The Motley Fool's energy team dips into the mailbag to answer reader Jonathan Rossignol's query about MLPs. Are partnerships like Enterprise Products Partners (NYSE:EPD) and Kinder Morgan (NYSE:KMI) as risky as their sky-high dividend yields might suggest?
Listen to the full podcast by clicking here. A full transcript follows the video.
Sean O'Reilly: "I would like to hear your guys' opinion on midstream energy limited partnerships. Do you have past experience with them? Are they too risky under the current market conditions? How reliable are the dividend yields for the long term?" This is particularly pertinent because those yields are, like what, 10-20% right now?
Crowe: Well, depending on where you look at in the space. It is a rather broad-stroke question in the fact that are they risky? I think when you say that, it really depends on who you're looking at. And so...
O'Reilly: So who are the risky people? Just a couple names for the...
Crowe: Well, I would say I think one of the general things that you should look for when you're looking to purchase a midstream limited partnership, I wouldn't say that it is a risky environment now. I think of all the investments you can make in the oil and gas space; that is one of the lower-risk opportunities.
And one of the reasons for that is that, when it comes to infrastructure, most of the stuff that they do is based on long-term fee-based contracts. That's the thing that you really want to look for. A company that has 80% to 90% of their revenue or profits generated from these fixed-fee contracts ...
O'Reilly: They're a toll collector. Game over.
Crowe: Yeah, and you're just basically sitting there and buying the cash for it. For those that are a little bit more leveraged prices, people who are probably more focused on gathering and processing, you might see a little bit more variability in that cash flow, which could make them a little bit shakier.
And I think you can see some of the dividend yields of those companies showing that as of late. So, if, for Jonathan, I wouldn't completely avoid the sector in that broad-stroke sort of way. Look at the structure of the company: How do they generate their revenue, and make your decision from there. Because I think there are a lot of opportunities in lower-risk opportunities in that space that are very attractive right now.
O'Reilly: Taylor, are there any names that come to mind that you like right now?
Taylor Muckerman: Right now, probably the bigger the better. Kinder Morgan. Kinder Morgan's taking a big hit lately. Personally, we recommend...
O'Reilly: What's the yield on that? Is it like, six, 7-1/2?
Muckerman: I don't know off the top of my head.
Crowe: It's seven right now.
Muckerman: Yeah, it took a hit over the last month or so. I know it's a Fool favorite, and a lot of services, Spectra Energy's (NYSE:SE) a recommendation in Stock Advisor Canada on our U.S. side of the score card. That's probably one of my favorites. I personally own that, as well.
O'Reilly: Now they're mostly natural gas, right?
Muckerman: Correct, and they're not nationwide, or even in Canada. They have a small presence in Canada along the Great Lakes, but predominantly East Coast all the way down to the Gulf. And yeah, like you mentioned, natural gas is the bulk, and natural gas liquids are the bulk of their business.
And then one thing, obviously, you want to find a good company, but then you have to take into account the tax implications, the K-1 form you have to file; long term, this could be advantageous because you're kind of deferring some taxes. But when you sell it, there's tax implications on the units that you own. So you definitely want to kind of understand that a little bit more. I guess Spectra Energy isn't really an MLP is it? They own MLPs...
Crowe: Neither is Kinder Morgan [...]. We just recommended two C-corps when talking about limited partnerships.
Muckerman: I guess that gives you my feeling on it.
O'Reilly: Enterprise Products Partners?
Crowe: Enterprise Products Partners.
O'Reilly: Yeah, there we go, yay!
Muckerman: I give you my opinion on MLPs. I don't personally care for them all that much just because the added tax structure. But there are companies like Spectra.
O'Reilly: Don't be lazy, Taylor.
Muckerman: Choose Spectra Energy or Kinder Morgan if you want an infrastructure company without having to deal with the MLPs.
Crowe: As somebody who owns them, one of the things I would recommend is you buy to own. You don't buy to trade in any way because of the weird tax things in terms of dividend recaptures, and like you said, the K-1. If you're buying it and just holding it forever, yeah, you have to fill out an extra form come tax time. It's not a huge deal.
Muckerman: Not the biggest...
Crowe: But if you're moving in and out of these positions, they can be a pain in the butt.
O'Reilly: These are definitely things you give your grandkids kind of stuff.
Crowe: Yeah, that sort of thing.
Taylor Muckerman owns shares of Spectra Energy. Tyler Crowe owns shares of Enterprise Products Partners. The Motley Fool owns shares of and recommends Kinder Morgan and Spectra Energy. The Motley Fool recommends Enterprise Products Partners. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.