Download - ETF.com Webinar: MLPs at a Turning Point · Incentive structure at KMP (and most MLPs) sends increasing share of total cash distributions to the general partner, creating a significant

ETF.com Webinar:

MLPs at a Turning Point

Paul Britt, CFA Senior ETF Specialist ETF.com

Panelists

Scott Burley ETF Specialist ETF.com

Peter Lazaroff, CFA, CFP® Portfolio Manager Acropolis Investment Management

Recent Market Volatility

Data Source: Bloomberg

$70

$75

$80

$85

$90

$95

$100

$105

NYMEX WTI Crude

Crude Oil Prices

Macro Events Impacting Oil Prices

Strengthening Dollar

Global Growth Forecast Revised Down

Strong U.S. Shale Oil Production Growth

Weakening GDP in Europe and China

Refinery Maintenance Season

Mixed Message from OPEC

Source: Bloomberg

-15.0%

-10.0%

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Inverted DXY WTI

Data Source: Bloomberg.

Impact of U.S. Dollar

-15.0%

-10.0%

-5.0%

0.0%

5.0%

10.0%

Inverted DXY WTI








Source: Bloomberg

Source: IMF World Economic Outlook

3.6

2.0

2.6

1.0 1.2

5.1

7.3

3.6

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1.2 1.4

4.9

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0.8 0.9

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World AdvancedEconomies

U.S. Euro Area Japan EmergingMarket andDevelopingEconomies

China

Annu

al C

hang

e %

IMF Real GDP Estimates and Projections for Year 2014 Oct-13 Apr-14 Oct-14

Source: IMF World Economic Outlook

4.0

2.5

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2.0

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8.0

World AdvancedEconomies

U.S. Euro Area Japan EmergingMarket andDevelopingEconomies

China

Annu

al C

hang

e %

IMF Real GDP Estimates and Projections for Year 2015 Oct-13 Apr-14 Oct-14

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Jul-0

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Oct

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Apr-

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Jul-0

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Oct

-08

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Apr-

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Oct

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Jul-1

0

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Jan-

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11

Jul-1

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Jan-

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-12

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MnB

bl/D

ay

MnB

bl/D

ay

U.S. Shale Oil Production

Total Light Tight Oil Bakken Eagle Ford Haynesville

Marcellus Niobrara Permian UticaSource: EIA

Data Source: Bloomberg (S&P 500 Oil & Gas Exploration & Production Index, Alerian MLP Index, NYMEX WTI Crude Oil)

Recent Performance: E&P, MLP, and Oil

-35%

-30%

-25%

-20%

-15%

-10%

-5%

0%

5%

E&P MLP Oil

Historical Correlation to Crude Oil

Source: Bloomberg (as of 11/18/14)

Alerian MLP S&P 500 S&P 500 Energy

1 Month 0.66 0.35 0.65

1 Year 0.29 0.14 0.42

3 Year 0.29 0.25 0.45

5 Year 0.47 0.50 0.65

10 Year 0.39 0.32 0.59

MLP correlations to crude oil tend to spike in the short-run, but remain low over the long run.

Historical Correlations to Crude Oil (WTI)

Benefits of MLP Exposure

Growth of U.S. Energy Infrastructure

Need over $135 billion in energy infrastructure projects in U.S. by 2016

Stable and Growing Cash Flows

Fee-based toll road business models

Average distribution growth of ~ 7% over the past 10 years

No Entity-Level Taxation

No double taxation leads to more competitive cost of capital

Tax-Efficient Yield

70%-100% of income is treaded as tax-deferred “return of capital”

If held until death: MLPs step up in basis and income on distribution avoid most

taxation

Portfolio Diversification

Low correlation to broader markets

Less dependent on overall economic growth

Kinder Morgan Transaction


Solving the Growth Problem Incentive structure at KMP (and most MLPs) sends increasing share of total cash

distributions to the general partner, creating a significant headwind to distribution growth.

The more successful an MLP is at growing distributions, the more difficult it will become to

sustain that growth.

Old solution: MLPs buy out their GPs’ incentive distribution rights (IDRs)

New solution: GP buys out their MLPs


Industry Implications MLP structure remains a highly attractive operating and financing structure

Considerable running room for asset class due to infrastructure build out needs

MLPs with higher distribution splits more likely candidates for “simplications”

Mature MLPs with significant asset footprints are well-positioned to become consolidators

Continued MLP consolidation, supporting robust industry valuations and prompting smaller

MLPs to get bigger or get bought.


