Earlier this year, master limited partnerships (MLPs) were drubbed after the Federal Energy Regulatory Commission (FERC) moved to prevent interstate oil and natural gas pipelines from recovering the income tax allowance on cost of service rates.
In March, FECR said it “acted in response both to the court remand and comments filed in response to an inquiry issued after the court ruling. FERC will now revise its 2005 Policy Statement for Recovery of Income Tax Costs so that it no longer will allow MLPs to recover an income tax allowance in the cost of service.”1
Investors’ initial reaction to that ruling was knee-jerk selling as both the Alerian MLP Infrastructure Index (AMZI) and the Alerian Midstream Energy Select Index (AMEI) tumbled in the wake of FERC’s March announcement.
Fast-forward to July and the regulatory environment for MLPs became more sanguine. Last month, FERC softened the March ruling, providing pipeline operators with four options to deal with changes to revenue requirements resulting from the tax reform legislation passed late last year.
“Although the final rule maintains the requirement to file the FERC 501-G, the final rule makes adjustments to the proposed form, including automatically eliminating the accumulated deferred income tax (ADIT) from a pipeline’s cost of service when the form enters a federal and state income tax of zero for pipelines that are non-tax paying entities,” said FERC in a July statement. “This adjustment is consistent with the Order on Rehearing of the Revised Policy Statement in Docket PL17-1-001 issued concurrently with the final rule. The final rule also encourages pipelines to file an addendum to the FERC 501-G to reflect their individual financial situation.”2
Markets were receptive to FERC’s July ruling as evidenced by the monthly returns notched by the Alerian MLP Infrastructure Index and the Alerian Midstream Energy Select Index. Buoyed by the reduced regulatory burden, the Alerian MLP Infrastructure Index posted a double-digit gain in July.
FERC softening its March ruling caught the attention of some Wall Street analysts covering the MLP space, stoking bullish commentary on the asset class.
“In short, MLPs with corporate parents are essentially excluded from the proposed changes, and accumulated deferred income tax (ADIT) reimbursement concerns have been eliminated for all impacted MLPs,” said Deutsche Bank in a note. “More comprehensively, the final rule clarifies several items including (largely quoted from source documents): (1) Although the Commission determined in the RPS that permitting MLP pipelines to include a tax allowance in their cost of service results in a double recovery of the MLP pipeline’s tax costs, the Commission will not require MLP pipelines to eliminate their tax allowances in this rule-making proceeding.”4
Regulatory issues are often burdensome to share prices, regardless of asset class. MLPs proved as much in March, but FERC’s July policy revision brings much needed clarity and easing of investors’ concerns.
“The final ruling is generally more lenient towards MLPs than what was likely feared, alleviating the overhang for certain names as well as the space more broadly,” said Alerian. “While it will take time for companies to digest the ruling and evaluate their options (which include doing nothing besides filing the one-time report), we would expect more commentary from management teams in the days ahead.”3
Accessing The MLP Opportunity
Investors looking to take advantage of the more favorable regulatory environment for MLPs have options to consider. The Alerian MLP Exchange Traded Fund (AMLP) tracks the cap-weighted Alerian MLP Infrastructure Index and is home to 25 MLPs.
Investors looking to access the energy infrastructure complex, including MLPs and other corporate structures, can consider the Alerian Energy Infrastructure ETF (ENFR), which tracks the aforementioned Alerian Midstream Energy Select Index. ENFR holdings consist of a liquid subset of North American midstream companies and pass-through entities, with a 25% cap on Master Limited Partnerships (MLPs).”
1 Source: FERC Statement March 15, 2018 https://www.ferc.gov/media/news-releases/2018/2018-1/03-15-18-G-2.asp#.W29sSbhlDIV
2 Source: FERC Statement July 18, 2018 https://www.ferc.gov/media/news-releases/2018/2018-3/07-18-18.asp#.W3CqNbhlDIV
4 Source: 24/7 Wall Street Aug. 2 2018: https://247wallst.com/energy-business/2018/08/02/why-energy-mlps-may-be-the-buy-of-the-decade-now/
3 Source: Alerian July 19, 2018 https://www.alerian.com/ferc-finalized-rule-positive-for-mlps-cue-the-relief-rally/
Important Disclosures & Definitions
Investors should consider investment objectives, risks, charges and expenses carefully before investing. The prospectus contains this and other important information. For a prospectus for the above listed funds, please click here. Please read the prospectus carefully before investing. For additional information on the above listed funds, please click the respective link.
