So, what is the major failing in MLPs? Won't they simply go back up in price and return once oil prices go back to normal? I can't view the full article.
Well the first thing is that if you want to read a WSJ article online and you don’t have a sub you can do this: Copy the article title, paste into a google search window, click on the resulting news citation.
As to your question about the major failing of MLPs I’d like to first interject that this is amateur hour here when it comes to finance, (I count myself among the amateurs BTW,) already baldeagl said MLPs aren’t publicly traded which is simply not true, (no offense intended,) so the information you get here from me or anybody else is definitely suspect. With that out of the way I would say that as a class of investment MLPs don’t have a major failing per se but that with the oil boom and the shrunken treasury yield the MLP market got really stupid and inflated. Stupid and inflated are ideal conditions to create crap and sell it. They are also the ideal conditions for stuff that is not crap to become crap by being overleveraged. More generally it is when stuff is by definition overvalued.
Price wise and yield wise eventually things will go back to “normal” as you say, but that doesn’t mean that any particular MLP will be around by then nor that a “normal” price will be anything like it was last year or this fall or even now. An important feature of these things is that since they have to pass on 90% (i think that is what it is) of their earnings, they have to borrow in order to grow. The mystery now is how dangerous is the credit situation for any given MLP with incomes falling as they are.
I might be being simplistic but it seems to me that situation is as basic as an oversupply of capacity, (pipeline, storage, shipping, processing,) that was paid for with borrowed money at premium prices coupled with a yield environment that encouraged investors to pay too much for yield thereby driving the need to grow in order to keep the yield up causing the need to buy more capacity etc. etc..
Picture it this way: An MLP has 3 new oil tankers worth 300 million bought yesterday with borrowed money on the basis of them producing 30 million of revenue, say 5 million of that eventually was paid as a dividend and say the interest cost is 15 million, and 10 million went to operations. Now today let’s say those tankers can only produce 15 million in revenue, the interest expense today is barely covered and there is an operating loss of 10 million and no dividend. As collateral the tankers no longer meet the covenants of their financing, (there only worth a multiple of what they can make,) so that’s not good, who is going to lend you money for operations? Hang on long enough so that those tankers can earn their keep once volume climbs or supply shrinks you’ll be ok in the long run in the sense that you’ll still be in business but miss a year or two of dividends and what does that do to the yield for your limited partners? And what does
that do to your price? If you don’t hang on, those assets that you paid a premium for get sold at today’s prices or you negotiate for a healthier entity to eat you up. So how do you pick out the eaten vs the eaters and anyway this isn’t supposed to be a high risk speculative investment anyway. And then, what does
THAT do to your risk premium and price in the future? (The idea being a higher risk investment should cost less for the same yield as a less risky investment.)
The numbers above have nothing to do with reality and I am really stating my suspicion rather than a deeply researched analysis so take it for what it’s worth.
