What Happened: As Goes January, So Goes the Year?

January may not be a crystal ball for the rest of the year, but it’s still an important month. After election years, we get new members of Congress and a new president. The President proposes the budget for the following fiscal year. Companies release or update their guidance and projections for the coming year.

For upstream MLPs, as we’ve already noted, the situation looks grim. A majority have already cut their distributions this year, and the ones who haven’t warned that they might in the future. They are cutting distributions because their production is not as profitable as it was. In some locations, production is no longer economic, so they’re just not producing it. The exception to the upstream MLP rule in January was Memorial Production Partners (MEMP), which rose 17.8% during the month. MEMP has a robust hedging portfolio as well as a unit repurchase program for $150 million, or roughly 10% of the company’s market cap. MEMP maintained its quarterly distribution at $0.55 for a 12.8% yield as of month end.

The yield on the Alerian MLP Index (AMZ) at month end was 6.14%. With the 10-year Treasury yield declining to 1.64%, the spread widened to 450 bps, a level unseen since 2012 and 125 bps higher than the historical average. A 10-year history of the MLP-Treasury yield spread can be found here.

Every time we talk about what’s happening in this environment, we have to talk about commodity prices. Given the New Year, when everyone’s making resolutions and projections, it seems only reasonable to see what’s projected by whom. If you’d like to do some catch-up reading, there were a couple of articles published recently that do an excellent job of explaining where we are now. This New York Times article is an excellent introduction, while this long-but-worthwhile read in Barron’s is a more in-depth 201-style piece. The US Energy Information Administration (EIA) predicted in its Short-Term Energy Outlook that crude will average $58/bbl in 2015 and $75/bbl in 2016. Even with fewer rigs in operation, the EIA is expecting US production to increase throughout 2015 and into 2016 due to productivity improvements.

January 2015 Price Performance

January was another one of those months where diversification really shined. The return differential between the best and worst AMZ performers, MEMP and EV Energy Partners (EVEP), respectively, was 45.0%. Since they’re both upstream names, it’s hard to blame the AMZ’s 3.1% loss on a total return basis on subsector performance. The Alerian MLP Equal Weight Index (AMZE) lost about half as much as the AMZ, suggesting that smaller names generally had a better January than large caps. As an example, Enterprise Products Partners (EPD), the largest constituent in the AMZ, lost 4.7% in January. But the top and bottom five performers represented 1.3% and 2.8% of the AMZ, respectively, so size wasn’t (and isn’t) everything.

Unless, of course, we’re talking about M&A activity. Larger, diversified, investment-grade companies tend to have the balance sheet flexibility to acquire assets at discounted prices in times of market turmoil. Kinder Morgan (KMI) CEO Rich Kinder, who in August described the MLP market as “a fertile field to do a little grazing in,” put the proof in his pudding by announcing the acquisition of Hiland Partners and establishing a strong midstream position in the Bakken by doing so. Plains All American Pipeline (PAA) announced that it added a $1 billion 364-day credit facility. The move from $2.6 billion of liquidity to $3.6 billion has primed the pumps with capital, just in case a good acquisition opportunity comes management’s way.

Just to close with a bit of gossip, Sandell Asset Management wrote an open letter to SemGroup (SEMG), encouraging the company to sell itself. Sandell hoped SEMG would turn subsidiary Rose Rock Midstream (RRMS) into a dropdown story so that SEMG would trade at pure-play GP multiples. As SEMG CEO Carlin Conner is not moving in that direction, or at least not at the pace or with the clarity that Sandell would like, the event-driven asset manager believes a sale would be more effective in maximizing shareholder value. The press release containing the letter goes so far as to list potential buyers: EPD, KMI, Magellan Midstream Partners (MMP), PAA, Spectra Energy Corporation (SE), and Sunoco Logistics Partners (SXL). When SEMG management responded, it basically said that the company is on track as a dropdown story, and that they’ve done some great things under Conner, who took over as CEO in April 2014. However, the Sandell letter pushed the stock up more than 8% on the day of release, and two weeks later, the company announced that RRMS would be acquiring all remaining SEMG crude oil assets.

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