a blog dedicated to the discussion of MASTER LIMITED PARTNERSHIPS and the day to day news related to the group...along with perhaps a few other things...as long as the conversation is kept civil. Although i have no problem telling you what i am doing regarding my trades...PLEASE DON'T ASK ME WHAT YOU SHOULD DO REGARDING WHETHER TO BUY, SELL OR SHORT!!! i am not in the stock business.
Thursday, October 04, 2007
Nice finish with over a 4 point gain, a close near the high for the day, and a key reversal on the charts! Now the question is...was that "a" bottom or "the" bottom????
MLP Volatility Likely to Continue in 4Q, But Could Setup for a January Rally Investment Grade MLPs Appear the Most Attractive
* Liquidity Driving MLP Sector - We expect MLP unit prices to remain volatile throughout the fourth quarter with little upside as MLP market liquidity has taken over as the most important near-term factor. * Fundamentals Ignored - Despite our expectation for strong third quarter results and continued distribution growth, we expect MLP unit prices to trade sideways or down throughout the end of the year as a combination of equity issuance and selling institutional holders will likely offset these positive fundamental drivers. * January Rally Plausible - The good news is that we expect a rally to occur in January as near-term liquidity issues should be flushed out following potential tax-loss selling in November and December. The bad news is that we do not know exactly when to call the bottom as specific MLPs continue to trade weak despite a strong fundamental backdrop and some of the most attractive valuations that we have seen since the end of 2005. * Buy Quality - In our opinion the large investment grade rated MLPs with limited commodity price exposure that also do not need to raise a significant amount of capital by the end of the year are the best long-term opportunities for investors. * Best Options - Buy Rated MLPs that meet this criteria include: Buckeye Partners, L.P. (BPL.N - US$48.93; 1L), Enterprise Products Partners, L.P. (EPD.N - US$30.48; 1M), Energy Transfer Partners, L.P. (ETP.N - US$48.99; 1M), Magellan Midstream Partners, L.P. (MMP.N - US$39.72; 1L), NuStar Energy, L.P. (NS.N - US$58.30; 1L), ONEOK Partners, L.P. (OKS.N - US$59.25; 1M), and TEPPCO Partners, L.P. (TPP.N - US$37.48; 1L).
We believe the current MLP market is setting up a lot like the second half of 2005. Liquidity (the supply of MLP units versus the demand for additional units) is what drove unit prices during that timeframe, not fundamentals. Long-term this should not be the case. Instead we believe increasing demand for U.S. energy infrastructure and growing cash flows should ultimately drive MLP unit prices. However, total returns can temporarily decouple from fundamentals as a result of limited liquidity.
As some investors might recall, MLPs underperformed in the second half of 2005 as equity issuances put pressure on the group. The market's appetite for additional units had been reduced by investor concerns following hurricanes Katrina and Rita. Despite the fact that the hurricanes did not actually hurt the fundamental outlook for MLPs, investment in the sector was slowing as equity issuance overwhelmed the market driving down MLP unit prices. The sector was then put under further pressure in November and December of 2005 as a result of tax-loss selling. MLP unit prices were off nearly 12.3% from a peak in July through December of 2005 as shown in the following graph. In January of 2006 the MLP sector turned rather quickly and corrected 5.2%.
Figure 3. MLP Unit Price Performance: 2005 vs. 2007
Source: Citi Investment Research
We believe the current MLP market is facing similar liquidity issues as equity issuances are expected to increase, while there are signs that institutional investors are reducing exposure to the sector.
Based on S-1s that have been filed with the SEC we believe there is a $4.1 Billion backlog of equity issuances. Most notably, E&P MLPs have emerged as a substantial draw for capital with $2.2 Billion of filings associated with this asset class. In addition to the visibility of a potential equity overhang, it is worth noting that 2007 has already seen $12 Billion of equity that has been raised via IPOs, Private Placements, and follow-on offerings, a significant increase when compared to last year's $8.4 Billion. In our opinion, year-to-date equity issuances combined with clear visibility for more to come will likely drive continued volatility and increase competition for capital putting a lid on MLP performance through yearend.
