is trading near six-month lows due to its implication in the mutual fund scandal last month. Alliance holders aren't waiting to see if there's another shoe dangling out there. They want out.
So is it time to sell Alliance and switch to one of its competitors like
Kinder Morgan Energy
or even coal producer
Alliance Resource Partners
Huh? Natural gas processors, crude carriers and coal diggers? Shouldn't we be offering asset managers and brokerages like
( LEH) and
( MER) as possible alternatives to Alliance shares?
Well, yes and no.
Yes, if your goal is to maintain your exposure to the financial sector. And no, if your goal is to collect the heady 7.21% yield and tax benefits associated with owning a master limited partnership.
So before you jettison Alliance units, or back the truck up to collect more, here's a few things you might want to know about Alliance, as well as MLPs as an asset class.
As Harry Domash, publisher of
Dividend Detective (a site that alerts people to high-yielding investment vehicles) points out, MLPs are often confused with real estate investment trusts. Both MLPs and REITs trade like stocks and are mandated to pass most of their earnings to unitholders in the form of cash distributions.
The immediate advantage of this conduit-like corporate structure is that both REITs and MLPs avoid the double taxation of earnings generally found in most corporate frameworks. MLPs also present tax benefits because a piece of their payouts, also called distributions, can be tax-deferred. The major difference is that REITs are limited to investing in real estate, while MLPs have no industry constraints.
Despite the lack of constraints, as a member of the financial sector, Alliance is not your typical MLP candidate. In fact, it might be the only financial company trading as an MLP. Most frequently, MLPs are comprised of energy companies that operate pipelines transporting crude oil, natural gas, coal and petroleum products. Since pipeline income is a function of the volume of the commodity being transported, as opposed to the price of the actual commodity being transported, these firms tend to have stable and predictable cash flows. And stable, predictable cash flows are a key prerequisite for a successful MLP.
It's The Yield, Stupid
What becomes of those stable, predictable cash flows? Well, hopefully they pass through the MLP and arrive in your account or pocket in the form of dividends. Which brings us back to the original question, if you are in Alliance for the yield, the whole yield and nothing but the yield -- currently 7.21% and growing as the stock dives -- and not as a financial sector play, then do you really want to switch to Goldman yielding 1.05%, or Merrill yielding 1.14%?
So for those dividend junkies unwilling to get off the yield, and want to stick in the MLP arena, here's how Alliance stacks up to some of the MLP recommendations listed on Domash's Dividend Detective site. Domash says his current favorite is Kansas City-based propane distributor
What About Alliance as an MLP?
Alliance, with its steady stream of asset management fees, is the perfect candidate for a financial company MLP. Unlike the major brokerage houses whose earnings rise and fall with the IPO markets, and/or a good month of proprietary trading, Alliance's primary business as an asset manager shields it from such market whims. It doesn't matter if the market goes up or down, Alliance's funds will still collect their asset management fees. This is also why Wall Street applauded and envied Alliance's 2000 purchase of Sanford Bernstein with its huge stable of high net worth assets under management, as well as its pristine reputation for independent, untainted research.
With a bull market at its back and $484 billion of assets under management, one would think that it would be smooth sailing for Alliance.
The rising tide did indeed float Alliance's fee income throughout most of 2003. Although its high dividend distribution wouldn't allow the stock to reach nosebleed heights, Alliance generally tracked the brokerage index for through much of the year, peaking this July at $39.50.
But then the mighty Spitzer started getting rough, and the mighty Alliance was tossed into a mutual fund scandal which involved improper market-timing trading in Alliance funds. Market-timing is the use of quick, in-and-out trades that skim profits from longer-term shareholders. The practice is not illegal but most funds do not allow it.
Since the scandal broke the stock is down and can't seem to get up. Alliance is underperforming the S&P Diverse Capital Markets Group by 39%, S&P Asset Managers by 10% and diversified banks by 18%.
Although a mea culpa is always welcome in an industry where companies tend to just pay the fine without "admitting or denying the allegations," it does not offer much direction to shareholders worrying if another shoe is set to drop at the company or in the mutual fund industry.
In a report last week, Prudential Financial analyst John Hall guided interested parties to the sidelines. He rates the company a neutral, "recognizing that the risk profile of the company increased," and notes that "increased litigation would cause margins to contract."
Despite a wary eye on litigation going forward, Hall is treating the $190 million house-cleaning charge as a one-time event. Hall kept his 57 cents-per-unit operating result for the third quarter, which Alliance confirmed it would indeed pay out. Hall is keeping his full-year EPU estimate at $2.04.
However, Hall recently lowered his full-year 2004 estimate to $2.25 from $2.40 based on a conservative assumption that asset flows over the next year will taper off. At the same time, he dropped his 2005 EPU estimate to $2.55 from $2.60.
Hall's 2004 year-end price target of $35 per unit is 13.7 times that recently lowered 2005 year-end estimate of $2.55. Unfortunately, over the last five years Alliance's average valuation is 14.7 times, so Hall does not seem to be seeing a return to the norm ahead.
What he does seem to see ahead is an increasing risk profile, and a 2004 year-end price target of only $35.
So for those not sticking around for the yield, Hall does not seem to be suggesting waiting around till 2004 for such a slight increase in the units. Let alone waiting for another shoe to drop.