Microsoft carries an AAA credit rating from Standard & Poor’s, while Wal-Mart earns an AA from the ratings firm. That two undeniably great US companies with investment-grade credit ratings raised around $10 billion in new debt capital is hardly unusual. Nor is the fact that strong demand for these bonds meant that all of these issues were heavily oversubscribed.

What is astounding, however, is the price that both firms paid to raise capital. Microsoft issued $1 billion in three-year notes with a coupon of just 0.875 percent. Even better, demand for the issue was so strong that the company actually sold the bonds at a premium to par. And the bonds have rallied to the point that they yield a paltry 0.757 percent.

To put that into perspective, that’s about 17 basis points (0.17 percent) more than the rate the US federal government pays to borrow money over the same time frame. And Fannie Mae (OTC: FNMA), the government-sponsored mortgage giant effectively nationalized in 2008, actually pays a higher rate than Microsoft to borrow money for a three-year term.

Microsoft’s unsecured three-year corporate issue is the first of its kind to offer a coupon rate of less than 1 percent, and the bond holds the distinction of paying the lowest yield of any corporate issue of its type in US history. Wal-Mart’s $750 billion three-year tranche issued less than a month later is only slightly more generous, offering a yield to maturity of just 0.762 percent.

The table below offers a closer look at all of the bonds issued by Wal-Mart and Microsoft over the past month.

Source: Bloomberg

Note that both Wal-Mart and Microsoft are paying well under 5 percent to borrow money for 30-year terms–an astounding statistic. It’s tough to imagine buying a US dollar-denominated bond that pays less than 5 percent annualized; inflation will pick up at some point and US interest rates won’t hover at generational lows forever. And don’t forget that history is full of examples of once-great, investment-grade companies that lost their way and filed for bankruptcy–General Motors and Polaroid are just two examples from recent history.

Despite these obvious shortcomings, these 30-year bonds were heavily oversubscribed. An acquaintance familiar with the corporate bond market tells me that many pension funds will buy bonds as long as the yield provides a target return that’s above internal expectations for inflation.

These inflation forecasts must not be high at all; the US Treasury issued inflation-protected bonds earlier this week with a negative yield. In other words, if you’re so inclined, you can pay the Treasury to borrow your money and use it to fund their yawning budget deficit and runaway spending.

And the bond market bonanza extends far beyond investment-grade issuers such as Wal-Mart and Microsoft. In September, US corporations sold more than $39 billion in high-yield issues, bonds once more commonly known as “junk.” Examples include a $1 billion 30-year issue from BB-rated Sears Holdings Corp (NSDQ: SHLD) yielding 6.75 percent and a 10-year issue from B-rated Linn Energy LLC (NSDQ: LINE) that offers a yield of 7.4 percent. Not many years ago corporate bond buyers could have expected these yields from investment-grade issuers and some sovereign governments.

The point of this rather long-winded discussion of the corporate bond markets is twofold: There’s never been a better time to be a corporate borrower, and we live in a low-yield world. These realities are the keys to the recent rally in master limited partnerships (MLP).

Are MLPs Overvalued?

The title of today’s e-zine, “Are Master Limited Partnerships Overvalued?,” is far and away the most common question I receive from subscribers these days. It’s a logical question; the benchmark Alerian MLP Index is up more than 44 percent over the past year, handily outperforming the S&P 500’s 13.4 percent gain.

Moreover, the yield on the Alerian MLP Index is a shade under 5.9 percent, far less than its long-term average of 7 percent and, thanks to that a big rally over the past year, considerably less than the 7.5 to 8 percent yield offered 12 months ago.

Investors’ fears have been further stoked by sensationalist journalism. I’ve read at least a dozen articles over the past two months that have argued that MLPs are overvalued for precisely these reasons. Articles of this nature serve to attract attention and eyeballs, but in this case, their central arguments don’t hold water.

It makes no sense whatsoever to compare yields offered by any asset class today to rates available five or 10 years ago. Saying that MLPs are overvalued because yields are below long-term averages is akin to saying that your bank is ripping you off by offering a 0.1 percent interest rate on your money market account when they offered 5 percent a decade ago. The world has changed; looking at absolute yields is irrelevant and misleading.

Today, we live in a low-yield world. Income available from bonds, stocks and certificates of deposit (CD) is at or near record lows. It’s true that the yield on the Alerian MLP Index is below its long-term average, but that’s to be expected when you consider the depressed payouts offered by just about every imaginable income-producing asset. 

What’s more, with tax-advantaged average yields of close to 6 percent and some well-established partnerships paying 8 to 10 percent, few asset classes can match MLPs’ income potential. Consider that the Bloomberg Diversified Real Estate Investment Trust (REIT) Index now yields just 3.7 percent; the yield on the Alerian Index is actually far higher than average in comparison to REITs. Moreover, would you rather invest in apartment buildings, shopping malls and industrial parks or energy-related infrastructure such as pipelines and oil and gas processing facilities?  

Utilities are another mainstay of income-oriented portfolios and should remain so. But the Philadelphia Utility Index currently yields less than 4.4 percent, far less than the average MLP even though many partnerships offer steady, predictable income not unlike regulated utilities.

In a low-yield world, MLPs remain a haven for income-oriented investors.

Better than Bonds

Right now, the US is experiencing disinflation and, some would argue, is at risk of slipping into outright deflation as Japan did in the 1990s. To combat this, the US Federal Reserve is preparing to embark on a second round of quantitative easing that will involve printing money to purchase government bonds and further push down yields.

In a sense, the Fed is trying to fight deflation with inflation, and there’s a real risk that this could eventually accelerate inflation and/or the devaluation of the US dollar.

If you’re among the fearless souls who have been buying 10-year US Treasuries yielding 2.6 percent or those Wal-Mart and Microsoft’s 30-year bonds, this is a huge potential risk. If your inflation assumptions prove too low, the income you receive from those bonds will be severely eroded. And if interest rates rise generally–something that’s likely to happen sooner or later–your ultra-low coupon bonds will decline in value.

Unlike bonds, MLPs offer a degree of protection against these risks. When you buy a bond, the coupons you receive never change; the best MLPs, on the other hand, have a long history of growing their distributions over time. Over the past decade, many MLPs have more than doubled their quarterly distributions–your income keeps rising over time.

The ultra-cheap financing available to corporate borrowers is helping to underwrite a significant jump in distribution growth rates for MLPs. Several partnerships, including B-rated Linn Energy have taken advantage of ultra-low rates to sell bonds and raise record amounts of capital. Linn and its peers are using that more or less free money to make accretive acquisitions or to fund new low-risk projects such as pipelines and oil terminal facilities. As a result of rising cash flows, the group is on on the leading edge of another wave of distribution growth. 

Consider that of the 50 publicly traded partnerships in the Alerian MLP Index, 33 have already declared their distribution intentions for the quarter. Of those that have announced their distributions, 21 have boosted their payout from the amount disbursed in the second quarter. That’s roughly double the percentage of companies that increased their payouts at the same time last year.

And the MLPs boosting their payout sequentially are paying, on average, 8.5 percent more than they were in the same quarter one year ago. That’s also roughly double the rate of growth in the third quarter of 2009. Equally important, not a single MLP in the Alerian index has cut its distribution this quarter. Distribution growth for the MLPs will to continue accelerate over the next few years as these firms put cheap capital to work.

Some individual MLPs are extended, and investors should bear in mind that like every other group, MLPs periodically suffer pullbacks and corrections. But MLPs aren’t broadly overvalued; strong fundamentals and accelerating growth prospects are behind the group’s recent outperformance.