Time To Buy MLP ETFs?

buyers and sellersDespite hailing from the energy space, MLPs put up a great fight last year against the oil price slump thanks to their low correlation with the underlying commodity and the U.S. shale oil boom. However, the winning streak reached the verge of a reversal as MLPs entered the New Year.

The largest MLP ETF Alerian MLP ETF (NYSEARCA:AMLP), which added about 0.3% in the last one year against a 50% decline in oil prices, has lost about 3.2% so far this year (as of January 16, 2015). All energy MLP ETFs/ETNs are deep in the red this year with some products hitting an acute 12.5% loss in such a short span of time.

Now, with the no signs of end to the oil price slouch and analysts turning more bearish on this liquid commodity, MLPs might find it tough to stay afloat. Going by a recent article by Bernstein, MLPs had a free cash flow yield of 5% in 2009 while at present these have a free cash flow yield of negative 5%.

As you may know, MLPs often operate pipelines or similar energy infrastructures that make it an interest-rate sensitive sector. This group catches an investor’s eye as these do not pay taxes at the entity level and hence must pay out most of their income (more than 90%) in the form of dividends.  Investors looking for higher income levels outside the traditional bond sources generally bet on these products.

Investors should note that the rate scenario has been subdued since last year with yields on 30-year Treasury notes touching the all-time low in January. While this should brighten the appeal for MLP investing, a six-year low oil price comes in the way of outperformance.

Strength & Weakness in the MLP Space

Speculations are rife that the U.S. stockpiles will remain high in the coming days. So no matter how bad the oil price situation is, the need for mid-stream MLPs involved in the processing and transportation of energy commodities such as natural gas, crude oil and refined products, under long-term contracts, will always remain due to the energy production boom in the U.S. This is because MLP revenues depend on the volumes flowing through the pipes and not on the commodity price.

On the other hand, upstream exploration MLP companies earn from every barrel of oil and are being thrashed by the endless weakness in oil prices. Still, investors’ fears pertaining to oil have hurt the MLP sector as a whole to start the year despite its allure for dividend income.

Buy on the Dip

Given the fundamentals discussed above, investors might consider the recent dip as an entry point to the mid-stream or energy infrastructure ETFs. Below are three such MLP ETFs for investors.

AMLP in Focus

It is the most popular product with an asset base of $8.62 billion and average trading volume of more than $6 million shares. The fund’s expense ratio is high at 8.56%. The product tracks the Alerian MLP Infrastructure Index and has exposure to the mid-stream securities like Williams Partners L.P. (WPZ), Energy Transfer Partners, L.P. (ETP), MarkWest Energy Partners, L.P. (MWE) and Magellan Midstream Partners LP (MMP).

The fund has lost only 0.5% in the last five trading sessions and 3.2% in the year-to-date frame. AMLP pays out 6.9% in annual yields (as of January 16, 2015).

MLP ETF (MLPA)

The fund looks to track the Solactive MLP Composite Index. The Index is comprised of MLPs engaged in the transportation, storage, processing, refining, marketing, exploration, production, and mining of natural resources. The fund charges 45 bps in fees.

The fund has garnered about $150 million in assets. This ETF too has considerable exposure to Energy Transfer Partners (6.72%), Magellan Midstream (6%) and Buckeye Partners, L.P. (BPL) (5.98%). The fund was off 0.6% last week and has shed about 2.6% so far this year. MLPA has a dividend yield of 6.13% (as of January 16, 2015).

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