Higher interest rates have been a passive income investor's dream scenario. Even lower-risk fixed-income investments like government bonds and bank CDs offer high yields these days. Because of that, equity investments, which are riskier by nature, have to offer even higher yields to entice income-seeking investors.
For example, several high-quality yield-focused master limited partnerships (MLPs) currently pay around 8%. Because of that, a $1,000 investment could generate around $80 of annual passive income. Energy Transfer(NYSE: ET) and MPLX(NYSE: MPLX) are two great options for income-seeking investors.
A fully fueled growth plan
Energy Transfer's distribution currently yields right around 8%. That's several times higher than the average stock (the S&P 500's dividend yield is 1.3%). Higher-yielding dividend stocks are often at higher risk of a reduction, but that's unlikely in Energy Transfer's case. Instead, the pipeline company plans to increase its payout by 3% to 5% annually.
Several factors support that view. For starters, Energy Transfer generates gobs of stable cash flow. Roughly 90% of its earnings come from fee-based arrangements, like long-term, fixed-rate contracts or government-regulated rate structures.
Meanwhile, it distributes a little more than half of its stable cash flow to investors each year. That enables it to retain all the money needed to fund its organic expansion projects with room to spare. It has been using the remaining excess free cash flow to strengthen its balance sheet. As a result, it expects its leverage ratio to be near the low end of its 4 to 4.5 times target range.
The company's strong balance sheet gives it the financial flexibility to make acquisitions as opportunities arise. It bought Lotus Midstream and Crestwood Equity Partners last year for $1.5 billion and $7.1 billion, respectively.
Meanwhile, it recently closed its nearly $3.3 billion purchase of WTG Midstream. That highly accretive deal alone will support its distribution growth plans for several years. Add in the growth from organic expansion projects, and Energy Transfer has lots of resources to grow its payout in the coming years.
High-octane income growth
MLPX's distribution yield is currently right below 8%. The MLP has been growing its payout briskly in recent years. Last year marked its second straight year of delivering a 10% raise to its investors.
The company's high-yielding payout is on a very firm foundation. Like Energy Transfer, it generates very stable cash flow backed by long-term contracts and government-regulated rate structures. Because of that, it produces plenty of cash to cover its payout. Its distribution coverage ratio has averaged 1.6 times over the past several quarters.
The company uses its excess free cash flow after paying distributions to fund new expansion projects and maintain a strong balance sheet. It has several pipeline expansions underway, and it's building a few more natural gas processing plants.
The MLP also recently joined a new joint venture to combine existing assets with a new pipeline project, adding another growth driver.
MPLX also has a very strong balance sheet. The leverage ratio was 3.2 times at the end of the fourth quarter, well below the 4.0 times its stable business could support.
It also had over $385 million of cash on its balance sheet. That's after spending $625 million in March to acquire an additional ownership interest in some existing joint ventures and a gas gathering system. It has the flexibility to continue making acquisitions as opportunities arise.
Given its conservative financial profile and growth drivers, MPLX could continue increasing its distribution at a healthy rate in the coming years.
Pump up your passive income with these MLPs
Energy Transfer and MPLX offer high-yielding passive income streams backed by stable cash flows and strong financial profiles. Both expect to continue growing their payouts in the future. That makes them ideal for those seeking outsize income streams and who are comfortable with the added tax complexities of investing in MLPs (they send a Schedule K-1 federal tax form instead of a 1099-DIV each year).
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Matt DiLallo has positions in Energy Transfer. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
