MLP's for High Yield

[dan_s]

MLP's are great but they do have some risks. Also, keep in mind that you must wait on the K-1 at year-end to complete your tax return. There is a bit of a bookkeeping requirement to track your basis in the units since most of the distributions are tax free return of capital (a very good thing). Some of my favorites are mentioned at the bottom of this article. - Dan

From the BullMarket.com staff, On Monday June 21, 2010, 8:43 am EDT
While we have long extolled the investing virtues of MLPs (master limited partnerships), just like any investment, these stocks do carry risk.

The two biggest risks that could affect MLPs as a group are a change in the tax status of the structure and rising interest rates. While Canadian trusts suffered from the surprise elimination of the trust structure, we don't foresee the U.S. doing the same, as the expansion of the trust structure that led to the new Canadian legislation was addressed in the 1980s by the U.S. government by limiting the structure to natural resource plays. (Interestingly, the NBA's Boston Celtics became an MLP in 1986.) However, the "temporary" Chairman of the House Ways and Means Committee Democratic Congressman Pete Stark is not a supporter of MLPs, and while a change in tax status seems remote, it is nonetheless a risk to be aware of.

Meanwhile, as yield-based investments, MLPs carry interest rate risk and typically underperform in rising interest rate environments.

Investors may also be wondering why MLPs were under pressure earlier this year.

In early May, MLPs were under pressure due to plunging oil prices and widening risk spreads. The energy sector as a whole was taking a hit when the dollar was strengthening against the euro. Oil is priced in dollars, and when the dollar is strong, it negatively affects the price of crude because it becomes more expensive for buyers using weaker currencies.

While many MLPs are not dramatically impacted by energy prices, they do have some exposure, and negative sentiment towards energy prices can impact the stocks.

The bigger issue, though, was widening risk spreads on debt. Investors rushed to Treasuries and banks weren't lending as much suddenly, and the risk spread between Treasuries and other forms of debt, whether it be corporate paper or MBS (mortgage-backed securities), widened. Since MLPs are yield instruments, they negatively feel the impact when risk spreads widen, and their prices adjust downward so that their yields reflect the increased spread versus Treasuries the market started to command.

When talking about risk, it is also worth mentioning that MLPs tend to have secondary stock offerings quite often to help fund growth given that most cash flow is paid out to unitholders in the from of distributions. The dilutive nature of these offerings usually cause stock prices to take a temporary hit.

In the long run, these risks have usually proven to be small hiccups, but MLPs that have the ability to grow their dividends more quickly tend to outperform during periods of increasing interest rates or widening risk spreads.

In a new 60-page report, BullMarket.com examines the various valuation metrics used to evaluate MLPs (and LLCs), gives it top picks in 10 MLP subsectors, and answers some common questions, such as whether MLPs are a better investment than Canadian Energy trusts such as Provident Energy Trust (NYSE: PVX - News).

Among the stocks featured in its report are Kinder Morgan Partners (NYSE: KMP - News), Enterprise Products Partners (Nasdaq: EPD - News), El Paso Pipeline Partners (NYSE: EPB - News), MarkWest Energy (NYSE: MWE - News), Linn Energy (Nasdaq: LINE - News), Inergy, (NYSE: NRGY - News), K-SEA Transportation Partners (NYSE: KSP - News), Stonmor Partners (Nasdaq: STON - News), and many others.

A daily investment service that identifies winning long-term growth, value, and income stocks, BullMarket.com's Recommended List of stocks outperformed the S&P 500 by nearly 15% in 2008, was up 40% in 2009, and is up 8.7% through the end of April in 2010. BullMarket.com has recently published its 2nd Annual MLP Special Report, which is available for free to all subscribers. Sign up for a free trial today and receive actionable market commentary, real-time trade alerts, access to 40+ high-quality recommended stocks, and its annual high-yield and MLP special reports.