With so many of our Portfolio holdings trading above our buy targets, readers have limited options to put new money to work. However, you don’t have to wait to buy the four stocks we’re adding to the model Portfolios in this issue. Here’s the skinny on Buckeye Partners LP (NYSE: BPL), El Paso Pipeline Partners LP (NYSE: EPB), Eagle Rock Energy Partners LP (NSDQ: EROC) and Mid-Con Energy Partners (NSDQ: MCEP).

Midstream MLPs have proved exceedingly popular among investors in recent months, likely because a high percentage of fee-based income insulates many of these firms from ups and downs in commodity prices. This resilience enabled Conservative Portfolio stalwarts Enterprise Products Partners LP (NYSE: EPD) and Kinder Morgan Energy Partners LP (NYSE: KMP), for example, to grow their distributions throughout the credit crunch and Great Recession.

These qualities have also made the stocks some of the most expensive in the MLP universe. Investors have flooded into these names in the new year, depressing yields. However, the newest additions to the Conservative Portfolio trade at favorable valuations because the market has discounted the stocks for temporary challenges that don’t vitiate their long-term growth stories.

By buying these names now, investors can lock in above-average yields before the crowd rushes in. As the short-term issues weighing on these stocks subside, we expect these stocks to appreciate to valuations typical of their peers. If the momentum runs out for high-flying pipeline stocks, many of which appear overbought, Buckeye Partners LP and El Paso Pipeline Partners should still have upside.

Buckeye Partners LP (NYSE: BPL)

Units of Buckeye Partners LP trade at a discount to other midstream MLPs because of investors’ concerns about disappointing fourth-quarter results and full-year distribution coverage. A downgrade from an analyst at Citigroup (NYSE: C) didn’t help matters. In this report, John Tysseland noted that the MLP’s relentless expansion could jeopardize its credit rating–a legitimate concern for bondholders after Standard & Poor’s reduced the MLP’s outlook to “negative” from “stable.” This warning occurred after Buckeye Partners LP announced the $260 million purchase of Chevron Corp’s (NYSE: CVX) LPG terminal in New York Harbor.

What’s debatable is whether Standard & Poor’s assessment has any relevance to Buckeye Partners’ strategic plans and future financial health. The MLP has no outstanding debt maturities until July 2013, when $300 million worth of bonds with a 4.625 percent coupon expires. This note has a yield to maturity (YTM) of 1.79 percent. Meanwhile, Buckeye Partners’ debt maturing in 2033 sports a YTM of 5.41 percent–a clear signal that the MLP has no problem refinancing maturing debt or issuing new bonds to finance acquisitions and growth projects.

This also confirms that management runs Buckeye Partners for the benefit of unitholders–not credit rating agencies–a commitment that was underscored by the partnership’s 31st consecutive quarterly distribution increase.

A more relevant concern is Buckeye Partners’ lower distribution coverage, which fell to 0.81-to-1 in the fourth quarter and 0.91-to-1 for the full year. This shortfall doesn’t mean the MLP is on the ropes, but these disappointing results don’t support long-term distribution growth. Management expects DCF to cover 100 percent of the MLP’s 2012 payout, which is expected to increase by 5 percent.

Digging behind the numbers reveals that this underperformance reflects expansion costs that appeared before the benefits of adding new assets. Buckeye Partners’ $250 million purchase of Chevron’s New York Harbor marine terminal, for example, will show up mainly as an expense in 2012. But this acquisition fits perfectly with the partnership’s land- and sea-based assets and could be expanded down the line.

In a conference call to discuss fourth-quarter earnings, CEO Clark Smith forecast a more robust 2012 thanks to recent acquisitions and growth projects.

This bullish outlook is tempered by what Smith called “extreme weakness in overall market fundamentals” in Buckeye Partners’ gas storage operations, which also hurt 2011 results. Management has enumerated a number of steps it will take to boost gas storage assets’ profitability if today’s miserable conditions persist.

Meanwhile, existing assets continue to perform. Pipeline throughput climbed 7.6 percent, bolstered by acquisitions. Gasoline volumes–about 50 percent of this business–were basically flat, though they benefitted from a 7.3 percent tariff increase.

Management still has to prove that recent moves will improve the coverage ratio. At these levels, Buckeye Partners looks like a rare bargain in an industry that’s being bid to the sky. Buy Buckeye Partners LP, a new addition to the Conservative Portfolio, up to 65.

