be remiss if I didn’t mention at least one up-and-coming MLP: Phillips 66 Partners LP (NYSE:PSXP).
Phillips 66 Partners was a successful spinoff by oil refiner Phillips 66 (NYSE:PSX) back in 2013. But after the spinoff, the two companies continued to have a symbiotic relationship. PSX is the general partner of PSXP and the majority owner pf PSXP’s units. And substantially all of PSXP’s pipeline assets come from drop-downs by PSX.
PSXP is obviously not truly an independent company given its interconnectedness with its old parent — but there’s absolutely nothing wrong with that. In fact, I consider it a sign of stability. As PSX owns 55% of PSXP’s units, they have a very clear interest in growing the company responsibly and for the long haul.
Since going public in 2013, Phillips 66 Partners has boosted distributions at a 31% compound annual rate, and the units sport a current yield of 5.7%.
MLPs That Should Crush the Market: Cheniere Energy Partners (CQH)
Dividend Yield: 7.3%
MLPs are mostly associated with crude oil and natural gas pipelines. But there are some other niche players in the space, some of which have excellent growth prospects. Cheniere Energy Partners LP Holdings LLC (NYSEAMERICAN:CQH) is one of them.
CQH and its sister companies operate natural gas liquefaction facilities, preparing liquefied natural gas (LNG) for exportation. This puts it in a unique position to benefit as the United States grows into an LNG-exporting powerhouse.
Cheniere Energy Partners LP Holdings is not technically an MLP. It’s actually a holding company that owns units of a related entity, Cheniere Energy Partners LP (NYSEAMERICAN:CQP).
So why own one over the other?
There are two reasons. To start, CQH is a corporation and thus avoids the tiresome tax reporting of CQP and other MLPs. But more importantly, CQH is cheaper than its sister company. At current prices, CQH trades at a 16% discount to the value of the CQP shares it owns. You’re getting the exact same assets … but you’re getting them at a substantial discount.
If you believe in the LNG exportation story, then CQH is a smart way to play it. At current prices, the shares yield a very handsome 7.3%.
Charles Sizemore is the principal of Sizemore Capital, a wealth management firm in Dallas, Texas. As of this writing, he was long ETE, EPD and CQH.