Figure 4. IPO Summary
Source: Citi Investment Research
A r e I n s t i t u t i o n s R e d u c i n g M L P E x p o s u r e -
Equity issuances alone do not tell the whole story. As we noted above, the first half of 2007 also had a number of equity issuances at virtually no consequence to MLP unit prices. However, this was also during a time that we believe institutional investors were increasing exposure to the sector. We believe this to be the biggest change that has occurred over the last two months. Following the recent issues in the credit markets we think institutional MLP investment has been significantly curtailed leaving a void of investors that were providing significant liquidity in the first half of the year.
The best evidence that we can point to regarding institutions reducing exposure is the continued growing short-interest in some of the larger most liquid MLPs in addition to an increase in the number of large block trades of MLP units. We believe these block trades indicate large holders seeking to liquidate a portion of their investment. As we wrote in our August 3rd report titled Rationalizing and Irrational Environment, we have also documented a growing short interest in the MLP sector as we suspect institutional investors are trying to hedge illiquid MLP PIPE (Private Investment In Public Equity) investments by shorting the larger more liquid MLP names.
As shown in the following graph short interest has been growing across our coverage universe on both an absolute unit basis as well as on a 'days to cover' short interest basis. We have seen the 'days to cover' metric increase from roughly 3 days to 5 days over the past year, and the overall absolute short interest rise from roughly 8 million units to 21 million units.
Figure 5. Short Interest
Source: Citi Investment Research
I s a S h o r t - S q u e e z e B r e w i n g -
Interestingly, we believe some of the most attractive names in our coverage universe are some of the ones registering the highest short positions. Not only do we believe that these MLPs have strong balance sheets, high quality assets, solid growth profiles, but because the MLPs listed below have above average short interest we believe they would be the most likely to benefit from a short squeeze.
great post re smith barney report,except don't understand tax loss selling.most holders of mlps generate negative capital because of large distributions without associated eanings so sale usually causes phantom income
The main reasons that MLP's have been attractive are that: 1. Price is driven by ever increasing distributions. 2. They are backed by fixed assets that produce ever increasing revenue from increased tariffs and increase demand 3. The have experiened very little volitility. 4. Partners receive tax incentives. What we are experiencing is an event that is short lived and has always corrected in the past. The major risk is volitility of intrest rates. Those who understand will weather the forced selling initiated by hedge funds that borrowed to increase their pay outs.
SmithBarney / Citi:
ReplyDeleteMLP Volatility Likely to Continue in 4Q, But Could Setup for a January Rally
Investment Grade MLPs Appear the Most Attractive
* Liquidity Driving MLP Sector - We expect MLP unit prices to remain volatile
throughout the fourth quarter with little upside as MLP market liquidity has
taken over as the most important near-term factor.
* Fundamentals Ignored - Despite our expectation for strong third quarter
results and continued distribution growth, we expect MLP unit prices to trade
sideways or down throughout the end of the year as a combination of equity
issuance and selling institutional holders will likely offset these positive
fundamental drivers.
* January Rally Plausible - The good news is that we expect a rally to occur
in January as near-term liquidity issues should be flushed out following
potential tax-loss selling in November and December. The bad news is that we
do not know exactly when to call the bottom as specific MLPs continue to
trade weak despite a strong fundamental backdrop and some of the most
attractive valuations that we have seen since the end of 2005.
* Buy Quality - In our opinion the large investment grade rated MLPs with
limited commodity price exposure that also do not need to raise a significant
amount of capital by the end of the year are the best long-term opportunities
for investors.
* Best Options - Buy Rated MLPs that meet this criteria include: Buckeye
Partners, L.P. (BPL.N - US$48.93; 1L), Enterprise Products Partners, L.P.
(EPD.N - US$30.48; 1M), Energy Transfer Partners, L.P. (ETP.N - US$48.99;
1M), Magellan Midstream Partners, L.P. (MMP.N - US$39.72; 1L), NuStar Energy,
L.P. (NS.N - US$58.30; 1L), ONEOK Partners, L.P. (OKS.N - US$59.25; 1M), and
TEPPCO Partners, L.P. (TPP.N - US$37.48; 1L).
We believe the current MLP market is setting up a lot like the second half of
2005. Liquidity (the supply of MLP units versus the demand for additional
units) is what drove unit prices during that timeframe, not fundamentals.
Long-term this should not be the case. Instead we believe increasing demand
for U.S. energy infrastructure and growing cash flows should ultimately drive
MLP unit prices. However, total returns can temporarily decouple from
fundamentals as a result of limited liquidity.
