Under the Boardwalk: Danger and Risks of MLPs

by | Feb 12, 2014 | Asset Management, Podcasts

Do you know what a Master Limited Partnership is? In this week’s Mullooly Asset Management podcast Tom and Brendan discuss the risks of MLPs. They explain what Master Limited Partnerships are and share a recent example of how risky these investments can sometimes be.

The title of this post, “Under the Boardwalk”, draws its name from this recent example. This podcast and post were somewhat inspired by this recent example; as well as the countless solicitation calls we’ve received from other investment managers asking us to show MLPs to our clients as income alternatives. We almost always hang up on these calls, by the way.

When you invest in an MLP it seems like you’re buying shares of a stock. What you’re really buying are called partnership units. What seems like a quarterly dividend payment from this MLP is actually a partnership distribution. Investing in an MLP will often generate a K-1. If you don’t know what a K-1 is, ask your accountant (here’s a hint, they don’t like them very much).

Many investors looking for yield ask if they should consider MLPs. As is the case with any investment, they should learn as much as possible about the risks of MLPs and also consult with their investment advisor before making any decision to buy or sell. A big issue we see with Master Limited Partnerships is that most institutional accounts, insurance, and pension plans are often prohibited from owning them. This means that the large majority of investors in MLPs are individual investors who can be emotional in their decisions to buy or sell.

An example of the risks of MLPs occurred earlier this week with an MLP named Boardwalk Pipeline Partners (BWP). You can read another site’s take on the Boardwalk Pipeline Partners situation here. As a pipeline, BWP offers investors limited growth potential, but offered a quarterly distribution of $0.53 per unit (as of last Friday). So the “attraction” for this MLP (as is the case with most MLPs) was in the yield.

On Friday February 7, 2014 BWP closed trading at $24.09. But before the market opened on Monday, BWP announced they would be lowering their quarterly distribution from $0.53 per unit down to $0.40 per unit. BWP opened for trading on Monday February 10, 2014 at $15.75! There is risk in Master Limited Partnerships (MLPs).

Although these alternative investments are often marketed to individuals for their income potential, they often carry significant risk.

Boardwalk Pipeline Partners had been yielding 8% before this news broke. In the current environment of very low yields, we feel a yield over 8% signals high risk, which BWP illustrates. Investors should remember MLPs are often usually illiquid securities. Meaning, there is not a lot of volume in these securities. In some instances MLPs may have a nonexistent track record. Additionally, Master Limited Partnerships can only distribute funds from operations. If something unforseen happens and business slows down, their quarterly distribution is NOT guaranteed.

We’d like to remind listeners if the only thing an investment has going for it is the yield, that when the yield is removed, there is little value left for investors.

Tune into this week’s Mullooly Asset Management podcast to hear more about Boardwalk Pipeline Partners and the risks of MLPs.

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