As hopes fade for a quick or even medium-term recovery in the price of crude oil and an interest rate hike looms, more people are bailing out of MLPs, investments long touted by Wall Street as immune to downturns, according to a Oct. 2 report.
The Alerian MLP index hit its lowest level in more than five years this week and is down 30% so far this year. The index is far underperforming other yield-oriented indexes, including the MSCI REIT Index, which is down only 6%.
The pipeline and processing plant companies that best typify the MLP sector make money like toll roads, charging fees based on traffic volumes. That model was long thought to inoculate them from price crashes.
But a recent deal upset that logic when Chesapeake Energy Corp. (CHK) renegotiated lower fees with pipeline operator Williams Cos. Inc. (WMB). That deal, which also requires Chesapeake to move more gas, was the first to shake the notion that pipelines offer a hedge against downturns.
Energy partnerships are the backbone of the U.S. shale oil industry. In the past decade, the $735 billion sector has swelled to more than 130 publicly traded partnerships from 40. Any blow to the sector affects Wall Street, U.S. shale oil fields and the energy companies that control the partnerships.
The crude oil slide and lower natural gas prices have caused problems for some partnerships that need to tap public markets often to finance new projects. The Federal Reserve has also signaled a rate hike this year, which may drive investors elsewhere.
A yearlong slide in crude has people anticipating a bathtub-shaped recovery, where prices drop and stay low for years before rising.
"The declining oil price has impacted MLPs just as much as the [exploration and production] sector," Credit Suisse investment banker Brian McCabe told a tax conference last week where people agreed the MLP sell-off was a bit unfair.
MLPs pay no taxes and pass profits through to investors. Energy companies have flocked to them because of the tax advantages, while investors like the fat dividends they pay.
While distributions for most MLPs are still expected to grow, albeit more slowly, some believe a recovery may be years away.
"Our view is that crude oil markets are unlikely to fully rebalance until 2017 at the earliest and will therefore be a major headwind on the midstream sector," Morningstar analysts told clients last week.
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