El Paso Pipeline Partners LP (NYSE: EPB)

Yielding 5.5 percent, units of El Paso Pipeline Partners LP don’t trade at the same discount as those of Buckeye Partners. However, the stock may be more undervalued, as the market has given the stock little credit for boosting its distribution by 13.6 in 2011.

The MLP has been beset by uncertainty after Kinder Morgan Inc (NYSE: KMI) announced that it would purchase El Paso Corp (NYSE: EP), El Paso Pipeline Partners LP’s general partner. Questions remain about whether the deal will go through and whether the MLP’s new general partner would drop down the most attractive assets to Kinder Morgan Energy Partners LP (NYSE: KMP).  

All these scenarios are possible. But investors shouldn’t assume that Kinder Morgan Inc has an incentive to spurn El Paso Pipeline Partners or that the firm is prone to mistakes. Neither history nor circumstance supports these fears.

Prior to the deal, El Paso Pipeline Partners traditionally commanded a premium valuation to its peers, making it a prime candidate for equity-funded drop-down transactions. The stock would likely recover its former multiple if Kinder Morgan Inc were to sell assets to its new limited partner. This, in turn, would improve El Paso Pipeline Partners’ ability to raise equity capital for future deals.

Kinder Morgan Inc’s general partner agreement with Kinder Morgan Energy Partners has long been regarded as one of the most onerous in the industry, based on ownership and incentive distribution rights (IDR). This setup has provoked a great deal of criticism in some quarters, scaring some investors from what’s been one of the most reliable MLPs.

El Paso Pipeline Partners’ IDR structure offers less potential upside to the general partner, which could incentivize Kinder Morgan Inc to favor Kinder Morgan Energy Partners. Kinder Morgan Inc will seek to raise capital by dropping acquired assets down to its limited partners; operating realities will dictate that some of these pipelines go to El Paso Pipeline Partners.

Kinder Morgan Inc could also merge the two MLPs to boost scale and simplify the capital structure. The combined entity would be slightly smaller than Growth Portfolio holding Enterprise Products Partners LP (NYSE: EPD) and could grow even larger after drop-down acquisitions.

Investors have little to fear in this scenario. Kinder Morgan Energy Partners would have to offer a fair price for El Paso Pipeline Partners–the 233 institutional holders who own 39.4 percent of the target’s outstanding units will shoot down any subpar offers.

Whatever happens, you can expect Kinder Morgan Inc to follow a drop-down strategy that supports its blockbuster acquisition of El Paso Corp and saddles its affiliates with the least capital costs. Maximizing the unit prices of its two MLPs will be essential to monetizing the assets that the general partner acquired in the deal.

The deal took a step close to fruition in late February, when private-equity outfit Apollo Global Management inked a deal El Paso Corp’s upstream assets for roughly $7 billion. This transaction ended speculation that Kinder Morgan Inc would have to sell the assets piecemeal, further complicating the transaction.

Regardless of what happens with Kinder Morgan Inc’s acquisition of El Paso, El Paso Pipeline Partners’ operational performance and outlook appear sanguine. Fourth-quarter DCF surged 18 percent from a year ago, and the MLP appears poised for another big year after acquiring $1.4 billion worth of assets from El Paso in 2011. With a foothold in prolific shale plays that are starved of infrastructure, El Paso Pipeline Partners’ has a bright future. Buy new Conservative Portfolio holding El Paso Pipeline Partners up to 38.

Mid-Con Energy Partners LP (NSDQ: MCEP)

In the January 2012 issue of MLP Profits, Something Old, Something New, we highlighted Mid-Con Energy Partners LP, a small upstream MLP with about 9.9 million barrels of oil-equivalent reserves in Oklahoma, Kansas and Colorado. The MLP completed its initial public offering (IPO) in December and isn’t on many investors’ radars.

We like Mid-Con Energy Partners for two main reasons: its exposure to oil prices and potential production upside from water-flooding. About 98 percent of Mid-Con Energy Partbners’ estimated reserves consist of crude oil, not natural gas or NGLs. In an environment where US crude oil prices are hovering around $100 per barrel even as gas prices languish, this is a major advantage.

