Ignore Cramer: Don't Buy MLP IPOs Blindly

Yesterday, as I was perusing the Yahoo! Finance feeds, I came across an interesting headline: "Cramer Talks MLP Craze". I clicked it, Fools, and I was appalled. At the same time, I was impressed! Who knew that it was possible to cram so much disastrous advice into a two-and-a-half-minute segment?

To be fair, it was Jim Cramer's fast-talking guest Dan Dicker who dispensed most of the statements about MLPs that I'll refute today, including his main point: that you should buy MLP IPOs merely because they are MLPs having IPOs. Let's get started.

"The tax-advantaged position ... only works in a very low-interest environment."
Dicker is trying to imply that investors are chasing yield with MLPs because they can't get it anywhere else, given these low-interest times we're in. There is a notion that MLPs have a hard and fast correlation to interest rates because of this behavior. It is an incorrect notion. From a 2010 Wells Fargo Equity Research paper: "While sudden spikes in interest rates have caused declines in MLP price performance, there has been only a 0.27 correlation between MLP price performance and the 10-year Treasury over the past five years."

We can see this visually with the chart below, which compares the performance of Enterprise Products Partners (NYSE: EPD  ) and the U.S. Real Interest Rate from 2005 through 2010:

EPD Chart

EPD data by YCharts

Enterprise units continued to climb, regardless of what was going on with interest rates. So much for that theory. Plenty more words of wisdom from Dicker though, so let's move on.

"Look for fresh ones."
Unlike, say, a carton of milk, MLPs do not have an expiration date. Buying a security solely because it's new implies that last week's MLP IPOs, Phillips 66 Partners (NYSE: PSXP  ) and Marlin Midstream Partners (NASDAQ: FISH  ) , are the same investments with the same opportunities. They are not.

By the way, these "fresh" MLPs that pop after the IPO? They yield next to nothing. Phillips 66 Partners debuted with the lowest yield for an MLP at IPO ever. After the run-up, the partnership is sporting a yield of less than 2%, which is absolutely unheard of in this space. All of those "yield hungry" investors that Dicker was encouraging to chase these IPOs will wind up sorely disappointed when yields plummet shortly thereafter.

"It's the mature ones that you can actually stay away from now."
Don't tell Buckeye Partners  (NYSE: BPL  ) no one wants the old MLPs anymore. Debuting on Dec. 16, 1986, it's the oldest MLP on the market. It also happens to be up more than 55% year to date. There are only three MLPs in the entire energy space that are outperforming Buckeye Partners this year. Aging like a fine red wine, it serves as a reminder that investors can profit from mature MLPs. 

"It's a tremendous structure, you should buy them sight unseen."
This is perhaps the most insulting advice I've ever heard offered up to individual investors. It's akin to walking into a car dealership and having the dealer show you two trucks. The first truck has an engine built by Ford, and the second truck features an engine built out of blocks by a five-year-old. "They're both trucks," the dealer tells you, "just close your eyes and pick one."

Structure guarantees nothing, it's what's under the hood that matters. And even then there are no guarantees. I'll leave it at that.

Bottom line
Like any stock, some MLPs offer a lot of upside to investors, but others can come with significant downside. The MLP structure itself does not guarantee anything, and investors should do their research before buying into one. Buying an MLP at its IPO sight unseen is a ludicrous notion, and one that could ultimately wreak havoc on your portfolio.

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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 02, 2013, at 10:01 PM, moweenfarmer wrote:

    FISH still at IPO price, PSXP up $9.50,PSXP has a strong parent and all the IPO money was retained by PSXP to buy more assets.

  • Report this Comment On August 04, 2013, at 9:13 AM, TMFAimeeD wrote:

    PSXP yield should be less than 3%. Entering Monday's session at about 2.6%.

    Aimee

  • Report this Comment On August 04, 2013, at 1:34 PM, moweenfarmer wrote:

    Hi,Aimee. PSXP has almost $400 mil. cash and $250 mil.credit line.When do you think they are going to get 1/3 of the Southern Hills and Sand Hills pipe from PSX? Also whats your thoughts on QEPM,should be IPOing soon. I like your videos,you know what you are talking about.

  • Report this Comment On August 04, 2013, at 4:03 PM, busterbuddy wrote:

    ignore is probably not the best wording for Dicker's comments. MLPs are sound investments. My I do agree that PSXP at @ 2% is like not smart investment. You want stability in an MLP not alot of price appreciation. Its the income your looking for.

    For me it is $KMR for IRAs, $EEP for tax account and $SBR which is a Royalty trust.

    I'd stay away from PSXP now based on the yield and I'd stay away from $LINN or $LNCO because of accounting issue.

    There are numerous options for MLPs just do your homework.

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