MLP Fund Implications Index Changes

KMP = 9.34% of Alerian MLP Index (as of 9/30/14)

EPB = 2.72% of Alerian MLP Index (as of 9/30/14)

Taxes

Tax effect on funds that are “closed-end” or organized as C-corporations should be

minimal

Mutual funds that are “registered investment companies” will realize taxable income if

they hold the affected MLP units

Exchange traded notes (ETNs) experience no tax consequences

Active management may have short-term advantage over passive funds

No material change in yield and distribution growth for passive funds

Considerations for MLP Exposure

Ways to Invest

Product Type Direct Investment Closed-End Funds Open-End Mutual Funds

Exchange-Traded Notes

Exchange-Traded Funds

Tax Characteristic Flow-Through Yes Yes Yes No Yes

Tax Treatment Ordinary Income Qualified Dividend Qualified Dividend Ordinary Income Qualified Dividend

Tax Form Form K-1 Form 1099 Form 1099 Form 1099 Form 1099

IRA/401(k) Eligible Taxable Beyond $1,000 in UBTI Yes Yes Yes Yes

Leverage No Varies Varies Yes No

Annual Fee None Varies Varies Varies Varies

First Fund Launched N/A February 2004 March 2010 July 2007 August 2010

Choosing a Fund

Key Considerations Structure

Active vs. Passive

Index selection

Cost

Liquidity

Asset Location

Use of Leverage

AMLP vs. AMJ vs. EMLP

Source: Bloomberg (as of 11/18/14)

AMLP AMJ EMLP

Structure C Corporation ETN Registered Investment Company

Active / Passive Passive Passive Active

Index Alerian MLP Alerian MLP n/a

Gross Expense Ratio 8.56% 0.85% 0.95%

Average Daily Liquidity (millions) $71.30 $83.30 $10.30

Asset Location Taxable Account Tax Deferred Tax Deferred

Distribution Taxed As Mixed (some Return of Capital) Ordinary Income Dividend Income

Net Assets (millions) 9,600 6,600 $935

12-Month Yield 6.0% 4.4% 3.0%

12-Month Total Return 10.7% 15.9% 22.1%

22 ETPs available, in three different structures:

MLP Landscape

Structure No. of Funds

Combined Assets Under Management

C-corporation 7 $9.9 billion Exchange-traded note (ETN) 12 $11.5 billion Open-ended fund (1940 Act) 3 $1.1 billion

• Broad selection of strategies…

MLP Landscape

Fund Strategy

AMJ Broad market

AMLP Infrastructure only

AMU Broad market

AMZA Active, infrastructure only

ATMP Includes GPs

EMLP Active; includes C-corps, LLCs, royalty trusts, GPs…

ENFR Includes C-corps, GPs, Canadian dollar exposure

IMLP Broad market

MLPA Broad market

MLPC Complex fundamental screen

MLPG Natural gas only, equal-weighted

Fund Strategy

MLPI Infrastructure only

MLPJ Small-caps only

MLPN Infrastructure only, equal-weighted

MLPW Broad market

MLPX MLPs plus energy infrastructure C-corps

MLPY High-yield only, equal-weighted

OSMS Growing yields, low correlation to energy

YGRO Growing yields

YMLI Infrastructure only

YMLP High yield, small- and midcaps only

ZMLP Quality screens, equal-weighted

• At varying levels of liquidity…

MLP Landscape

Fund Average Daily Volume

Average Spread

AMJ $84.1 million 0.09%

AMLP $89.6 million 0.06%

AMU $3.1 million 0.17%

AMZA $389.3 thousand 0.33%

ATMP $1.2 million 0.13%

EMLP $8.9 million 0.11%

ENFR $187.0 thousand 0.20%

IMLP $4.0 million 0.17%

MLPA $1.1 million 0.16%

MLPC $873.9 thousand 0.16%

MLPG $78.8 thousand 0.16%

Fund Average Daily Volume

Average Spread

MLPI $11.0 million 0.12%

MLPJ $101.8 thousand 0.32%

MLPN $5.5 million 0.18%

MLPW $53.7 thousand 0.14%

MLPX $1.2 million 0.12%

MLPY $533.2 thousand 0.35%

OSMS $2.8 thousand 0.46%

YGRO $240.3 thousand 0.30%

YMLI $210.3 thousand 0.25%

YMLP $2.8 million 0.24%

ZMLP $892.0 thousand 0.13%

Average over 45 trading days to 11/13/14

Narrowing the Field

Structure Assets Under Management

Alerian MLP (AMLP) C-Corp $9.3B

JPMorgan Alerian MLP (AMJ) ETN $6.3B

ETRACS Alerian MLP Infrastructure (MLPI) ETN $2.3B

Credit Suisse Cushing 30 MLP (MLPN) ETN $927M First Trust North American Energy Infrastructure (EMLP) 40 Act $927M

iPath S&P MLP (IMLP) ETN $866M

ETRACS Alerian MLP (AMU) ETN $381M

Yorkville High Income (YMLP) C-Corp $300M

Recent Performance

-15%-10%

-5%0%5%

10%15%20%25%30%

11/1

3

12/1

3

1/14

2/14

3/14

4/14

5/14

6/14

7/14

8/14

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10/1

4

11/1

4

AMJ AMLP AMU EMLP IMLP MLPI MLPN YMLP SPY

Cumulative total return, 12 months to 11/13/14

Recent Performance Cumulative total return, October 2014

-16%-14%-12%-10%

-8%-6%-4%-2%0%2%4%

9/30

/14

10/2

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AMJ AMLP AMU EMLP IMLP MLPI MLPN YMLP SPY