Management aims to hedge between 50 and 80 percent the firm’s oil output over a rolling three- to five-year period, leaving plenty of exposure to pricing upside. At present, the MLP has hedged about 53 percent of its 2012 production and 30 percent of 2013 production, locking in prices of about $100 per barrel. That means that if prices remain elevated, Mid-Con Energy Partners is in a good position to execute additional hedges at favorable prices.

Water-flooding is an enhanced oil recovery technique that involves pumping water into the periphery of the oil field, a process that boosts geological pressure and impels additional oil volumes to producing wells. The MLP’s production team has years of experience with this approach, and many of its water-flooding projects are creeping toward peak production.

Mid-Con Energy Partners is a riskier proposition than Linn Energy LLC (NSDQ: LINE) and Legacy Reserves LP (NSDQ: LGCY), but the MLP also boasts superior growth potential. To start, Mid-Con Energy intends to pay unitholders a quarterly distribution of $0.475 per unit; the partnership recently paid the pro rata share of that minimum distribution to reflect the roughly 15 days it was public in the fourth quarter. On an annualized basis, this minimum quarterly distribution equates to a yield of almost 8 percent.

But Mid-Con Energy’s production and commodity price assumptions look conservative: The MLP is likely to pay out more than its minimum quarterly payout, which means the actual yield could be north of 8 percent. Mid-Con Energy Partners LP, a new addition to the Aggressive Portfolio, rates a buy under 26.50.

Eagle Rock Energy Partners (NSDQ: EROC)

Eagle Rock Energy Partners operates two businesses: gathering and processing (G&P) and upstream.

Upstream operations involve the production of crude oil, natural gas and NGLs from the partnership’s properties in Texas, Oklahoma, Arkansas and southern Alabama. As of the end of 2011, Eagle Rock’s properties included 591 operated wells and 1,197 non-operated wells with a total net production of 87.7 million cubic feet of energy equivalent per day.

The G&P business consists of 5,600 miles of gathering pipelines in the Texas Panhandle, east Texas and Louisiana, south Texas, and the Gulf of Mexico. These small-diameter pipelines connect individual wells to processing facilities and, ultimately, the US interstate pipeline network. The firm also owns 19 processing plants that separate NGLs such as propane and ethane from raw natural gas; these plants are typically associated with Eagle Rock Energy’s gathering systems. In 2011 the firm gathered an average of 475 million cubic feet per day of gas and processed almost 390 million cubic feet per day.

Eagle Rock Energy Partners took a hard hit when commodity prices slumped in 2008-09. Prior to 2008, with natural gas and oil prices at healthy levels, drilling activity around the company’s core gathering systems was strong, leading to consistent increases in volumes gathered and processed.

In addition, Eagle Rock Energy Partners closed a number of acquisitions in the lead-up to the financial crisis. The combination of solid organic growth and acquisitions allowed the MLP to increase its distributions from 0.306476 per quarter in its first full quarter as a public company in 2007 to $0.346635 per unit by early 2009.

In late 2008 and early 2009, plummeting natural gas prices prompted producers to rein in drilling activity, reducing throughput on Eagle Rock’s gathering systems. Meanwhile, the collapse in commodity prices also lowered profit margins in the firm’s processing business, which earns additional fees based on the sale price of NGLs and natural gas. To conserve cash, management slashed the MLP’s quarterly distributions down to $0.021136 per unit.

But the MLP has taken steps that have put the business on a much stronger footing. In May 2010, the company raised $53.9 million via a rights issue and sold its minerals royalty business. Eagle Rock Energy Partners’ general partner also canceled its IDRs. To explain, an MLP is really comprised of two different entities: a limited partner (LP) and a general partner (GP).

When you buy an MLP, you’re typically buying an LP interest that entitles you to a share of the cash flow generated by the business. But LPs don’t actually manage the MLP’s assets; the GP performs this function. In exchange, the GP typically receives an IDR that’s based on distributions paid to LP unitholders. Although these IDR payments encourage the GP to run the partnership in a way that generates distribution growth, the IDR payments reduce the cash flow that the MLP has available for distribution to LP unitholders. After its 2010 restructuring, Eagle Rock Energy Partners no longer pays IDRs to the GP, which frees up cash for the MLP’s quarterly distribution.

