Buying a business is a great way to get rich.
Not only are business owners entitled to a portion of their
company'sprofit , but those profits are frequently classified as
distributions, so they're taxed at a lower capital gains rate.
That's a powerful income and tax strategy for generating long-term
wealth.
But owning a business also involves plenty of risk. Buying a
business is a capital-intensive feat and, because businesses
areilliquid assets, it's difficult for owners to access equity when
it's time to sell. And when you throw in expensivetransaction costs
for attorneys, consultants and contracts, it's easy to
become uninterested by the high financial hurdles that
are in the path to business ownership.
That's why master limited partnerships (MLPs) are becoming so
popular. An MLP provides investors with the liquidity of a stock
and the benefits of business ownership. In other words, MLPs work
just like corporations, with the only difference being taxation. In
fact, MLPs are required to pay 90% of their income as distributions
to their limited partners, the shareholders. These distributions
are only taxable when the units are sold (ownership in an MLP is in
"units" rather thanshares .).
That's why it's a good idea to hold the units for longer periods
or even up to retirement, when retirees typically move to a
lowertax bracket . For that reason, Carla Pasternak,
ChiefInvestment Strategist of High-Yield Investing, calls stocks
like these "
Retirement Savings Stocks.
"
Because of this huge tax-saving trait and their high yields,
there have been huge capital inflows into MLPs in the past few
years. Take a look at the big gains in the
JP Morgan Alerian MLPIndex ETN (MYSE: AMJ)
, an exchange-traded note (
ETN
) that tracks the Alerian Index of MLPs (master limited
partnerships).
But in spite of those big gains, there are still incredible high
yields in the MLP space. In fact, it's not uncommon for MLPs to
carry dividend yields of above 8%, more than four times the yield
of the 10-year U.S.Treasury note .
MLPs are widely found in the energy industry, particularly in
the pipeline industry. In the past few years, many large energy
companies have spun their pipeline operations off as MLPs to entice
public capital and catch a break ontaxes .
Here are four of my favorite picks in the pipeline MLP
space.
1. El Paso Pipeline Partners L.P. (
EPB
)
Market cap: $8 billion
Yield: 6%
El Paso Pipeline Partners is a solid mid-size player in the
mid-stream space, with amarket cap of $8 billion. The company's
vast pipeline network is heavily concentrated in western states
such as Colorado and Wyoming, providing it with leveraged exposure
to the key Bakken and Barnett shale gas plays in Texas, and North
and South Dakota.
That's one of the reasons Goldman Sachs recently expressed a
morebullish view on the mid-stream pipeline group, making note of
high yields after prices fell sharply on the year and exposure to
growth in the booming shale industry. The limitedpartnership has a
6%dividend yield and forward price-to-earnings (P/E ) ratio of just
18, which is a discount to the industry average of 26.
2. Kinder Morgan Energy Partners LP (
KMP
)
Market cap: $28 billion
Yield: 6%
Kinder Morgan is the biggest pipeline MLP of the group, with a
market cap of $28 billion. But the company's size hasn't prevented
it from staying nimble and profitable in the dynamic pipeline
space, recently delivering strong third-quarter results that met
expectations.
Kinder Morgan has now raised its quarterlycash distribution 45
times since the current management took over in 1997. The company
plans to declare cash distributions of $5.28 per unit in 2013,
a 6% increase from the $4.98 per unit it expects to declare this
year. This is another pipeline MLP that offers strong exposure to
the shale gas boom, in key plays such as Eagle Ford and
Haynesville. And with a solid dividend yield of roughly 6%, it's
easy to see why investors have been flocking to Kinder
Morgan.
3. Buckeye Partners LP (
BPL
)
Market cap: $4.9 billion
Yield: 8.3%
Buckeye Partners is a mid-sized-player in the pipeline space
with a market cap of nearly $5 billion. A company this size can
grow through capacity expansion and as a potential target
foracquisition . Buckeye specializes in refined petroleum products
with major operations in the northeastern United States servicing
industrial hubs like airports and government facilities.
After delivering strong third-quarter results, analysts have
become more bullish on the MLP, lifting their full-yearearnings
estimate 5% to $2.82 a share. This bullish tone also flowed into
the next-year estimates, with analysts looking for 19%earnings
growth in 2013, slightly ahead of the industry average of 17.6%.
Buckeye has fallen 22% on the year, but this price drop has
sweetened the dividend yield to an outsized 8.3%. With earnings on
the rise and a bullish growth projection for next year, this MLP is
looking strong.
4. William Companies Inc. (
WMB
)
Market cap: $21 billion
Yield: 4%
Williams Companies is a bit of a hybrid in the pipeline space,
with an exploration and production division complementing one of
the largest pipeline systems in the country. That creates some
segmentdiversification , but this also weighed heavily on earnings
when natural gas prices collapsed below $2 per million British
thermal units (Btu). With natural gas prices rebounding sharply in
the past few months, William Companies provides leveraged exposure
to the resurgence in thecommodity .
Shares are up 22% on the year, one of the top-performing stocks
in the pipeline and exploration space. But in spite of these gains,
the company still carries a healthy 4% dividend yield that is more
than two times that of the 10-year Treasury note.
Risks to Consider:
Pipeline companies are capital-intensive businesses. They tend
to carry large amounts of debt on thebalance sheet , making them
vulnerable to weakness in economic growth and overcapacities in the
industry.
Action to Take -->
MLPs are a great way to combine the benefits of business ownership
with the liquidity of stocks. This rare combination has driven
sharp capital inflows into the group in the past two years. In
spite of these gains, yields are still sky-high, making this a
great time to take a serious look at these yield-hogs with the
potential for serious long-term capital gains as the shale boom and
growing energy demand fuels the industry.