Darren Schuringa of Yorkville Capital explains the benefits of MLPs for growth and income investors, highlighting several diversified MLP funds as well as a trio of favorite master limited partnerships.
Steve Halpern: We're here with Darren Schuringa, Managing Partner at Yorkville Capital. Thanks for joining us today, Darren.
Darren Schuringa: Steve, it's my pleasure. Thank you for having me.
Steve Halpern: Today, we're going to discuss Yorkville Capital's MLP core income strategy, which generated a 58% return in 2013. First, for our listeners who may be unfamiliar with MLPs, could you briefly explain what these investment vehicles are and your outlook for the MLP sector, looking out through this year and beyond?
Darren Schuringa: That would be my pleasure. Master Limited Partnerships, the acronym MLPs, which is, they are often, in essence, a pure way to invest in the US energy revolution.
From a structural standpoint, they're very similar to REITs in that they are pass-through vehicles, which means they don't pay any corporate income taxes, which means, too, from an investor standpoint, there's more cash flow to distribute, which generally means higher income and higher yields from the investment.
What they invest in, primarily 80% of all MLPs invest in essential US energy infrastructure like pipelines, so now—oh, sorry, Steve.
Steve Halpern: I'm sorry, and your outlook for that sector, when you look out over the coming year?
Darren Schuringa: Absolutely, the outlook looks very bright for MLPs going forward and the macro driver behind it, and why we see continued growth going forward is, really, the US energy revolution.
That will drive future distribution growth, or future cash flow growth, because of our need for further investment in pipelines to move gas from the North Dakota—which is also known as the Bakken—to the Gulf Coast or to the east coast.
Unlike most bonds, MLP payouts are not fixed, but they offer income growth opportunities and this is, again, part of an explanation. This means MLP distributions share the characteristics of both fixed income and equities, which makes growth metrics vital in evaluating them, and understanding distribution growth is critical to projecting the future total return potential of MLPs.
It's really similar to traditional equity metrics, like earnings, or cash flow, in terms of importance in looking at growth and valuation, but more importantly to an investor, this growth is cash that you're receiving in your pocket.
It's not money that's being reinvested in the business; it's money that you can spend, and from this standpoint, MLP fundamentals remain excellent for both current income, the money you're receiving each year, and the potential for capital gains, the growth and income, which ultimately drives capital appreciation of the underlying or the value of the underlying asset.
|pagebreak|So, the incredible growth in US energy production has enabled MLPs to grow their distributions, historically, at 7% per annum growth rate.
What's incredible, Steve, this has been in a declining production environment. Now, we've moved into oil and natural gas, our production over the last five years has been increasing and, actually, it's increased by 40%, the amount of oil and natural gas the US is producing.
We're now the largest exporter, or producer, not exporter, of oil and natural gas in the world, and so, this incredible growth and production, we see that these growth trends in distribution should, not only be able to maintain at historical rates, but we can see an acceleration in the amount of distribution growth at the asset class we'll deliver going forward.
Steve Halpern: So, what particular factors will you be looking at to see what will drive future appreciation and income growth in the sector?
Darren Schuringa: Okay. For the US to fully capitalize on the economic benefits of all the current energy finds, and we call these new energy frontiers, again, like North Dakota—five years ago, North Dakota wasn't on the energy grid, now it is the second largest energy producing state in the US after Texas, which is shocking, in five years, it's become number two.
We see that there will be approximately—our forecast shows approximately $300 billion—will be needed in direct energy infrastructure investment over the coming years, and, actually, there's been reports that have been released recently that have seen this number more than double and we probably they are more accurate and we're being conservative.
Regardless, this demand creates opportunities for master limited partnerships that will increase their distributions, and distributions are the main driver behind investing in MLPs; that's the fundamental, it's the cash flow.
What type of cash flow—and in MLPs, it's called distribution—is the partnership giving me as an investor, or distributing to me as an investor?
And, if that's growing over time, I know that my investment in MLPs is relatively safe, because distribution growth continues, so, the demand—or this increased production that I just described—will drive distribution growth.
And, when you look at distribution growth, it really does three things from an investment standpoint. Distribution growth provides a hedge against inflation, it provides protection against rising interest rates, it, thirdly, drives price appreciation or power's price appreciation.
So, with distribution growth—again, you have the essence of why MLPs are more like equities than they a fixed income because distribution growth is growing.
What we're looking at—and what Yorkville's been talking about to investors for a long period of time—is, that, the faster the distribution growth that a partnership is producing, that will be the primary determinant of the performance that the partnership will deliver over time and I'll leave it at that right now, I don't want to bring in a lot of numbers. It's just confusing.
Steve Halpern: For investors who are seeking a diversified MLP portfolio, Yorkville offers a number of options. Could you tell our listeners a little about the MLP portfolios that are available through Yorkville?
|pagebreak|Darren Schuringa: Absolutely. So the—we have a couple of exchange traded funds in the market. Currently they trade on the New York Stock Exchange. The first fund that we brought out in, a couple of years ago, in 2012, was the Yorkville High-Income MLP ETF (YMLP).
