Dividend income pick: ONEOK MLP

The natural gas company now yields 5.69%, and I think that rates a bite.

By Jim J. Jubak Aug 23, 2013 8:44PM

Units of ONEOK Partners (OKS), a member of my Dividend Income portfolio, have dropped 12.2% from March 28 to the close on Friday. That’s brought the yield on this MLP (master limited partnership) to 5.69%.

Tempting, right? Although you would like to know why ONEOK Partners has sold off before biting at that high yield.

I think three things are responsible for the drop in the unit price.

First, there’s the general sell-off in anything in the dividend/income category -- as the market braces of some kind of cataclysm when the Federal Reserve begins to taper off its program of buying $85 billion a month in Treasuries and mortgage-backed securities as early as its Sept. 18 meeting.

I think that the Fed is likely to begin a taper in September, that the amount will be relatively modest -- to, say, $70 to $75 billion instead of $85 -- and that the market reaction will be one of chagrin,  that everybody got so worked up about this. (Which isn’t to say that the long-term effects of the Fed’s change in policy aren’t significant. Just that the short-term effects are more than priced in at the moment.) In other words, I’m not too worried that an MLP yielding 5.69% will plunge on the beginning of the Fed’s taper.

Image: Natural gas plant (© Kevin Burke/Corbis)Much more important are sector and company specific trends.

So second, ONEOK Partners is exposed to the sector-wide drop in prices in natural gas and natural gas liquids that has resulted from the tremendous jump in supply as a result of the U.S. energy boom.

Although about 68% of the company’s cash flow is fixed-fee-based, and therefore relatively sheltered from declining prices for natural gas liquids, the company has targeted the natural gas liquids segment for much of its new investment in the last five years or so until, now, about 50% of its pipeline business is in the natural gas liquids segment.

Given that degree of exposure, the plunge in the price of natural gas liquids such as butane, ethane, and propane has hurt. But it is important to note that even with that problem, ONEOK Partners believes that it will be able to increase its distribution to unit holders by 3% in 2013 -- with projected 8% to 12% distribution growth over the next three years. (There is also evidence that prices for natural gas liquids have bottomed.)

And third, on July 25 ONEOK (OKE) said that it would spin off its natural gas distribution business into a publicly traded company. I think this has left some investors confused. Notice that this is a spin off by ONEOK (OKE) and not ONEOK Partners (OKS).

Before the spin off ONEOK was engaged in two businesses—natural gas distribution (to homes and factories) and natural gas gathering and transportation through pipelines. The company has decided to spin off the natural gas distribution business into a new company called One Gas early in 2014. ONEOK will keep its natural gas gathering and transportation business, which amounts to a 43.4% ownership stake in ONEOK Partners, and control of the general partnership for the ONEOK Partners MLP. In other words the spin off will have no effect on the assets that ONEOK Partners owns.

Which isn’t to say that it hasn’t had any effect on the share price for ONEOK Partners. First of all, I think the confusion created by the spin off may have led some investors in the MLP to sell. Second, I think that removing the very stable cash flow of the natural gas distribution business from ONEOK has raised fears -- made less abstract by alerts from the ratings companies -- that ONEOK could see a credit rating downgrade that might increase its cost of capital. The worry for ONEOK Partners is that could raise the cost of capital for ONEOK Partners too. I think that’s unlikely or that the increase would be small. And finally the yield on ONEOK has hovered near 3% recently. (It was 2.93% on Friday.) That creates some competition for investment dollars between ONEOK and ONEOK Partners.

But note that if you’re looking to evaluate the ONEOK Partners MLP with its 5.69% yield that the crucial positive fundamentals for the MLP remain intact. The MLP continues to be able to raise capital at a low cost -- a unit offering that closed on August 6 sold for $49.61 and the units have started to recover from the lower prices caused by that supply. And ONEOK continues to be able to identify profitable opportunities for that money. The MLP has $4 billion in projects coming into operation through the first half of 2015. In the second quarter of 2013 ONEOK Partners saw the 600-mile Bakken natural gas liquids pipeline go into service,  as well as a gas processing plant in Williams County, North Dakota, and an ethane header pipeline along the Gulf Coast.

I’d look to see the units at a target price of $55 within a year.

Which makes that 5.69% yield worth biting at.

Full disclosure: I don’t own shares of any of the companies mentioned in this post in my personal portfolio. When in 2010 I started the mutual fund I manage, Jubak Global Equity Fund, I liquidated all my individual stock holdings and put the money into the fund. The fund may or may not now own positions in any stock mentioned in this post. The fund did not own shares of ONEOK Partners as of the end of June. For a full list of the stocks in the fund as of the end of June see the fund’s portfolio.

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Tags: oilOKEOKS
Sep 7, 2013 12:22PM

Just for once, I wish the term dividend not be used for MLP (Master Limited Partnerships) The key word is partnership and partnerships do not pay dividends but rather pay out partnership distributions to their partners, which is you. You will not receive a Form 1099 (DIV) but rather a Schedule K-1 which will show, not dividends, but rather your share (being a partner) of the income the MLP) earned during the calandar year.  You may not receive this Schedule K-1 until late March or early April so it may delay the filing of your tax return. This is a lesson I learned.  I had to get an extension.


The yield amount is probably accurate though and that is good!

Aug 25, 2013 1:59AM
The dividend might get reduced because earnings per share are not high enough to pay the current dividend.
Aug 24, 2013 4:12PM
Jim, What am I missing? I see that the yield is under 3% for OKE.
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