Upstream management teams wasted no time in 2015 setting investor expectations for lower distributions in light of weakening energy prices, sending units higher on the new year’s first day of trading. The announcements from Linn Energy and Breitburn Energy both reinforced the assumption that higher production will continue through 2015 while hedges roll off the books, adding more supply to a market still searching for an equilibrium. Natural gas hit a 27 month low as the northeast has yet to have much more than a dusting of snow and a few days below freezing. All in all, a challenging time for growth initiatives across the energy value chain, including LNG projects, which are struggling to find committed buyers. MLP growth rates beyond the latter half of 2016 will be highly speculative and largely dependent upon higher prices. Those units which can financially engineer distribution growth by dropping down solid EBITDA assets will continue to be of greatest demand by total return investors.
The Alerian MLP Index (AMZ) closed out the year with a third straight negative month and the worst month (-5.6%) since May 2012 (-7.5%). AMZ finished down 12.3% for the fourth quarter, its worst quarter since Q4:08 and the third worst quarter ever recorded by AMZ. MLPs rebounded a bit in the last 2 weeks of the year, averting what could have been a much worse month. That late burst gave AMZ a positive total return for 2014 overall, but a much lower return than the S&P500 or utilities in 2014.
The Department of Commerce released an FAQ to help the markets understand the current conditions for crude exports, a little nudge by the Government to perhaps encourage more light condensate exports. Some estimates suggest exports could increase by 1MM bpd, helping Eagle Ford producers realize a higher price and provide an outlet for excessive supply. The EIA charts below are a visual reminder of the tremendous increase in US production and exports since 2010:
The new year brought more demand for Sponsor drop down growth units MPLX and Shell Midstream, both of which are yielding below 2% with 25% CAGR growth rates and the expectation that drop downs will occur more rapidly in 2015.
The Alerian MLP Index requires that existing constituents maintain or grow their distributions, otherwise they will be discarded on the next the quarterly rebalancing, next scheduled for a March 6th calculation. With approximately 4% of index weighted allocated to upstream producers, two of which have already reduced their distributions, there is the potential for up to 5 units to be replaced, as illustrated in the below table. The impact of such a change will likely reduce volatility in the index and linked packaged products, and provide limited upside if and when energy prices recover. It is certainly an interesting time for Alerian to be for sale along with the ETF’s and ETN’s which track their indices.