It's yielding just slightly under 9% currently, and it is focused on the upstream segment of MLPs, so exploration and production companies, oil field service companies; the non-infrastructure side of MLPs.
It offers higher yield, which is very attractive as part of the overall investment pieces; again, distributions, and the quantity of distributions, means how much yield, so this is a great way of gaining exposure to the asset class with very attractive yield characteristics.
The second fund is the Yorkville High-Income Infrastructure MLP Fund (YMLI), which focuses just on infrastructure. For an MLP, that is the pipeline, essentially. It yields 6.2% and it's a great way of gaining exposure to the infrastructure side of the asset class.
When you look at YMLP and YMLI, there's no overlap in positions in each fund; so if you combine a 50% holding of YMLP with a 50% holding of YMLI, you'll get a blended rate of current income. You'll gain a well-diversified broad-based exposure to the overall asset class.
That's the way we constructed the two funds, so that they would complement each other, and they also pay their distributions in different months. So, if you own YMLI plus YMLP, eight out of 12 months of the year, you'll receive current income.
Last year, 100% of the income that both funds distributed was return of capital, meaning that there was no income taxes paid on the 9% or 6% current coupon, or current yield from each fund.
So, those were our two fund options right now; again, YMLP upstream or commodity focused, but with no commodity exposure and YMLI, the infrastructure exposure—with the 9% and 6% current income that each produce.
And then there are our separately managed accounts are, which you mentioned the beginning of this interview, the Yorkville MLP Core Income Strategy, it's only available in the separately managed account that was up 58% last year, doubling the asset class performance of all MLPs, so, it had great performance. That's available directly through Yorkville in opening an account with our firm.
So, those are three ways you can access our, really, industry-leading knowledge via asset class, as a firm, we've been investing, as a team, actually, for 20 years in master limited partnerships, so we really understand the asset class and love it and from a growth perspective, we've never seen a brighter picture for potential returns than where we sit right now, going forward.
Steve Halpern: Well, given your expertise in this sector, maybe you'd also share a few names of individuals MLPs, for those investors who would prefer to buy individual securities. Maybe there are some favorites that stand out to you.
|pagebreak|Darren Schuringa: Yeah, absolutely, would be happy to do so. Again, going back to our, we recently did a webinar called “Where to find value in MLPs in 2014” and the conclusion of our findings was, you want to find MLPs that are growing the fastest and that's where you'll maximize your total return, so here are three names that we like:
One is Atlas Energy and the ticker symbol is (ATLS) and it has grown its distributions by, roughly, 70% year over year. This compares to growth at its limited partners, which are two; Atlas Resource Partners, (ARP) and Atlas Pipeline Partners, (APL) of roughly 30% and 9%.
Because we like what's going on at both of these partners, ARP and APL, Atlas is the perfect way to play the overall growth story of MLPs.
Atlas ATLS is almost like YMLI and YMLP combined in one security, because it has both commodity exposure, E and P exposure, and it has pipeline exposure in one security, which is ATLS; that's really growing gangbusters.
The second name we like, Oneok (OKE); it is structured actually as a C-Corp, which means it pays its corporate income taxes, versus a partnership, MLP, so it has lower yield. It's only yielding 2.7% versus roughly 5% for the asset class overall, and the reason for that is faster growth.
OKE just spun off its utility business, One Gas, (OGS), and it's in the process of exiting its unprofitable energy services segment—so for 2014, we expect OKE to pay a dividend of roughly $2.10, which represents an increase of 40% over what they distributed in 2013, and then, after that, we see a 10% annual growth rate through 2015 and 2016 so.
On a relative basis, given the growth rate, OKE looks undervalued when I compare it to other general partners.
The final name for today is Energy Transfer Equity; (ETE) is the ticker symbol. It's the general partner to Energy Transfer Partners, (ETP); Regency Energy Partners, (RGP); and Sunoco Logistic Partners, (SXL), so again, it's a mini-conglomerate within the MLP segment giving you broad-based exposure.
As a general partner to these three MLPs, ETE benefits exponentially from distribution growth at the underlying MLPs.
In 2013, ETE announced its intentions to form a fourth MLP subsidiary in its trunkline, LNG export terminal project, and long-term, we see a wonderful growth opportunity in MLPs, as the United States starts to export liquefied natural gas.
The overall estimates, right now, our forecasts, are that we could increase our demand for natural gas by 25% from current levels in exports alone, so, it's going to be a tremendous amount of volume of LNGs that will be shipped to Europe and to Asia. Now ETE is one of the beneficiaries of this.
It's also resumed its distribution growth, introduced a $1 billion share repurchase in the coming year, so, overall, all three of these things, they have one factor in common—they're all growing above average relative to their peer group.
And there are clearly identifiable catalysts to each to drive future price appreciation in the stock, so, again, when you're looking for value in MLPs in 2014, stay focused on distribution growth.
Steve Halpern: Well, we really appreciate you taking the time today. Thank you for joining us.
Darren Schuringa: Thank you, Steve.
