Back in 2008, Philip Trinder struck out on his own after being “liberated” from the investment banking world during the financial crisis – and has never looked back.
A corporate finance and deal-making pro with 15 years of experience, Trinder founded his firm MLP Protocol four years ago to focus on investing in Master Limited Partnerships. He has extensive experience in the energy space after serving as part of First Union/Wachovia’s Energy and Power Investment Banking Group (now part of Wells Fargo) from 1995 to 2008. Trinder has analyzed everything from oil field service companies to upstream, midstream, and downstream energy firms.
Not all energy MLPs are created the same, and understanding differences is crucial to a successful investment. Few portfolio managers understand the MLP world with the same sophistication as Trinder. His new Covestor model, MLP Protocol Sprint, pursues a higher-risk, higher potential return strategy.
I recently caught up with him to discuss his background, investing style and strategic outlook when it comes to MLPs.
MW: How did you get involved in MLPs during your investment banking period?
PT: I was a part of First Union/Wachovia’s Energy and Power Investment Banking Group (now part of Wells Fargo) from 1995 to 2008, covering upstream, midstream, downstream and oilfield service companies. Being active in the broadly defined energy space meant that we became more and more involved with MLPs as the space continued to grow over time.
MW: Why did you leave investment banking and start your own firm?
PT: The general financial meltdown that began in 2007 and became more and more troublesome for Wachovia eventually caught up to me in June of 2008, as I was “liberated” in that particular round of layoffs. I think it may have been the third or fourth round within the investment bank by that time. Necessity, they say, is the mother of invention, so I began to focus on putting together analytics for me to use to manage my personal investments – conveniently, I had been a prodigious saver.
MW: How does your experience at First Union/Wachovia affect your research and investing today?
PT: The experience I gained over the many years on the “sell side” of investment banking has given me a deep understanding of corporate finance and the various processes that occur – effectively, experiencing “how the sausage is made” by being a part of the process. Additionally, that time period was long enough to see and learn from the “boom and bust” cycles within the energy space first hand. Being heavily involved with the energy MLPs made me very familiar with the numerous structuring nuances that are unique to the space.
MW: What are the key things to look for in an MLP investment – and what are the most common pitfalls for investors?
PT: The key things to look for when evaluating MLP investments are the relative valuation and forward outlook for a particular MLP in comparison to its peer group within its part(s) of the energy value chain. One of the most common pitfalls for investors is viewing all energy MLPs as the same and painting them all with a broad brush. The growing number of subsectors within the energy MLP space means that focusing on and understanding the differences is critical to an investor’s success.
For example, the market dynamics impacting a more traditional “midstream” pipeline MLP are very different that those impacting an “upstream” MLP that produces oil and gas, which are in turn very different than the newer and growing Downstream & Marketing MLP segment that refines crude oil and distributes refined products at the end of the value chain. Moreover, some investors incorrectly and narrowly focuse on traditional C-Corp metrics when analyzing MLPs (for example, focusing too much on earnings per unit) and also don’t fully take into account the differences in the effective tax shield on the distribution streams for differing MLPs.
MW: How has the recent ‘reach for yield’ affected the MLP space – and how might investors take advantage of that?
PT: One way that the ongoing quest for yield has impacted the MLP space is by the growing number of variable rate MLPs, as investor demand for any and all types of yield has allowed these different structures to become more marketable to the public. Variable rate MLPs, most of which have all come public since April of 2011, will have a volatile distribution stream, which is very different than the more traditional MLPs that have been focused on maintaining or growing their distribution over time.
If a traditional MLP cuts its distribution, its unit price will typically plummet in response, as that tends to indicate a serious underlying problem within the entity. Investors can take advantage of that possible behavior by waiting for investors in Variable Rate MLPs to panic when they announce a lower quarter-over-quarter distribution and then potentially use that reflexive selling pressure to pick up units at better prices (so long as your expectation is for the distribution to recover in some reasonable manner).
MW: As interest rates rise (eventually!), how will that affect the MLP space?
PT: A rising interest rate environment should gradually put pressure on the prices of all publicly traded equity securities and will be more impactful to companies/partnerships that utilize higher debt levels in their capital structures. MLPs typically have a high amount of debt in their capital structures since they distribute their cash flow and then finance their growth capital expenditures with additional debt and equity. So, intuitively, one would assume that they might experience more of a headwind compared to unlevered C-corporations during a rising interest rate environment as their cost of debt increases over time.
However, you also need to keep in mind that MLPs are also focused on growing their distributable cash flow per unit over time which can serve to offset or reduce the negative impact from rising interest rates. I have some more thoughts on this concept in my article MLPs and Relative Value versus U.S. Treasuries.
MW: Why did you choose to focus on the smaller, riskier MLPs for your Covestor model?
PT: The MLP Protocol Sprint portfolio is intended to pursue a higher risk higher potential total return strategy and as such generally focuses on newer, smaller, and riskier MLPs. I have two other portfolio concepts that would have different objectives: the Marathon portfolio and the MLP K-1 Free portfolio. The Marathon portfolio would focus on the larger, comparatively less risky and thus lower yielding MLPs. It’s a slower portfolio (hence the name “Marathon”) in contrast to the current “Sprint” portfolio.
The MLP K-1 Free portfolio would invest in names related to the MLP space, but never invest in any entity that generates the somewhat dreaded K-1 tax form. Typically, that would be the C-Corporations that own the General Partners and common units of underlying MLPs, C-Corp. companies that have announced plans to form a publicly traded MLP, a few special structures in the space. Also, there are a handful of MLPs that have elected to be taxed as C-Corp.’s, so they provide a 1099 instead of a K-1. The MLP K-1 Free portfolio would be available for IRA accounts, whereas the Sprint portfolio is and the Marathon portfolio would be set-up to be invested in with taxable account money only and not eligible for an IRA (or any tax deferred account).
MW: What else differentiates your Covestor model from other offerings (such as MLP ETFs)?
PT: Because of the way Covestor accounts are set-up, investors in the MLP Protocol Sprint portfolio will receive the tax benefits of direct MLP ownership, but they will also receive the annual K-1 filings for all of the K-1 generating investments that get held in the portfolio. In contrast, if an investor invests in MLP related ETFs they will not receive the tax benefits of direct ownership, they will receive one 1099 form at tax time instead of multiple K-1s for the underlying investments, and there will also be tax leakage at the ETF that will effectively increase the gross expense ratio on that particular investment.
The various exchange traded products related to MLPs would also provide an investor with more MLP diversification when compared to the Sprint portfolio. All of the exchange traded products will also tend to focus their investments in the larger MLPs in their effort to generally follow the Alerian MLP Index.
MW: Thanks, Phil.
PT: My pleasure.
Certain information contained in this presentation is based upon forward-looking statements, information and opinions, including descriptions of anticipated market changes and expectations of future activity. The manager believes that such statements, information and opinions are based upon reasonable estimates and assumptions. However, forward-looking statements, information and opinions are inherently uncertain and actual events or results may differ materially from those reflected in the forward-looking statements. Therefore, undue reliance should not be placed on such forward-looking statements, information and opinions.
Any investments discussed in this presentation are for illustrative purposes only and there is no assurance that the adviser will make any investments with the same or similar characteristics as any investments presented. The investments are presented for discussion purposes only and are not a reliable indicator of the performance or investment profile of any composite or client account. Further, the reader should not assume that any investments identified were or will be profitable or that any investment recommendations or investment decisions made by model managers in the future will be profitable.
