Leveraged ETF Launch: Non Energy MLP ETN Hits Market

Rock-bottom interest rate levels for the last five years took rate sensitive sectors to new highs. While some concerns over rising rates cast a cloud over these sectors last year, 2014 has been quite rewarding thanks to elevated risk-off trade sentiments in the market.

Now, with the Fed appearing likely to keep rates at a rock-bottom level for longer, investors have once again started to look for high yielding products. Master limited partnerships (MLPs) were no exception to this trend. This hybrid asset class represents a compelling investment proposition for income-focused investors as they are known for stable cash flows and strong growth potential.

As a result, fund issuers have flocked to this space in recent times. Within the group, UBS ETRACS has been quite a popular player with its recent issuance being in the form of leveraged MLP. The newly launched fund – ETRACS Monthly Pay 2xLeveraged Wells Fargo MLP Ex-Energy ETN (LMLP) – hit the market on June 25, 2014 and could be a new way to play the space.

The launch actually follows up an unleveraged version of the same product, which just hit the market. This ETN, the Ex-Energy MLP ETN (FMLP) has amassed about $25 million in the short time since its launch.

LMLP in Focus

The newly launched fund – LMLP – looks to track the Wells Fargo MLP Ex-Energy Index, same as FMLP . The new entrant seeks to provide investors twice the monthly return of the said index.

Investors should note that unlike most other leveraged ETFs which are reset daily, this new fund will be reset on a monthly basis. Also, unlike many MLPs which mainly target the energy space, LMLP will target the non-energy field of the MLP world.

The non-energy oriented companies enjoying partnership taxation treatment get an entry pass to the index. KKR & Co LP, Blackstone Group LP and Lazard Ltd are the top three holdings of the index, with each accounting for about 10%.

The fund charges about 85 bps a year which is reasonable either from an MLP ETFs point of view or from the leveraged ETFs’ standpoint. Notably, the average expense ratio in the MLP ETF space is 80 bps while the same for leveraged space stands at 92 bps, as per ETFdb.

Since the fund is a leveraged one, it looks to give investors astounding yields. As of June 25, 2014, twice the index yield stands at 15.24%. Needless to say, this is among the highest in the MLP exchange-traded product world.

How Does it Fit in a Portfolio?

This ETF could be an interesting choice for investors seeking broad exposure to the MLP space with a specific focus on income. Additionally, the monthly resetting technique will safeguard investors from heightened volatility of the leveraged ETF space.

Investors should note that most of MLP ETFs put up impressive returns in the past one-year, three-year and five-year periods. So, from a price appreciation point of view also, this product should rival others in the space.

Investors should also note that this product is structured as an ETN, so there is some credit risk involved. However, this also rules out tracking error and tax issues, so there is a trade-off.

Can it Succeed?

Though the MLP space is rife with competition, we expect this newly launched product to hold its head high in the coming days. ETRACS already has a billion-dollar product in the MLP space and should face no problems in replicating prior success.

Notably, ETRACS is presently playing the field with the ultra popular E-TRACS Alerian MLP Infrastructure Index (NYSE:MLPI)), ETRACS Alerian MLP Index ETN (NYSE:AMU), E-TRACS Alerian Natural Gas MLP Index (NYSE:MLPG), ETRACS Wells Fargo MLP Ex-Energy ETN (FMLP) and E-TRACS Wells Fargo MLP Index (NYSE:MLPW). And the space is headed by Alerian MLP ETF (NYSE:AMLP) which has amassed about $9 billion in assets.

Further, the new product is a leveraged MLP ETN and the space is crowded by mainly regular or unleveraged products. However, ETRACS has another leveraged product namely E-TRACS 2x Leveraged Long Alerian MLP Infrastructure Index (NYSE:MLPL). But we believe that there will be no occasion of cannibalization as MLPL operates in the energy space.

In a nutshell, an outsized yield, a moderate expense ratio and high price appreciation due to the leveraged approach need to be promoted to develop a big following for LMLP in what is a somewhat crowded space already.

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