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Why index funds are safer than stocks

Chesapeake Energy’s meltdown has crippled its share price and that of a subsidiary. It’s a case study in how risky it can be to invest in one stock. It also shows how energy exchange-traded funds can help blunt the effects of one company’s implosion.

Chesapeake Energy's meltdown has crippled its share price and that of a subsidiary. It's a case study in how risky it can be to invest in one stock.

It also shows how energy exchange-traded funds can help blunt the effects of one company's implosion.

As is now well-known, Chesapeake Energy's chief executive, Aubrey McClendon, took out more than $1 billion in shrouded personal loans backed by assets of the public company — and investors have demanded he step down as chairman. On Friday, the company (CHK) said it would delay a securities filing, and the stock was punished, falling 13 percent in one day to $14.81. (It rebounded slightly on Monday to $15.51.)

Chesapeake Energy's woes also have pressured one of its publicly traded subsidiaries, Chesapeake Midstream Partners (CHKM). The beleaguered parent Chesapeake owns roughly 33 million shares, or about 42 percent, of Chesapeake Midstream's shares outstanding, as of the end of 2011.

Chesapeake Midstream depends on Chesapeake for a majority of its revenues, and it is structured as a master limited partnership that earns cash flow from the transportation, storage, and processing of energy — much like a toll road.

Investors like these MLPs because they generate good yields and income (we've written about the benefits of MLPs before). Chesapeake Midstream operates and develops natural gas gathering systems and other assets in the Barnett Shale, Haynesville Shale, and local drilling spots including the Marcellus Shale region.

Moody's ratings agency last week downgraded both the parent and Chesapeake Midstream, citing McClendon's conflict of interests that "reflect poorly on Chesapeake's corporate governance." The ratings agency added that "if the resulting SEC inquiry, shareholder litigation or the audit committee's review of the CEO's personal financing transactions raises additional issues or adversely effects the company's execution of its funding strategy, then there could be negative ratings implications."

That's Moody's speak for "it could get worse."

Chesapeake Midstream could be in a slightly better position than its parent. According to local energy analyst Suzanne Hannigan of Janney Montgomery Scott, Chesapeake Energy's general counsel Henry Hood said last week the company and its investors are protected if McClendon defaults on personal loans because the parent company holds first liens on the oil and natural gas wells that he used for collateral.

Since Chesapeake Midstream is not a party to the McClendon personal loan documents, the liens and provisions may not reach the partnership's intangible assets. Still, Chesapeake Midstream stock has been punished too: down 6 percent to $23.72 last Friday, fairly close to the price at which it was spun off. (It, too, rebounded Monday, rising 1.7 percent to $24.14.)

Chesapeake Midstream is one of the most popular master limited partnerships among energy investors: among its biggest shareholders are the Alps Alerian MLP ETF and Guggenheim Mid-Cap Core ETF. Alerian last year added Chesapeake Midstream Partners LP to the Alerian MLP Infrastructure Index (NYSE: AMZI), which is the index tracked by the exchange-traded fund.

The advantage of these ETFs is that they hold multiple investments in energy — thereby easing the effects of a collapse in one just stock. They can replace Chesapeake Energy with another MLP in their index. Alps Alerian MLP ETF, for instance, holds Enterprise Products Partners and Kinder Morgan Energy Partners, among others. To see a past column on Chesapeake, go to http://alturl.com/idj28

Social Security? Not if you are 35

Confirming what we all feared, the Social Security trust funds are expected to be exhausted by 2033, three years earlier than last year's estimate. In other words, if you are planning to retire after that, don't bank on Social Security paying you.

Adjust your retirement plans to the prospect of receiving smaller benefits, no cost-of-living adjustments, or no Social Security benefits at all. "We tell 35-year-olds to assume it won't be there," David L. Blain, president of D.L. Blain & Co. LLC, told the trade publication Investment News.

We suspected it, but now it's actually coming true. One option to counteract little or no Social Security is to start investing in Treasury Inflation Protected Securities, or TIPS, to try to protect against inflation.

Erin Arvedlund is a finance reporter in Philadelphia. Contact her at 646-797-0759 or erinarvedlund@yahoo.com. Read more of her columns at www.philly.com/arvedlund