As Sellers Surrender, Better Days Near

It’s been said that the last stages of a bear market involve capitulation by the remaining holdouts as they finally walk away in disgust. But in a way, it’s like the advice to buy when there is blood in the streets. OK, but how much blood? There was blood in the streets a year ago. Little did we know there was going to be a lot more spilled.

To me it has felt like capitulation in the MLP space for months. Each time I think we are at a bottom, the market falls a bit more. Last week The Organization of Petroleum Exporting Countries (OPEC) agreed to continue producing crude at a rate well above its production quotas. Although there should be no practical effect on oil supply — OPEC members have already been pumping all-out — the tone was more bearish than expected, once again disappointing hopes for a quick recovery in oil prices. West Texas Intermediate (WTI) slumped 6% to less than $38 a barrel Monday as the reality of ample overseas supply sank in.

In addition to the drag from slumping prices, we are also likely to see some year-end tax selling by those looking to offset gains elsewhere in their portfolios. (I recently discussed my strategy for locking in those losses in “Turning an Oil Loss Into a Tax Win.”) This may put some additional pressure on the MLP sector through the end of the month.

Is there any good news to report? There is one silver lining in the dark clouds. As I write this, the Alerian MLP Index (AMZ) has a year-to-date total return of -43.5%. If that stands, it will be the worst performance on record. The worst year prior to this was 2008, which closed with a total return of -36.9%, and which was the only other year in the past decade with a loss for the index:


Source: Alerian

But MLPs followed up that 36.9% loss in 2008 with a 76.4% gain in 2009 and a 35.9% gain in 2010. Of course we all know the adage about past performance being no indicator of future results. Further, oil prices also rallied strongly in 2009, while I expect a much more tepid recovery in 2016.

Nevertheless, despite the extreme market negativity, the sector is still generating and distributing cash at a rate that would suggest a lot of value has been wrongly discounted at current levels. So there is reason for optimism in 2016.

I would point out that in the past 15 years, there was only one other year in which the AMZ had a negative return. Following a 43.7% gain in 2001, the index lost 3.4% in 2002. It followed that up with a 44.5% return in 2003. Unfortunately, sentiment is significantly more negative now that it was then, or even at the end of 2008. But there is nothing from history — nor from the sector fundamentals — that would suggest anything but a positive return in 2016.   

In the meantime, I feel your pain. I did some tax-related selling of the MLP sector two weeks ago, locking in double-digit losses. However, I will be looking for a reentry point later in December as I expect the sector to rise in 2016 even if commodity prices remain weak.

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