Kinder Morgan Update: It Looks Like Kinder Morgan Has Bottomed—and It's Paying 7.23% Right Now

05/16/2014 5:05 pm EST

Focus: STOCKS

Jim Jubak

Founder and Editor, JubakPicks.com

Income investors may find the fluctuating prices in Kinder Morgan Energy Partners stock of concern, but MoneyShow's Jim Jubak analyzes what's behind the volatility to determine whether KMP is still a safe investment.

It’s been a tough year for investors in Kinder Morgan Energy Partners (KMP.) The master limited partnership (MLP) had tumbled from a high of $88.55 on May 21, 2013 to a low of $72.22 on March 19, 2014.

The drop has brought the yield up to 7.23% as of May 15, but even for investors who own this MLP for income that’s a scary ride. (Kinder Morgan Energy Partners is a member of my Dividend Income Portfolio.)

However, it looks like the price as bottomed and the units have even moved up today on a recommendation from Goldman Sachs. As of the close on May 16, the units have climbed back to $76.12.

Much of the damage to Kinder Morgan Energy Partners is due to questions raised by a September report from Hedgeye Risk Management that called Kinder Morgan a “house of cards.” The bear case, repeated in a February 2014 article in Barron’s, was that Kinder Morgan was under spending on pipeline maintenance in order to inflate cash distributions to holders of Kinder Morgan Energy Partners units and to Kinder Morgan, Inc., the general partner. Similar, although not absolutely identical, charges were the basis of a lawsuit filed against Kinder Morgan. The suit argued that the general partner was skimping on maintenance in order to increase the distributions that it receives from the master limited partnership. Kinder Morgan disputed all charges of under spending on maintenance but it didn’t help the company’s case with the stock market that reported incidents per 1,000 miles of pipeline in its natural gas segment rose to 0.37, the industry average, in 2013 from 0.13 in 2012. (Incidents per 1,000 miles in the liquids segment were 0.24 in 2013 vs. an industry average of 0.45.)

What’s stopped the damage and led to what looks like a turnaround?

The incident rate for the natural gas segment has improved in the 12-months ended in March 31, 2014 to 0.33.

The master limited partnership reported an earnings increase of 26% in the fourth quarter of 2013 and increased its cash distribution to $5.33 a unit, up 7% from 2012. And then on April 16, Kinder Morgan Energy Partners increased its quarterly cash distribution per unit to an annualized $5.52. The quarterly distribution of $1.38 per unit is up 6% from the first quarter of 2013.

If this is a “house of cards,” it’s generating and paying out a lot of cash.

And in perhaps the final confidence building bit of news Kinder Morgan Energy Partners CEO Richard Kinder bought 100,000 shares of Kinder Morgan, Inc., on May 9. In the company’s fourth quarter conference call, Kinder noted that he’d bought 800,000 shares in December alone. Kinder had also bought 100,000 shares on February 20 and 199,165 on February 24.

Now, I do think it is possible to very cynically note that buying 100,000 shares for about $3.26 million isn’t a big commitment from a guy worth $9 billion. But Richard Kinder does have a long track record of buying shares—and then holding them—when he thinks they’re cheap. So in my opinion this buying is worth noting.

You’ll also note that Kinder bought shares of the general partner Kinder Morgan, Inc., rather than units of the master limited partnership. That’s typical of insider purchases in this sector since shares of the general partner bring along control.

But, we are at a point in the energy master limited partnership cycle where average investors as well need to consider whether they want to own shares of the general partner or the master limited partnership. The general partner—KMI—pays a lower dividend of 5.03% vs. the 7.23% of the master limited partnership—KMP—but due to structure of the master limited partnership/general partner it looks like dividends at KMI will climb faster—8% a year—than at KMP—5% a year—for the next few years. That, plus any accounting advantages you see in getting a 1099 from KMI versus a K1 from KMP, should certainly figure into your decision about what Kinder Morgan horse to ride. (In my dividend portfolio I’m sticking with KMP since the goal is to maximize total return, and I think the higher yield plus the greater volatility of KMP is the best way to achieve that.)

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 did not own shares of Kinder Morgan Energy Partners or Kinder Morgan, Inc., as of the end of March. In preparation for closing the fund at the end of May, as of the end of March I had moved the fund’s holdings almost totally to cash.

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