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Tortoise MLP Fund: There Are Better MLP Investment Choices

By Jim Fink on September 29, 2010

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We still prefer holding individual MLPs to funds. True, the funds are less complicated for tax purposes, as they file a 1099 rather than a K-1. But the yields are lower, and all too often you get the bad and ugly in an industry as well as the good. If you pick them yourself, you’ll always know you own only the best.

 — Roger Conrad, MLP Profits

With the S&P 500 yielding only 1.9%, I’m always on the lookout for higher-yielding investments with increasing dividends. So the announcement this past Monday (Sep. 27) that the Tortoise MLP Fund (NYSE: NTG) was raising its initial quarterly distribution by 71% to $0.36 per share (payable Nov. 30th) captured my notice. With the closed-end fund (CEF) trading at $24.11 this morning, this new dividend rate (multiplied by four) equals an annual yield of near 6.0%. Not bad, but still below the 6.1% yield of the Alerian MLP Index (NYSE: ^AMZ). The fund also committed to increasing its next quarterly dividend (payable in early 2011) to at least $0.40625 which equates to a 6.5% yield on its $25 IPO price. That’s right, this CEF is brand-spanking new, having completed its initial public offering in late July. Raising more than $1 billion, at the time it was the third-largest CEF IPO since July 2007.

MLP IPOs Can Be a Good Investment

Roger Conrad and Elliott Gue, co-editors of MLP Profits, the market-beating investment service specializing in MLPs, recently wrote for subscribers an interesting article on MLP IPOs called “IPOs for Growth.” In it, they state that new MLPs often provide higher yields than established MLPs and promise higher cash distribution growth as well:

Few investments are better than a master limited partnership (MLP) with a long history of consistently boosting its distributions to unitholders. But older MLPs don’t necessarily offer the best distribution growth potential. In many cases, MLPs grow distributions at the fastest rate in their first two years as public companies. And there’s nothing like rapid growth in distributions to drive strong price appreciation and total returns. Because distribution growth attracts investors, most MLPs are set up to generate rapid growth in their early years.

Interesting stuff. So does this mean that a MLP IPO like the Tortoise MLP Fund is a screaming buy?

I don’t think so.

Closed-End Fund IPOs are Never a Good Investment

First, let me reiterate what I wrote in my introductory article on CEFs: never buy CEFs at their IPO!  The Tortoise MLP Fund’s short operating history is a perfect example of why I say this:

Source: Bloomberg

Whereas the MLP Index is up 3.67% since the CEF’s IPO on July 27th, the CEF itself is down by 3.32%, marking incredibly poor underperformance of 7% in just two months! The reason for this is that buyers are CEF IPOs pay a substantial (and hidden) sales charge right off the bat that destroys returns. In the case of the Tortoise MLP Fund (see p.11 of the prospectus), the sales charge equaled 4.7%, which amounts to more than three quarters of the 6.1% total annual yield an investor should expect from an investment in the MLP index! In other words, while the IPO price was $25 per share, investors were buying a fund with a net asset value (NAV) of less than $24.

Underwriters Can Legally Manipulate The Stock Prices of IPOs

The above chart is also enlightening because it shows that the price action of the CEF is a flat line for the first 30 trading days. How is this possible given that the underlying index fluctuated substantially during the same time period?  The reason is that the underwriters led by Morgan Stanley (NYSE: MS) artificially support the share price for the first 30 days of trading at the IPO price of $25. Once this artificial buying pressure stops, the CEF share price immediately collapses down to the NAV or lower. According to CEFConnect.com, the Tortoise MLP Fund’s NAV is currently $23.93.

Tortoise MLP CEFs are a Bad Deal

So, now that the CEF is trading near its NAV, is it now ok to buy it? Nope. The Tortoise MLP Fund is just the latest CEF issued by Tortoise Capital Advisors, which also manages three other MLP CEFs (TYY, TYG, and TYN), as well as an energy-related business development company CEF (TTO) and a balanced CEF (TPZ, which is 60% fixed income). I compared the since-inception performance of all four MLP-related CEFs compared to the MLP index and all four have underperformed significantly:

Company

Inception Date

Expense Ratio (including leverage)

Total Return Since Inception

AMZ Total Return

Total Return Difference

Tortoise Energy Infrastructure (NYSE: TYG)

Feb. 27, 2004

4.31%

110.45%

140.68%

-30.24%

Tortoise Energy Capital (NYSE: TYY)

May 25, 2005

3.92%

43.36%

95.75%

-52.39%

Tortoise North American Energy (NYSE: TYN)

Oct. 26, 2005

3.21%

36.08%

83.96%

-47.88%

Tortoise MLP Fund (NYSE: NTG)

July 27, 2010

2.36%

-3.32%

3.67%

-6.99%

Sources: Bloomberg, CEFConnect.com

The reason for the underperformance is pretty clear: very high expense ratios. Why does Tortoise feel the need to charge annual expense ratios in the 2% to 4% range when MLP ETFs and ETNs are charging less than 1%?  Other than greed, I can’t think of any, so count me out.

Best MLP Investment Choices

It’s no wonder that Roger and Elliott rate TTO as a “sell” and both TYY and TYN as “holds” in MLP Profits. If you want the instant diversification of an MLP fund, the Alerian MLP ETF (NYSE: AMLP) and the UBS E-Tracs Alerian MLP Infrastructure ETN (NYSE: MLPI) are much better choices.

Better yet, check out Roger and Elliott’s absolute favorite individual MLPs (including recent IPOs) in MLP Profits. You may cancel for a full refund during the first 90 days, so what do you have to lose? Give it a try.

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