Q:  What are Master Limited Partnerships? A : MLPs are publicly traded energy infrastructure companies set up as partnerships that were created under the 1986 and 1987 Tax Reform Act. There has been a lot of growth in the North American energy business in the last decade, which is primarily being driven by the discoveries of oil and gas production in numerous shale regions of the country. The fact that we are discovering so much oil and gas in North America is creating a need for more and more infrastructure. The typical structure for a master limited partnership is a publicly traded limited partner, or MLP, and possibly a publicly traded general partner (GP) which controls and manages the MLP. The MLP is essentially the limited partner which typically goes public first in an IPO and sometimes the GP is taken public at a later date. The master limited partnership generates a K-1, and therefore it has a different type of tax structure compared to a traditional taxable corporation. The potential benefit to investors is that MLPs typically have a higher yield than most traditional corporations and MLPs do not pay any corporate income tax because they are treated as a flow through for tax purposes. This means they are not taxed at a corporate rate before paying dividends to investors. Assuming it is public, the general partner typically gets its cash flow from the MLP by way of incentive distribution rights, or IDRs, where the general partner gets an incentive fee on the cash distributions paid to the MLP. What we think makes the general partner attractive to investors is that GPs get a share of the income distributed from the enterprise and typically, as a general partner, you see a lower overall yield but potentially higher growth in the annual distributions. There are now 16 general partnerships that are publically traded. They can go public either as MLPs or as corporations. Most of them have chosen a corporate structure for a variety of reasons. If you are set up as a corporation, you are going to have some corporate tax due within the entity, but when you pay out the distribution it would be considered as qualified dividend income because it is paid by a corporation. Either the general partner or the limited partner can own the assets. Typically most of the assets are owned at the limited partner level. The general partner often owns limited partnership units, some assets, and the incentive distribution rights. MLP open-end funds are a newer investment opportunity for investors and they provide people with access to MLPs in an open-end fund format that issues a 1099. Q:  What are the regulatory requirements to invest in MLPs under a mutual fund structure? A : Regulated Investment Companies (RIC) have to live with specific diversification requirements which limit our exposure to 25% in MLPs. That is what is required to remain qualified as a RIC. Our fund has a combination of MLPs, MLP affiliates, and MLP general partners. This seeks to optimize what we believe is the ideal mix of assets between those different categories. Q:  What is the history of the fund? A : The Fund invests in MLPs and energy infrastructure companies. The Fund’s objective is to provide a high level of total return with an emphasis on marketing quarterly cash distributions to shareholders. The Fund is an open-end mutual fund and was launched in September 2012 and currently has over $373 million in assets under management. Q:  What is your investment philosophy? A : Our investable universe today is made up of approximately 120 securities; 105 or so are energy MLPs and 15 or so are corporate structured energy infrastructure companies. We are really focused on the desire to have a strong, current income from either the MLP distributions or dividends, and an attractive long-term growth in cash flow. Our strategy is based on a yield plus growth model, which drives our total returns. Historically, we have seen a little bit less than half of the total return of the MLP industry be driven by the yield, and a little more than half by the growth in the yield. What that causes us to do is to favor companies who have a more visible and defendable long-term growth outlook. We tend to avoid companies that have a less secure distribution, and we also like to avoid commodity risk because that creates a lot of uncertainty in the cash flow stream. We typically have a preference for the midstream energy infrastructure assets that are more fee-based, toll road-type businesses. We prefer not to invest in the more commodity-sensitive, upstream areas like exploration and production, coal, propane, and refining. Q:  What is your investment strategy and process? A : We have two portfolio managers on our team, including myself, and we have four senior MLP analysts, each of whom follows about 30 different companies. The team mostly came from the sell-side, meaning they were MLP research analysts. We spread the 120 stock universe among the four analysts and their job is to really know the companies. They build models that analyze the company’s cash flow and balance sheet, and attempt to value the future distributions over time by building into the model the expected growth rate, the assets that they will ultimately build or acquire, and the current run rate of the business. The modeling process is very much a bottom-up stock selection process. It is very detail-oriented. The analysts are then responsible for recommending to the portfolio managers which of their companies they deem to be attractive long-term core holdings. Out of the 30, we expect them to have buys on the names they deem to have the highest risk-adjusted returns. We are looking to earn potentially high rates of return, but also to manage risk. Once they have developed their buy, hold and sell lists from their coverage universes, they then present those ideas to us in our regular meetings. Q:  What is your research process? What kind of companies do you look for? A : We perform in-depth, fundamental research on approximately 120 companies in our investable universe which includes all energy MLPs, MLP affiliates and MLP General Partners. As I mentioned, each analyst is responsible for research on about 30 companies. They build a proprietary model to help us understand each business and forecast the expected distribution growth and total return potential.   