Risks of MLPs

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NibbanaBanana
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Risks of MLPs

Post by NibbanaBanana » Sat Mar 18, 2017 1:21 pm

Does anybody know anything about MLPs and their particular risks? I see that these MLPs can pay a pretty nice dividend. For example BPL, Buckeye Partners pipe line is paying about 7% divy. I don't really understand why these MLPs pay such a high dividend vs the market. I do know that the divys are taxed as income. I'm sure that there are many other differences, like oil depletion trust vs pipelines etc. But is there anything particularly tricky about investing in these things in general?

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TheTimeLord
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Re: Risks of MLPs

Post by TheTimeLord » Sat Mar 18, 2017 1:25 pm

A lot of people don't like dealing with K-1s. Also you need to understand the implications of holding them in a tax-deferred account.

http://www.investopedia.com/terms/m/mlp.asp
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123
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Re: Risks of MLPs

Post by 123 » Sat Mar 18, 2017 1:36 pm

MLP risks commonly include that investors are initially attracted by apparently high yields but often, over time, the yields decline. There can also be tax complexities involving K1 income. Getting rid of a MLP can be difficult and costly. Due to generally high commissions, which the buyer doesn't see, there can be a significant loss on the back end when you decide to get rid of it because your "used" MLP has to compete with all the shiny new ones that pay the broker big commissions.
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dbr
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Re: Risks of MLPs

Post by dbr » Sat Mar 18, 2017 1:39 pm

See here and decide if it even makes sense to consider such things. This Vanguard paper is even handed.

https://personal.vanguard.com/pdf/ISGPMLP.pdf

Good Listener
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Re: Risks of MLPs

Post by Good Listener » Sat Mar 18, 2017 3:15 pm

Don't do it.

petulant
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Re: Risks of MLPs

Post by petulant » Sat Mar 18, 2017 3:27 pm

1. For tax reasons, you generally want to hold them in a taxable account.

2. It's better to use all your tax-advantaged space before using a taxable slace, MLP or no.

3. ???

4. MLPs aren't worth considering until you max your tax-advantaged contributions. Have you done so?

garlandwhizzer
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Re: Risks of MLPs

Post by garlandwhizzer » Sat Mar 18, 2017 3:32 pm

I believe that it was Taylor who posted, "More money has been lost stretching for yield than at the point of a gun." Anything that yields 7% in today's low yield, highly priced financial markets has risk whether its recognized up front or not. Concentrating in a such a small segment of the investment market--high income producing assets of which there are few at present--produces a dramatically non-diversified portfolio. Wide diversification is the greatest protection against unforeseen future risks, both deep and shallow risks. MLPs have also limited liquidity if you need to get your principal back for emergencies. Putting all your eggs in this yield basket exposes you to substantial risks of capital loss, illiquidity, and long term underperformance. The fee structure in MLPs are also high, much higher than a broadly diversified portfolio of index funds. MLPs are a great deal for those who create and market them to yield hungry investors, not a great deal IMHO for those who purchase them. I am speaking from experience as one who, decades ago when I started investing, and was ripe for plucking and enthusiastically swallowed the MLP bait.

Garland Whizzer

randomguy
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Re: Risks of MLPs

Post by randomguy » Sat Mar 18, 2017 3:51 pm

garlandwhizzer wrote:I believe that it was Taylor who posted, "More money has been lost stretching for yield than at the point of a gun." Anything that yields 7% in today's low yield, highly priced financial markets has risk whether its recognized up front or not. Concentrating in a such a small segment of the investment market--high income producing assets of which there are few at present--produces a dramatically non-diversified portfolio. Wide diversification is the greatest protection against unforeseen future risks, both deep and shallow risks. MLPs have also limited liquidity if you need to get your principal back for emergencies. Putting all your eggs in this yield basket exposes you to substantial risks of capital loss, illiquidity, and long term underperformance. The fee structure in MLPs are also high, much higher than a broadly diversified portfolio of index funds. MLPs are a great deal for those who create and market them to yield hungry investors, not a great deal IMHO for those who purchase them. I am speaking from experience as one who, decades ago when I started investing, and was ripe for plucking and enthusiastically swallowed the MLP bait.

Garland Whizzer


+1. There are tons of stocks and bonds that return 7%+ out there. All of them have risk. 7% MLP bond versus a 3% bond sounds great. But you have to remember you are taking on stock market risk. You have to guess what is happening with the share price (inflated values are often are result of plunging share prices) and expectations that dividends will be cut in the future. It is also important to realize that MLP dividends are high because that is how you get most of the returns. Like REITs you expect a higher div than you would get with stocks.

