Anecdotally, many pundits will explain that master limited partnerships (MLPs) as an asset class are about 20 years behind real estate investment trusts (REITs) but are expected to follow a similar trajectory.

On the surface, this seems very reasonable: REITs became a well-known asset class following decades of obscurity, and MLPs are about 20 years younger than REITs. Following this general thought, MLPs were a niche investment until recently. Let’s examine the data behind what differentiates an established sector from an emerging one, which will ultimately show that MLPs are establishing themselves as an asset class much more quickly.

REITs were legislated into existence in 1960, with the original intent of making the benefits of large-scale, income-producing commercial real estate investments available to all investors, not just the wealthy and financial institutions. REITs are exempt from corporate taxation but are required to pay out 90% or more of their income in order to maintain this status. Unlike an apartment building or shopping mall, an investment in REITs is liquid and trades on the major exchanges.

The creation of MLPs happened about 25 years after that of REITs, with the Tax Reform Act of 1986, signed into law by then-President Ronald Reagan. Their creation encouraged the build-out of U.S. energy infrastructure by exempting MLPs from corporate taxes, just as Congress had done with REITs. However, MLPs are not legally required to pay out a certain percentage of their income as cash distributions, although doing so has become industry practice.

Measured in today’s dollars, both MLPs and REITs started out with about a $10-billion market capitalization. REITs reached $100 billion by 1996, about 35 years after their inception. It took MLPs only 20 years to reach that same milestone.

Cocktail parties

There are no definitive guidelines for when an asset class is established and no longer classified as emerging. Some consider this to have happened when most major institutions have made an asset allocation to the sector. Alternatively, an asset class is established when members of the investing public can discuss it at a cocktail party without being immediately labeled boring and pedantic.

More reliably, in 2006, MSCI Inc. upgraded REITs in its Global Industry Classification Standards from a sub-industry to an industry group with its own sub-industries. Notably, this followed the real estate boom of previous years, and REITs subsequently suffered during the collapse in housing prices in 2007 (losing 25% of their market cap) and during the financial crisis in 2008 (resulting in the industry being half its previous size).

For an objective measure, when REITs were upgraded to an industry by MSCI in 2006, the market cap of the asset class passed 2.5% of the market capitalization of all listed U.S. companies for the first time. MLPs have not yet crossed the 2.5% threshold. However, in 2009, MLPs made up 1.1% of the U.S. market capitalization, just more than 20 years after their creation, exhibiting an accelerated pace of growth in comparison to REITs, which reached the 1% mark 35 years after their creation. Since 1995, MLPs have had a 24% market capitalization compound annual growth rate, significantly outpacing that of REITs (14%) and further supporting the thesis of an accelerated MLP growth trajectory.

Currently, there are 17 REITs in the S&P 500, and they are classified as their own industry within the financials sector. MLPs are prohibited from inclusion, although there are some MLP affiliates, including Kinder Morgan Inc., ONEOK Inc. and Spectra Energy Corp.

MLPs may be following the same trajectory as REITs, but they are moving much faster. Perhaps this is because REITs have paved the way for investors to understand the complexities of what remain alternative asset classes. Nonetheless, MLPs are catching up quickly and may soon be an equivalent asset class, in terms of size, investor familiarity and use.

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