As some investors might recall, MLPs underperformed in the second half of
2005 as equity issuances put pressure on the group. The market's appetite
for additional units had been reduced by investor concerns following
hurricanes Katrina and Rita. Despite the fact that the hurricanes did not
actually hurt the fundamental outlook for MLPs, investment in the sector was
slowing as equity issuance overwhelmed the market driving down MLP unit
prices. The sector was then put under further pressure in November and
December of 2005 as a result of tax-loss selling. MLP unit prices were off
nearly 12.3% from a peak in July through December of 2005 as shown in the
following graph. In January of 2006 the MLP sector turned rather quickly and
corrected 5.2%.
Figure 3. MLP Unit Price Performance: 2005 vs. 2007
Source: Citi Investment Research
We believe the current MLP market is facing similar liquidity issues as
equity issuances are expected to increase, while there are signs that
institutional investors are reducing exposure to the sector.
Based on S-1s that have been filed with the SEC we believe there is a $4.1
Billion backlog of equity issuances. Most notably, E&P MLPs have emerged
as a substantial draw for capital with $2.2 Billion of filings associated
with this asset class. In addition to the visibility of a potential equity
overhang, it is worth noting that 2007 has already seen $12 Billion of equity
that has been raised via IPOs, Private Placements, and follow-on offerings, a
significant increase when compared to last year's $8.4 Billion. In our
opinion, year-to-date equity issuances combined with clear visibility for
more to come will likely drive continued volatility and increase competition
for capital putting a lid on MLP performance through yearend.
Figure 4. IPO Summary
Source: Citi Investment Research
A r e I n s t i t u t i o n s R e d u c i n g M L P
E x p o s u r e -
Equity issuances alone do not tell the whole story. As we noted above, the
first half of 2007 also had a number of equity issuances at virtually no
consequence to MLP unit prices. However, this was also during a time that
we believe institutional investors were increasing exposure to the sector.
We believe this to be the biggest change that has occurred over the last two
months. Following the recent issues in the credit markets we think
institutional MLP investment has been significantly curtailed leaving a void
of investors that were providing significant liquidity in the first half of
the year.
The best evidence that we can point to regarding institutions reducing
exposure is the continued growing short-interest in some of the larger most
liquid MLPs in addition to an increase in the number of large block trades of
MLP units. We believe these block trades indicate large holders seeking to
liquidate a portion of their investment. As we wrote in our August 3rd
report titled Rationalizing and Irrational Environment, we have also
documented a growing short interest in the MLP sector as we suspect
institutional investors are trying to hedge illiquid MLP PIPE (Private
Investment In Public Equity) investments by shorting the larger more liquid
MLP names.
As shown in the following graph short interest has been growing across our
coverage universe on both an absolute unit basis as well as on a 'days to
cover' short interest basis. We have seen the 'days to cover' metric
increase from roughly 3 days to 5 days over the past year, and the overall
absolute short interest rise from roughly 8 million units to 21 million
units.
Figure 5. Short Interest
Source: Citi Investment Research
I s a S h o r t - S q u e e z e B r e w i n g -
Interestingly, we believe some of the most attractive names in our coverage
universe are some of the ones registering the highest short positions. Not
only do we believe that these MLPs have strong balance sheets, high quality
assets, solid growth profiles, but because the MLPs listed below have above
average short interest we believe they would be the most likely to benefit
from a short squeeze.
great post re smith barney report,except don't understand tax loss selling.most holders of mlps generate negative capital because of large distributions without associated eanings so sale usually causes phantom income
ReplyDeleteThe main reasons that MLP's have been attractive are that:
ReplyDelete1. Price is driven by ever increasing distributions.
2. They are backed by fixed assets that produce ever increasing revenue from increased tariffs and increase demand
3. The have experiened very little volitility.
4. Partners receive tax incentives.
What we are experiencing is an event that is short lived and has always corrected in the past.
The major risk is volitility of intrest rates.
Those who understand will weather the forced selling initiated by hedge funds that borrowed to increase their pay outs.
Mr. PhD
ReplyDeleteIts "volatility" not volitility and
"interest" not intrest.
Maybe you need to go back to school and learn how to spell!
Mr. A.