We use the same detailed approach in modeling all of the companies and we look to invest in companies that have stable, fee-based cash flows without a lot of commodity risk.   We look for companies that have an attractive annual yield, typically between 3% to 7%, and strong growth prospects for increasing the cash distributions to investors. I have been investing in MLPs for over 20 years and have learned over time that expected total returns will be derived about equally from current yield and growth in the distributions.  In order to achieve the best risk-adjusted returns, we seek to identify the best long-term growth investment opportunities and make sure we own what we believe to be the optimal weighting of these names in our portfolio. Our optimal portfolio is comprised of approximately 25 to 30 companies that are well-diversified and have an attractive current yield, plus strong distribution growth potential.  We do not want to accept much commodity risk in the portfolio, so in order to try and minimize that we prefer to invest in "toll road" style pipelines, terminals and storage facilities.  Q:  What is your portfolio construction process? A : Our portfolio is typically 25 to 30 positions so it is diversified but focused on our best ideas. We want to diversify by sub-sector in the MLP universe. This means we are not going to have all of our investments in one area, such as natural gas pipelines. We are going to look for exposure to natural gas, crude oil pipelines, gathering and distribution, and also at more diversified companies that are typically investment grade and have multiple lines of business. We have a fairly small universe of 120 companies so it does end up being a little more of a concentrated portfolio. The industry market cap is around $600 billion today when you include the MLPs and the general partners. We are looking to create a portfolio that is a well-diversified combination of both general and limited partners. We want some exposure to the larger, more liquid, diversified companies recognizing that they will probably grow slower because their denominator is much bigger. We also want exposure to natural gas pipelines, gathering and processing, and other areas we find to have attractive growth prospects. We look to have diversification by type of company and by geographic location of different oil and gas basins. Houston is the headquarters of many of these MLPs and about 70% of the market cap of the entire industry is in Houston, but their assets are spread throughout the country. At the end of the day, it comes down to risk-adjusted returns. We try and manage the position size and have our best ideas at a thoughtful and reasonable allocation. The position size range is typically between a 2% and 7% weighting. We do not want to dilute our best ideas too much with a bunch of smaller positions. It is a very active market in terms of the number of companies going public. We saw about 12 different IPOs in 2012. This year it looks like it is running at the same pace. Our benchmark index is The Alerian MLP Index (ticker: AMZ), the best-known index in the marketplace. It was created in 2006 and currently has a yield of around 5.9%. That is the asset class index before any fees are taken into consideration. There are only about 50 names in the index so it is a subset of the overall investable universe. Q:  What is your sell discipline? A : Sometimes companies fail to deliver on their growth expectations, make a bad acquisition, or we may just over-estimate how they will perform. That’s when we look at our existing holdings and try to optimize the portfolio. In our mutual fund, one of the benefits is that we have an attractive flow through structure. This means we are set up as a Regulated Investment Company which is an attractive structure because returns are not double taxed like they are in a C-corporation structure. Many mutual funds in the MLP space are set up as traditional corporations where they incur a corporate tax at the fund level prior to making distributions to investors. Q:  How do you define and manage risk? A : To us the biggest risk is a permanent loss of capital, or impairment of capital. We also look at volatility and the risk of losing money because of an unforeseen event, such as a commodity price drop, which comes back to our diversification objectives. We seek a well-balanced portfolio that spreads the risk across a number of different companies. From there, we size each position according to how risky we think it is. For example, a small cap which has a volatile position and less liquidity would be given a smaller allocation. The larger investments tend to be more liquid, larger cap names have less business risk because of their diversification and their liquidity. On the front end, we see to eliminate as much risk as we can by minimalizing commodity and interest rate risks. We are very cognizant that rising interest rates could be a material threat to performance so we are trying to be thoughtful about minimizing the amount of interest rate risk our companies have. Many companies have fixed rate debt, but some have floating rate debt and would potentially be more impacted by rising rates. We also look at our portfolio and analyze what a drop in commodity prices would do to our cash flow. What we have seen over time is that our companies tend to have a higher correlation to oil prices and natural gas liquids (NGL) prices, and a lower correlation to natural gas prices. For the most part natural gas has been declining for the last five or six years and MLPs have gone up so the correlation with natural gas prices is low. Lastly, we look at each position on a daily basis to monitor how it is performing versus our expectations.