FedGuy
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Re: Risks of MLPs

Post by FedGuy » Sat Mar 18, 2017 5:44 pm

Also, my understanding is that you'll be lucky to get the tax forms from the MLP by April 14 most years, which will cause you a lot of grief if you hold them in a taxable account.

Valuethinker
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Re: Risks of MLPs

Post by Valuethinker » Sat Mar 18, 2017 5:48 pm

NibbanaBanana wrote:Does anybody know anything about MLPs and their particular risks? I see that these MLPs can pay a pretty nice dividend. For example BPL, Buckeye Partners pipe line is paying about 7% divy. I don't really understand why these MLPs pay such a high dividend vs the market. I do know that the divys are taxed as income. I'm sure that there are many other differences, like oil depletion trust vs pipelines etc. But is there anything particularly tricky about investing in these things in general?


Another risk is that these are fossil fuel energy stocks.

Whether that matters to you of course-- it may be moot. But whereas with Vanguard Total Stock Market you just own everything, if you buy into MLPs, as I understand this US sector, most of them are energy related?

dbr
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Re: Risks of MLPs

Post by dbr » Sat Mar 18, 2017 6:00 pm

This data from the Vanguard paper suggests that MLPs delivered the return of bonds with more risk than stocks in the below period. Naturally any period dependent return and risk is subject to caution. In this period bond returns were probably exaggerated, but the story is still there that MLPs were lower returning and higher risk than stocks. It is a big mistake to be misled by yield.

Full period, 1981–2013: Return and SD of Return
U.S. stocks
11.2%
15.5%
U.S. bonds
8.4
5.0
Energy MLPs
8.5
16.5

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Pajamas
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Re: Risks of MLPs

Post by Pajamas » Sat Mar 18, 2017 6:55 pm

Taxes on phantom income is a current consideration.

https://www.law360.com/articles/733917/ ... -investors

I hold preferred shares of an LP in IRAs, but not nearly enough to ever trigger any special taxes or filings.

sox2017
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Re: Risks of MLPs

Post by sox2017 » Sat Mar 18, 2017 7:16 pm

I remember reading awhile back that many of these issue additional debt just to cover the dividend. Not sure if that was just when oil sold off last year or a consistent process. Obviously an issue if/when rates start to rise.

Grt2bOutdoors
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Re: Risks of MLPs

Post by Grt2bOutdoors » Sun Mar 19, 2017 7:54 am

As with any investment, price matters. Yields and the ability to grow the yield comes from one or a few different sources; volume throughput, new capital investments and continuing operations that are fee driven, some are affected by "take or pay" contracts. Most MLP's are highly leveraged since they are capital intensive, that said, there are some MLP'S that maintain a relatively more conservative statute with respect to dividend coverage, a 1x + coverage ratio is considered more cconservative since there are usually always ongoing fully subscribed contractually secured capital projects which begin paying revenues and income to General partner and MLP (of which many GP's maintain large ownership rights to - eating their own pudding so to speak). Equity risk yes, high yield level returns, one should research before investing any money.
"One should invest based on their need, ability and willingness to take risk - Larry Swedroe" Asking Portfolio Questions

scooter
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Re: Risks of MLPs

Post by scooter » Sun Mar 19, 2017 8:10 am

I would not do it.

Early in my life i was convinced by my planner to bur one.

1 I lost money in the end
2. Every year my taxes were delayed until April waiting for K1 forms

Dumped my K1 and my planner and switched 99% to vanguard and life is good

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Rob5TCP
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Re: Risks of MLPs

Post by Rob5TCP » Sun Mar 19, 2017 9:45 am

One of the Largest was Kinder Morgan - ultimately they switched from the MLP format.
In 2015, over a period of months; Kinder Morgan lost 2/3 of it's value from 40+ to 12.
I am not sure if it was still an MLP at that point.

https://finance.yahoo.com/quote/KMI?p=KMI

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Rob5TCP
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Re: Risks of MLPs

Post by Rob5TCP » Sun Mar 19, 2017 12:16 pm

An Interesting article on Marketwatch
it shows the drastic change in MLP prices over the past couple of years

http://www.marketwatch.com/story/need-i ... 2017-03-16

While it is pro MLP, it always demonstrates what can go wrong.

btenny
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Re: Risks of MLPs

Post by btenny » Sun Mar 19, 2017 12:47 pm

I owned 500 shares of KMP (Kinder Morgan) for a decade or so. I did not make any money net over the whole period. Any money I made in dividends over the years was lost when they reorganized the company and the stock value crashed and the dividends were cut to 25% of previous payments. It was a major PIA doing taxes every year I owned it. And in November 2014 I was hit with major unplanned capital gains and recovery of previous tax charges. I had to pay $5K in extra taxes due to Kinder changing from a MLP to a normal corporation and sticking the stock holders with the bill. It was a tax disaster that benefited the corporate officers and the CEO.