Recent Performance Cumulative total return, October 2014

-16%-14%-12%-10%

-8%-6%-4%-2%0%2%4%

9/30

/14

10/2

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AMJ AMLP AMU EMLP IMLP MLPI MLPN YMLP USO

Daily correlation to United States Oil Fund (USO), 12 months to 11/13/14

Correlation to Oil

-1 -0.5 0 0.5 1

YMLP

MLPN

MLPI

IMLP

EMLP

AMU

AMLP

AMJ

Daily correlation to SPDR S&P 500 ETF (SPY), 12 months to 11/13/14

Correlation to Equities

-1 -0.5 0 0.5 1

YMLP

MLPN

MLPI

IMLP

EMLP

AMU

AMLP

AMJ

Daily correlation to Energy Select SPDR ETF (XLE), 12 months to 11/13/14

Correlation to Energy Sector

-1 -0.5 0 0.5 1

YMLP

MLPN

MLPI

IMLP

EMLP

AMU

AMLP

AMJ

Annualized standard deviation of daily returns, 12 months to 11/13/14

Volatility

0% 5% 10% 15%

USO

YMLP

MLPN

MLPI

IMLP

EMLP

AMU

AMLP

AMJ


Volatility

0% 2% 4% 6% 8% 10% 12% 14% 16% 18%

SPY

YMLP

MLPN

MLPI

IMLP

EMLP

AMU

AMLP

AMJ


Volatility

0% 2% 4% 6% 8% 10% 12% 14% 16% 18%

XLE

YMLP

MLPN

MLPI

IMLP

EMLP

AMU

AMLP

AMJ

12 months to 11/13/14

Yield vs. Total Return

AMLP AMJ

MLPI

MLPN EMLP IMLP

AMU

YMLP

SPY XLE

0%

2%

4%

6%

8%

10%

12%

-10% -5% 0% 5% 10% 15% 20% 25%

Dist

ribut

ion

Yiel

d

Total Return

Legal Structures Affect Performance

-5%

0%

5%

10%

15%

20%

25%

ETN (MLPI) C-corp (AMLP)

(Source: Bloomberg. Market price with dividends reinvested 10/31/13-10/31/14)

MLPs – Direct Investment

C-Corp

MLPs

• Pass-through structure

• Most income is Return of Capital

• ROC income is tax deferred; Lowers cost basis

• K-1 tax filing

Why Not Traditional ETFs?

ETF ETF MLPs (100%)

• 100% MLP holdings not allowed in traditional ETF (‘40 Act open-ended fund)

• Hence, alternative Exchange-Traded Product (ETP) structures

MLP ETP Structures

C-Corp ETF MLPs (25%)

Similar Energy Corps

ETN MLP Index

(100%)*

C-Corp MLPs (100%)

C-corporation

ETF ETF

• Holds 100% MLPs • Tax-deferred

income • Taxed at fund level! • Low “beta” to index

C-Corp MLPs (100%)

C-corporation Fees Reflect Taxes

ETF ETF

-

100

200

300

400

500

600

C-Corp ETN Trad. ETF

Average Expense Ratio (basis points)

(Source: ETF.com as of 11/19/2014. Among all 22 unlevered MLP ETPs)

Exchange–Traded Note

ETF ETF

• Pure play exposure • Income is fully taxed • Counterparty risk

C-Cor ETN MLP Index

(100%)*

Traditional ETF

ETF ETF

• Diluted exposure • Mixed portfolio • Lower yield recently

C-Cor ETN ETF MLPs

(25% Max)

Similar Energy Corps

MLP ETP Structures - Summary

C-Corp Direct MLP Investment

MLPs in Exchange-Traded Products

C-Corp ETN ETF

Tax-deferred income Yes Yes No Some

Pure exposure to MLPs Yes No Yes No

Issues K-1 Yes No No No

(Source: ETF.com)

Kinder Tax Impact on AMLP (C-corp)

C-Corp

(Source: “Kinder Morgan’s Tax Effects On MLP ETFs” 10/3/2014, ETF.com)

• No special distributions expected • Not required to distribute any cash

proceeds unlike an ETF • No additional taxes expected

• AMLP accrues taxes daily anyway

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Paul Britt, CFA Senior ETF Specialist ETF.com

Panelists

Scott Burley ETF Specialist ETF.com

Peter Lazaroff, CFA, CFP® Portfolio Manager Acropolis Investment Management

Thank You!