NGL fractionation spreads up last week, positive for select MLP names

By Ingrid Pan, Sr Energy Analyst • Feb 7, 2013 9:01 pm

Last week saw most natural gas liquids (NGL) prices move upward, a positive for some master limited partnerships (MLPs) involved in natural gas processing and fractionation such as MarkWest Energy (MWE), Targa Resources (NGLS), Regency Energy (RGP), and Copano Energy (CPNO) (for why please refer to the article “Natural gas processing contracts and how they affect profits and valuation”), which are also components of the Alerian MLP ETF (AMLP). Additionally, natural gas moved lower on the week as market participants speculated that a lack of sustained cold weather would decrease demand for the commodity.

These price movements ultimately resulted in fractionation spreads being up on the week slightly (for a detailed explanation of fractionation spreads please refer to “Why fractionation spreads affect some MLP stocks” and “An in-depth look at the mechanics of fractionation spreads”).

Note: The custom frac spread is based upon assumptions provided by Ceritas Group. To see how the custom frac spread is calculated, please refer to the article ““An in-depth look at the mechanics of fractionation spreads”.

Though fractionation spreads have recovered somewhat from June 2012 lows, they’re still significantly below where they were a year ago. For a period, frac spreads increased to $40-50/barrel due to depressed natural gas prices while NGL prices had remained relatively robust. Over the last year, frac spreads have declined largely due to the sharp drop in prices in ethane and propane (see chart below).

This has been a consequence of the “shale revolution” boom, as natural gas shales rich in NGLs have experienced rapid development, resulting in the market being flooded with new NGL supply. The below chart shows NGL prices over the past year.

While the excess supply of ethane and propane had been absorbed at first by the chemicals industry, much of the capacity for chemical companies to process ethane and propane has been soaked up. Future articles will further discuss the dynamics of NGL prices.

This week’s movement up in frac spreads was a positive for natural gas processors as many have contracts which garner greater revenue when frac spreads increase. Investors with exposure to natural gas processors such as MarkWest Energy (MWE), Targa Resources (NGLS), Regency Energy (RGP), and Copano Energy (CPNO), or the Alerian MLP ETF (AMLP) may find it prudent to monitor the frac spread as one of many indicators of ultimate profitability and valuation.

Continued strong capital markets activity in MLP space is bullish Spread between MLP and corporate credit yields narrowed last week, bullish for MLPs