Right now other MLPs are poised to do similar things (like Kinder) in reorganizing if the laws change. And there are indications that the laws regarding MLP will change as a part of the tax revisions planned for this year. Those changes may eliminate MLP tax breaks. If they occur MLP prices will surely tank.

So net net investing in MLPs is a terrible idea IMO.

Good Luck.

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patrick013
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Re: Risks of MLPs

Post by patrick013 » Sun Mar 19, 2017 1:30 pm

MLP Indexes

Tax laws make investing in MLP indexes disadvantageous, but you
can find out who the big fish are thru the indexes. Perhaps the
new tax laws will fix that but I still think they're going to be non-
investment grade investments. Or they could be like REIT's with
similar characteristics.

There is alot of competition especially with smaller MLP's. Even a
100 mile pipeline can be rerouted into a 1000 mile pipeline from a
bigger MLP causing a smaller MLP to lose an entire lease and sit
with dormant assets. Efficiency appears headed in the direction
of the bigger MLP's in the MLP indexes. Just food for thought at
present.

.02
age in bonds, buy-and-hold, 10 year business cycle

danaht
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Re: Risks of MLPs

Post by danaht » Sun Mar 19, 2017 1:32 pm

Agree with MLPs being bad news. These can really add delays waiting fro your K1, and will make your taxes far more complex than anything else you could do. To me it's just not worth the added % for dividends.

NibbanaBanana
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Re: Risks of MLPs

Post by NibbanaBanana » Sun Mar 19, 2017 2:19 pm

dbr wrote:See here and decide if it even makes sense to consider such things. This Vanguard paper is even handed.

https://personal.vanguard.com/pdf/ISGPMLP.pdf


Good points by everyone. The Vanguard paper was at their usual level: excellent. My take on it; Now, with energy doing poorly, would probably be a good time to buy some of these if you were inclined to. And if you were willing to do the taxes. But for me, I'm already pretty heavily exposed to energy. I think almost all of the mutual funds I own have ExxonMobil or Chevron or both as their top 10 holdings. I also own each as individual issues in my trading account. Not to mention I own a bit of the Vanguard Energy fund which I bought in a few years ago a bit on the early side of the energy glut and am still a little underwater. Shows you how much I know. Will probably hold off unless greed gets the better part of me, which it sometimes does.

Just can't seem to convince myself to invest in bonds paying a paltry 2.5%. Jack Bogle says the best predictor of the long term return of a bond is it's current yield.

Valuethinker
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Re: Risks of MLPs

Post by Valuethinker » Sun Mar 19, 2017 5:39 pm

NibbanaBanana wrote:
dbr wrote:See here and decide if it even makes sense to consider such things. This Vanguard paper is even handed.

https://personal.vanguard.com/pdf/ISGPMLP.pdf


Good points by everyone. The Vanguard paper was at their usual level: excellent. My take on it; Now, with energy doing poorly, would probably be a good time to buy some of these if you were inclined to. And if you were willing to do the taxes. But for me, I'm already pretty heavily exposed to energy. I think almost all of the mutual funds I own have ExxonMobil or Chevron or both as their top 10 holdings. I also own each as individual issues in my trading account. Not to mention I own a bit of the Vanguard Energy fund which I bought in a few years ago a bit on the early side of the energy glut and am still a little underwater. Shows you how much I know. Will probably hold off unless greed gets the better part of me, which it sometimes does.


You are overweighting on environmental damage, whether that is what you intend to do or not.

If you want leveraged upside consider Suncor and Canadian Natural Resources (CNQ). Both have big existing capacity in the Alberta Tar Sands. It's the world's dirtiest oil, so if policy is not taken against that oil, there's upside there. It's also the world's most expensive oil to extract (pace offshore Brazil) so if the oil price rises, it has a bigger impact on their earnings than almost anyone.


Just can't seem to convince myself to invest in bonds paying a paltry 2.5%. Jack Bogle says the best predictor of the long term return of a bond is it's current yield.


You are basically proposing here to take equity risk, and get a fixed income return. That's not generally a smart thing to do. The securities are complex, the payoffs are not transparent (in terms of multiple slices to different people), and you give yourself a tax reporting headache. And, who knows, maybe a tax headache. Plus you are overweighting the energy sector, generally.

