Master limited partnership exchange traded funds can help investors gain exposure to the expanding U.S. energy infrastructure while generating attractive yields with lower volatility.
MLPs own and operate pipelines, refineries, transportation, storage and distribution businesses – the backbone of the energy sector, writes Stephen Maresca, energy analyst at Morgan Stanley, in a research note.
These companies generate revenue by handling or transferring the commodity. They act like a toll road in the energy highway, so MLPs are not affected by the price fluctuations of the underlying commodity. Additionally, barriers to entry into the MLP business is high.
The MLP company is structured as a pass-through partnership where each investor holds a “unit” of the partnership instead of shares of the corporate stock. Due to the way they are structured, MLPs do not pay corporate-level taxes, but unitholders will have to bear the burden, paying at their individual tax rates.
“The mean yield in the partnerships we cover is 5.9%,” Maresca said. “This year, we estimate that MLPs will, on average, pay unit holders a 7.6% growth rate on cash distributions. We expect that payout to rise another percentage point in 2014 and 2015.”
Moreover, a large portion of the distributions is taxed deferred – taxes are not paid when the funds are received, but rather when the investment is sold.