MLPs represent an attractive investment option for
income-focused investors in the current rock-bottom interest rate
environment. In addition to high yields, MLPs have relatively
stable cash flows and solid growth potential. No wonder they have
surged in popularity in recent years.
Why invest in MLPs?
Most MLPs are in involved in processing and transportation of
energy commodities such as natural gas, crude oil, and refined
products, under long term contracts.
As such they have relatively consistent and predictable cash
flows, unlike exploration and production (E&P) companies, whose
profits are highly correlated with commodity prices.
As MLPs are structured as pass-through entities-they do not pay
taxes at the entity level and are thus are able to pay out most of
their earnings to investors. (Read:
3 Excellent ETFs for Income Investors
Further, MLPs have low correlations with many other asset
classes including equities and commodities and thus add
diversification benefits to the portfolios.
As the energy industry continues to evolve and grow with
revolutionary developments in the field of unconventional energy,
MLPs represent a great way to benefit from the growth.
MLPs come with complicated tax issues and many investors avoid
investing in them only due to daunting tax requirements. MLPs issue
complicated K-1s and further, since the pipelines run through
several states, the investors may be required to file tax returns
for all those states, in some cases.
Thankfully for the investors, some of the tax complexities can
be avoided by owning them in ETP form. The payouts by the ETPs are
reported as ordinary income on Form 1099, and therefore the K-1
forms are not required. (Read:
Retire Early with these Dividend ETFs
Funds that have more than 25% of their assets invested in MLPs
are treated as C corporations for tax purposes. Further, the assets
are required to be marked to market and a deferred tax liability
for the unrealized gains needs to be recorded.
As a result, MLP ETFs have significant tracking errors. Most
popular MLP ETF Alerian MLP ETF (AMLP) has returned 22.34% since
inception, while the underlying index returned 38.37%, as of
December 31, 2012.
As a result of the adverse tax issues, AMLP's expense ratio
before deferred taxes is 0.85% but gross expense ratio is extremely
high at 4.86% .
Despite its underperformance relative to the index, investors
have continued to pour money into the fund, which has accumulated
more than $5.7 billion in AUM so far. One advantage of investing in
AMLP is its less volatility compared with MLP ETNs. Lower
volatility results from its ability to reverse some of deferred tax
liabilities when the market is down.
ETNs typically eliminate some of these complex tax consequences
as they do actually not hold any securities. However the investors
should remember than ETNs are unsecured debt instruments and carry
credit risk. (Read:
ETF ETF Investors--Beware The Coming ETN
Annualized Std. Dev. (%)*
Annualized Returns (%)**
12- month Yield (%)
*Based on monthly returns using 2 years' price data
**Based on average monthly returns using 2 years' price data
Below we have highlighted three popular MLP ETNs.
JPMorgan Alerian MLP Index ETN (
AMJ is the most popular ETN in the MLP space with about
$5.7 billion in assets under management and daily volume over 1.2
Launched in April 2009, this ETN is based on the Alerian MLP
Index, which tracks the performance of 50 largest companies in the
energy MLP sector.
The note charges investors 85 basis points a year in fees for
its services and pays out an attractive yield of 4.6%
The investors should note that the ETNs are subject to maximum
issuance limit and this ETN stopped issuing new notes in June 2012.
Investors who buy this ETF at a premium to its NAV incur the risk
of loss in case they sell when the premium is no longer present.
However as of now, the ETN is trading close to its NAV.
UBS ETRACS Alerian MLP Infrastructure ETN (
MLPI focuses on the infrastructure space within the MLP world.
The note tracks the Alerian MLP Infrastructure Index, which is
comprised of 25 energy infrastructure MLPs.
The product has attracted $748 million in AUM and trades in
volumes approaching 65,000 shares a day.
This note also charges 85 basis points a year for expenses and
pays out a yield of 4.40%.
Credit Suisse Cushing 30 MLP Index ETN (
MLPN tracks the Cushing 30 MLP Index, which holds MLPs owning
mid-stream energy infrastructure assets in North America. It is an
equal weighted index, rebalanced on a quarterly basis. The ETN was
launched in April 2010.
The note has so far attracted $391.2 million in assets. This
note also charges 85 basis points a year for expenses and pays out
a yield of 4.74% currently.
Want the latest recommendations from Zacks Investment Research?
Today, you can download
7 Best Stocks for the Next 30 Days
Click to get this free report >>
JPM-ALERN MLP (AMJ): ETF Research Reports
ALERIAN-MLP (AMLP): ETF Research Reports
E-TRC UBS ALERN (MLPI): ETF Research Reports
CS-CUSHING 30 (MLPN): ETF Research Reports
SPDR-SP 500 TR (SPY): ETF Research Reports
To read this article on Zacks.com click here.