And of course you've got no good reason to believe you know more about these investments, or understand them better, than investors who have been following them for years, and sell and buy side analysts who have them in their coverage groups.

I mean, what's not to like about this investment? :? :?

Oft quoted here that more money has been lost in investing chasing yield than any other way. US Treasuries weren't as nice as US Agency bonds, so buy Fannie Mae and Freddie Mac (even though they were not guaranteed, legally, by the US Treasury, whereas GNMA bonds are). Then buy the CDOs, higher yield still! Or buy private label Mortgage Backed Securities.

This all worked really well until it hit the fan in 2008. Then life got a bit interesting.

I remember fund managers piling into Russian bonds paying 80% yield (I have not missed a decimal place). Russia could not default. Then, Russia did default and in a way that caught the smartest bond guys on the planet (Long Term Capital Management, Merriweather and the former bond arbitrage team from Salomon Brothers). Merrill Lynch at the time took a total pounding-- and this was instrumental, in an odd way, in Stan Neil coming to power and costing the firm its independence in 2008.

2.5% is 2.5%. It's fairly risk free. If inflation worries you over the long term, then buy TIPS. Don't forget to make investments into ibonds.

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patrick013
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Re: Risks of MLPs

Post by patrick013 » Sun Mar 19, 2017 7:10 pm

I think MLP's are still in the process of building. Infrastructure
is supposed to be the way to go, lease revenue primarily, leaves
commodity prices out of the question. But even if the top MLP's
build thousands and thousand of miles of pipeline a piece there
are still going to be network optimizations afterward when lease
customers figure out a way to cut lease operating costs by rerouting
product thru more efficient pipelines at better lease rates then.
So even the biggest MLP's could have substantial lost leases and
resulting dormant assets reducing lease revenue available for dividend
payout.

Unless taxation is revised and MLP index fund investing has better tax
treatment only a few MLP's will have long term high capacity utilization
leases thru some very major pipeline routes they own. Individual MLP's
still as risky as individual stocks except for those, while valuations
fluctuate according to the market. Long story short the info still
points to common stock funds as a better investment.
age in bonds, buy-and-hold, 10 year business cycle

Valuethinker
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Re: Risks of MLPs

Post by Valuethinker » Mon Mar 20, 2017 4:12 am

patrick013 wrote:I think MLP's are still in the process of building. Infrastructure
is supposed to be the way to go, lease revenue primarily, leaves
commodity prices out of the question. But even if the top MLP's
build thousands and thousand of miles of pipeline a piece there
are still going to be network optimizations afterward when lease
customers figure out a way to cut lease operating costs by rerouting
product thru more efficient pipelines at better lease rates then.
So even the biggest MLP's could have substantial lost leases and
resulting dormant assets reducing lease revenue available for dividend
payout.

Unless taxation is revised and MLP index fund investing has better tax
treatment only a few MLP's will have long term high capacity utilization
leases thru some very major pipeline routes they own. Individual MLP's
still as risky as individual stocks except for those, while valuations
fluctuate according to the market. Long story short the info still
points to common stock funds as a better investment.


Trans Canada Pipelines is a listed company-- TSX exchange, and huge. There are some others (I'd have to look them up).

Why own complex, tax annoying MLPs, when you could simply own plain vanilla equity with all the rights that such has?

OK you have less direct linkage to the oil price. But there are ways of playing the oil price fairly directly.

Valuethinker
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Re: Risks of MLPs

Post by Valuethinker » Mon Mar 20, 2017 4:14 am

https://cup.columbia.edu/book/crude-vol ... 0231178143

I downloaded a sample last night and read it. It's very readable and absolutely fascinating. Author's main thesis is that oil prices are likely to be much more volatile in the future than they have been, historically.

I don't imagine this is particularly good news for MLPs?

Crude Volatility
The History and the Future of Boom-Bust Oil Prices


Robert McNally

Columbia University Press

MAIN

REVIEWS

CONTENTS
EXCERPT LINKS AWARDS
As OPEC has loosened its grip over the past ten years, the oil market has been rocked by wild price swings, the likes of which haven't been seen for eight decades. Crafting an engrossing journey from the gushing Pennsylvania oil fields of the 1860s to today's fraught and fractious Middle East, Crude Volatility explains how past periods of stability and volatility in oil prices help us understand the new boom-bust era. Oil's notorious volatility has always been considered a scourge afflicting not only the oil industry but also the broader economy and geopolitical landscape; Robert McNally makes sense of how oil became so central to our world and why it is subject to such extreme price fluctuations.

