High Yields Make MLPs Attractive as They Enter 2017
Alerian MLP Index yield
The Alerian MLP Index (AMZ) outperformed the S&P 500 Index (GSPC) since the beginning of 2016 despite lower price returns. This is clearly due to MLPs stronger yields. Alerian MLP ETF (AMLP) and SPDR S&P 500 ETF (SPY) track the performances of AMZ and GSPC, respectively.
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The Alerian MLP Index is currently trading at a yield of 7.3% while the S&P 500 is trading close to 2.1%. REITs1 and utilities, which are also considered as income-generating investments, are trading at almost half (3.8% and 3.6%, respectively) the yield of MLPs.
This could be attributed to MLPs’ strong distributions despite the turmoil in energy prices. MLPs look attractive for portfolios seeking high yields in 2017.
Emerge Energy Services (EMES), which is involved in frac-sand production, has the highest distribution yield among the MLPs. It is currently trading at 21.3%.
Midstream MLPs are not far behind. Midcoast Energy Partners (MEP), which provides natural gas processing and gathering services, is trading close to 20%. Some of the bigger midstream MLPs such as EnLink Midstream Partners (ENLK) and Williams Partners (WPZ) are also trading at high yields of 8.4% and 8.9%, respectively.
However, such high yields won’t be sustainable in the long run. Moreover, high distribution yields might deter growth plans for these MLPs in 2017. High distribution yields reflect the high cost of equity capital.
MLP–Treasury yield spread
Currently, Alerian MLP Index (AMZ) is yielding ~7.3% while the yield on the US Ten-Year Treasury is ~2.4%, therefore AMZ is trading ~500 basis points outside the Treasury yield. Theoretically, risky assets should have more yield than risk-free assets, as investors require more return for the assumed risk.
The continued fall in energy prices since mid-2014 caused MLP yields to rise independently of the movements in Treasury yields.
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