Standardized performance for the Alerian Energy Infrastructure ETF (ENFR) can be found here. Current holdings for ENFR can be found here.
Standardized performance for the Alerian MLP ETF (AMLP) can be found here. Current holdings for AMLP can be found here.
Shares are not individually redeemable and the owners of shares may purchase or redeem shares from a fund in creation units (blocks of 50,000 shares) only.
ALPS Advisors, Inc. (AAI) has engaged IRIS Werks, LLC (IRIS) to produce analysis and commentary on ALPS-advised ETFs. IRIS currently has a compensated business relationship with AAI. AAI is not affiliated with IRIS.
The content and opinions expressed in this article are that of the author and not the views and opinions of ALPS Advisors, Inc. In addition, ALPS Advisors, Inc. assumes no responsibility to ensure the accuracy of the content written by the author.
The author is not an investment professional and this article should not be considered investment advice. While the information and statistical data contained herein are based on sources believed to be reliable, the author takes no responsibility to ensure the accuracy of the content. Additionally, this article should not be relied on or be the basis for an investment decision. Information that is historical is not indicative of future results, and subject to change.
Investments in securities of MLPs involve risks that differ from an investment in common stock. MLPs are controlled by their general partners, which generally have conflicts of interest and limited fiduciary duties to the MLP, which may permit the general partner to favor its own interests over the MLPs.
A portion of the benefits you are expected to derive from the Funds’ investment in MLPs depends largely on the MLPs being treated as partnerships for federal income tax purposes. As a partnership, an MLP has no federal income tax liability at the entity level. Therefore, treatment of one or more MLPs as a corporation for federal income tax purposes could affect the Fund’s ability to meet its investment objective and would reduce the amount of cash available to pay or distribute to you. Legislative, judicial, or administrative changes and differing interpretations, possibly on a retroactive basis, could negatively impact the value of an investment in MLPs and therefore the value of your investment in the Fund.
The funds invest primarily in a particular sector and could experience greater volatility than a fund investing in a broader range of industries.
A bull market is a financial market in which prices are rising or are expected to rise.
A bear market is a financial market in which prices are falling or are expected to fall.
The Funds may be subject to risks relating to its investment in Canadian securities. Because the Funds will invest in securities denominated in foreign currencies and the income received by the Fund will generally be in foreign currency, changes in currency exchange rates may negatively impact the Fund’s return.
Investments in the energy infrastructure sector are subject to: reduced volumes of natural gas or other energy commodities available for transporting, processing or storing; changes in the regulatory environment; extreme weather and; rising interest rates which could result in a higher cost of capital and drive investors into other investment opportunities.
Alerian Midstream Energy Select Index: The Alerian Midstream Energy Select Index is a composite of North American energy infrastructure companies. The capped, float-adjusted, capitalization-weighted index, whose constituents are engaged in midstream activities involving energy commodities, is disseminated real-time on a price-return basis (AMEI) and on a total-return basis (AMEIX). One may not invest directly in an index.
Alerian MLP Infrastructure Index (AMZI): The AMZI Index is a composite of energy infrastructure Master Limited Partnerships. The capped, float-adjusted, capitalization weighted index constituents earn the majority of their cash flow from midstream activities involving energy commodities.
The Alerian Energy Infrastructure ETF and Alerian MLP ETF are not suitable for all investors. Subject to investment risks, including possible loss of the principal amount invested.
ALPS Portfolio Solutions Distributor, Inc. is the distributor for the Alerian Energy Infrastructure ETF and Alerian MLP ETF.
ALPS Portfolio Solutions Distributor, Inc. is not affiliated with Alerian.
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