WSJ article on investors flocking to MLPs
The Wall Street Journal had a recent article on how investors are flocking to Master Limited Partnerships. MLPs typically deal with natural resources, like gathering and processing and gas and/or oil pipelines. They're structured similarly with REITs in that they owe no corporate income tax but must pay most of their cash flows as distributions; additionally, they issue K-1 forms that are somewhat complicated at tax time (it's not a big problem if you use tax filing software; I use H&R Block).
Just after the tech bubble, investors flocked to REITs, seeking actual income tied to real property, as opposed to phantom earnings. Furthermore, REITs paid good yields. There may be some of the same dynamics at play here. For example, the WSJ says the average MLP is yielding 7% right now. Furthermore, onshore oil and gas developments give them more oil and gas to transport. It's safe to assume that the US will want to use more natural gas in the future, and midstream (i.e. pipeline) MLPs are needed to get the gas from the fields to the users.
MLPs are sensitive to interest rates, and like REITs, they need to access the capital markets to raise capital. They often issue new units. To the extent that MLPs become fairly or overvalued in the market, they will have an easier time raising capital. However, there are only so many pipelines to build. I think there is potential for long-term gains in MLPs from today's prices, but investors need to watch the valuations and to select quality MLPs. At this point in time, as I've said earlier, I don't find any E&P MLPs attractive. I find that most of the midstream MLPs have economic moats due to their regulated, utility-like nature and the barriers to entry (pipelines are expensive and I don't see regulators allowing competing pipelines in a region). Pipeline contracts go by the amount of gas or oil transported and are often indexed to the Producer Price Index, which builds inflation protection in. Again, MLP prices will suffer if interest rates climb, but they'll have to climb by quite a bit.
My yield on cost in the Enterprise GP Holdings and Energy Transfer Equity is 8% or more, and I expect these two general partners to be able to grow distributions by an average of 10% per annum, perhaps more, if favorable conditions continue. I don't intend to put new money into either of these MLPs. However, Energy Transfer Partners (the LP of ETE) is a buy, yielding 7.5% or so; I expect it to be able to grow distributions by at least 4% per annum, which means you can lock in a real yield of 7.5% in a high-quality MLP. Magellan Midstream Partners is well worth watching - I considered buying this when it yielded 10% but shied away, which is one of my biggest mistakes of omission. If Kinder Morgan Partners (KMP or the S-Corp version, KMR) pulls back to $45, I would buy it, but they both have a long way to fall and I don't expect any negative catalysts out of this high-quality (albeit slow growth because of its size) MLP.