Tracing a history marked by conflict, intrigue, and extreme uncertainty, McNally shows how—even from the oil industry's first years—wild and harmful price volatility prompted industry leaders and officials to undertake extraordinary efforts to stabilize oil prices by controlling production. Herculean market interventions—first, by Rockefeller's Standard Oil, then, by U.S. state regulators in partnership with major international oil companies, and, finally, by OPEC—succeeded to varying degrees in taming the beast. McNally, a veteran oil market and policy expert, explains the consequences of the ebbing of OPEC's power, debunking myths and offering recommendations—including mistakes to avoid—as we confront the unwelcome return of boom and bust oil prices.

ABOUT THE AUTHOR
Robert McNally is the founder and president of The Rapidan Group, a leading energy consulting firm, and a nonresident fellow at the Columbia University Center on Global Energy Policy. From 2001 to 2003, he served as the top international and domestic energy adviser on the White House staff.

SUBJECTS

petulant
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Re: Risks of MLPs

Post by petulant » Mon Mar 20, 2017 8:01 am

MLPs invest in a variety of different assets, so oil prices don't necessarily matter. The most important category, and probably the most economically sensible, are actually midstream assets--pipelines.

A pipeline company doesn't buy and sell oil and gas in the same unit as the pipeline operations. Actually, they can't--it's a completely different business because of pipeline regulation. And many pipeline companies don't trade oil/gas in the MLP business at all, even if the GP running the MLP does.

Pipeline companies are "dumb pipes." They get paid out of long-term leases or other FERC-approved open access tariffs. What matters for them is that there's a source of oil or natural gas on one end and a destination on the other end.

Overall, midstream companies are not strongly correlated with energy prices. If prices are low, quantity moved can go up. If prices are high, quantity moved can go down. But specific routes may get more or less business.

And what's more important for most pipelines in the United States is the gas side, not the oil side. Natural gas and NG products pipelines connect production in the Marcellus shale in Ohio/Pennsylvania as well as traditional production areas in OK/TX/LA to gas consumption areas all over the country, including California and the East Coast.

Demand for natural gas in these areas is poised to go up. Many people rely on natural gas for heat in the winter, and over time East Coast people who don't will be converting from oil boilers or propane.

But more importantly, many electricity companies across the country have been moving away from coal to "cleaner" natural gas during the Obama administration. Many of these plans are already complete or will be complete despite the change of administration, and were spurred by a collapse in natural gas prices over the last few years. That means consistent NG demand for winter heating and electricity generation all over the country.

Further, many of the natural gas pipelines have already been built. You can get new pipelines on the margin, but most of the infrastructure is done and they're just maintaining it. It is not an easy-entry business.

So NG midstream pipelines can be a good play, but only if you

1) have the care to study the energy industry
2) have the care to analyze annual reports and other documents from the specific companies
3) are already maximizing tax-advantaged space
4) have enough investing money AFTER maximizing tax-advantage space that you can diversify across MLPs while only paying a small amount in trading commissions (e.g., for $7 commissions, only buy in lots of $1000, meaning only go in with at least $10000)
5) the total amount would be a small part of your net worth--no more than 10%

Most of the big money keeping our markets efficient doesn't care about small-cap pipeline MLPs with complex tax structures. So there's some room here to make money if you can take care and play it smart.

pshonore
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Re: Risks of MLPs

Post by pshonore » Mon Mar 20, 2017 10:27 am

As usual there's a fair amount of misinformation in some of these posts.

Are MLPs a good investment for everyone? Of course not; you need some knowledge of energy markets and infrastructure as well as the tax complications before you invest here.

Are MLPs good investments in retirement accounts? Probably not, but as long you are aware of how to avoid some of the tax traps, they're not as bad as some think.

K1 forms generally come out starting in Mid-February. You can check at K1support.com (where most are produced) and you'll see about 85% of the 150 or so partnerships have already been sent out with the remaining 15% scheduled by the end of March..

I'm not sure the Vanguard paper got their performance stats but the truth is the Alerian MLP Total Return Index (AMZX) had an average annual return of 13% from its inception (12/29/95) through 3/10/17 (using the XIRR function with all distributions reinvested.) All figures available at alerian.com

I bought EPD (Enterprise Products Partners) which is the largest and most stable MLP in 2006. My average annual return since then is 14.7% (using XIRR and with distributions taken in cash). If I were to sell, approximately 40% of my gains would be taxed as ordinary income with the balance (60%) taxed as LTCG. Recapture of depreciation at sale generates that Ordinary Income but I've had the use of all those tax deferred distributions (approx 6% yield) over that period. Not all my MLPs have that done well but on balance, I'm up significantly. Some of the MLP General Partners are structured as C-Corps for those who want to avoid the K1 forms

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