In addition, Eagle Rock Energy Partners has steadily decreased its debt burden over the past three years. In 2009 the MLP’s borrowings on its credit facility accounted for about 70 percent of its enterprise value; at the end of 2011, equity accounted for about two-thirds of the firm’s enterprise value and longer-term bonds accounted for about 15 percent.

Eagle Rock Energy Partners’ underlying business continues to perform, prompting the MLP to increase its quarterly distribution by 40 percent in the last 12 months. The partnership aims to pay an annualized distribution of $1 per unit by the end of 2012 or in early 2013, equivalent to a yield of about 9.2 percent at current prices.

The midstream business accounts for about 38 percent of Eagle Rock Energy Partners’ net income, with its assets in the Texas Panhandle offering the most upside. This region is home to the Granite Wash, an NGL-rich gas field where drilling continues to pick up. More than 50 rigs currently operate in the region, six of which are drilling on acreage that’s dedicated to Eagle Rock Energy Partners’ G&P business–a record level of activity.

In the fourth quarter, gathered volumes fell 3 percent sequentially, though NGL and condensate volumes processed ticked up 4 percent. Much of this slowdown stemmed from cold weather that forced operators to temporarily shut in some wells.

Eagle Rock Energy Partners’ processing capacity in the Texas Panhandle is booked under a mix of contract types. As t the end of 2011, 52 percent of volumes were covered by percent-of-proceeds (POP) or percent-of-liquids (POL) contracts, 23 percent by fixed-recovery deals and 17 percent by percent of index. Only 7 percent of its capacity is booked under fee-based arrangements.

In a POP contract, the producer engages Eagle Rock Energy Partners to separate the gas and NGLs, which the MLP then sells, keeping certain percentage as a fee. Eagle Rock Energy Partners benefits when natural gas or NGL prices increase.

Under a fixed-recovery deal, producers deliver gas to the MLP for processing and are paid based on a theoretical NGL recovery rate; any additional volumes extracted beyond this expected recovery rate are a bonus.

Prevailing commodity prices are bullish for Eagle Rock Energy Partners. For one, the strength of condensate and NGL volumes incentivizes producers to ramp up production in liquids-rich fields, a trend that translates into higher volumes for processors. The MLP’s mix of POP, POL and fixed-recovery contracts also ensures that the firm has exposure to rising NGL prices.

Eagle Rock Energy Partners plans a series of midstream expansions in the next few years. The firm’s Phoenix-Arrington Ranch Plant came onstream in October, while Woodall facility and its processing capacity of 60 million cubic feet per day should be completed in April 2012.

Management expects these plants to approach full capacity by year-end. In the first or second quarter of 2013, Eagle Rock Energy Partners expects to finish construction on another 60 million cubic feet per day of processing capacity in Wheeler, Texas. By the end of 2013, Eagle Rock Energy Partners should 250 million cubic feet per day of processing capacity in the Granite Wash.

The MLP’s upstream segment generates about 45 percent of its operating income in the Mid-Continent region, with its assets in Alabama kicking in another 30 percent. Natural gas accounts for roughly 63 percent of Eagle Rock Energy Partners’ total reserves. Although the firm’s outsized exposure to natural gas is less than ideal in the current environment, management has focused on drilling the company’s liquids-rich prospects, including Oklahoma’s NGL-rich Golden Trend and oil-rich Cana Shale.

Hedges also reduce the company’s exposure to volatile commodity prices. In 2012 Eagle Rock Energy Partners has hedged 90 percent of its expected oil production and 80 percent of its natural gas volumes.

Moreover, Eagle Rock Energy Partners’ business mix serves as a hedge. Elevated oil prices and weak gas prices push up demand for processing capacity, as producers try to maximize liquids volumes. At the same time, the upstream business stands to benefit from an uptick in natural gas prices.

Management estimates that oil-related operations account for about 48 percent of the MLP’s gross margin, with NGLs generating 32 percent and natural gas contributing 20 percent. This business mix explains how Eagle Rock Energy Partners managed to maintain its fourth-quarter DCF despite a sharp drop in the price of natural gas.

Eagle Rock Energy Partners’ exposure to commodity prices means the stock isn’t necessarily suitable for conservative investors. But the MLP’s potential distribution growth is adequate compensation for this risk. Buy Growth Portfolio holding Eagle Rock Energy Partners LP up to 12.