Shipping Investments

Making decisions in a typically opaque industry

ADRIAN ECONOMAKIS, STRATEGY DIRECTOR, VESSELSVALUE.COM

The global bulk shipping industry is currently undergoing a fundamental change. It has been, and still mostly is, dominated by principal-led, family-owned companies, funded mainly by commercial banking. However, following the financial crisis and the extended downturn in charter rates, vessel values and traditional bank lending, alternative sources of finance – particularly private equity and hedge funds – have become increasingly prevalent in the sector.

The new money has been particularly attracted to the distressed nature of many shipping companies, loans and assets. Values for most cargo vessels reached historical lows in 2013 from the market highs reached in 2008. Values rebounded after improvements in earnings in late 2013, but ships remain keenly priced. A new VLCC (Very Large Crude Carrier, the largest type of oil tanker) can be bought today for around $100 million, compared to $200 million in summer 2008 and $75 million in summer 2013.

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Leading the way are the US investment firms which last year invested in over 75 vessels, partnered with a number of private shipping companies, purchased significant amounts of debt from traditional shipping banks and participated in the five US shipping-related IPOs. Most insiders agree that 2014 will see even more activity from investment firms. This sentiment was voiced at many shipping conferences last year:

“There have been billions of dollars in equity flowing into the industry, and the scary thing is that the reported number is not all of it. A lot of private placements don’t show up on anyone’s league table.”
– Chris Weyers, head of maritime investment banking at Stifel Financial

“There is every indication that [investments] this year will be higher than that.”
– Jeffrey Pribor, global head of shipping investment banking at Jefferies

The capital inflows (see Fig.2) from organisations without long-standing shipping experience combined with other developments, such as the rise of online applications and “Big Data”, have driven the need for analytics, reporting and transparency that were previously lacking in an industry not noted for its ease of access to outsiders. We will look at some of the new tools that are now available.

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Values, ownership, transactions
Traditionally the estimated market values of vessels were provided by sale and purchase (S&P) shipbrokers, usually by comparison with historical sales of similar vessels and adjusting for changes in freight earnings. This was a laborious exercise to do accurately, especially for entire company fleets, and was necessarily subjective: two different brokers would typically form two different views about the value of a given vessel. However, this decade has seen a shift from traditional broker valuations to data-driven and model-based methodologies, with which valuations can be provided instantly online with supporting data and analytics. These services have found favour with many of the industry’s leading banks, investors, owners, insurers, and other participants due to their convenience, ease of access, transparency and independence.

Automated valuations employ sophisticated mathematical algorithms to take into account the factors that influence a ship’s value, including:

  • Sector (dry bulk, oil and refined products, containers, gas, etc.);
  • Age (traditionally linear but in reality highly non-linear and reactive to market conditions);
  • Cargo capacity;
  • Freight market dynamics (including spot earnings, long charters and freight derivatives);
  • Vessel specification, features and equipment.

Automation allows more data to be used than in a traditional broker valuation, and crucially, permits back testing. This means that accuracy can be optimised and reported. Subjectivity and bias are things of the past. In addition to providing valuations, these services are also able to provide a variety of supporting information, such as up-to-date transactional data which allows users to monitor market activity. Fig.1 shows the market values for major types of five-year-old vessels.

Loan portfolios and company fleets can be regularly and reliably valued, making such services essential for banks seeking to prevent covenant breaches, funds seeking to buy or sell debt or equities related to companies or groups of vessels.

Vessel ownership is another area of traditional opaqueness, often being hidden through SPVs, long-term chartering contracts and misleading reporting. Therefore, services providing accurate ownership, relationships and historical transactions are essential for industry outsiders wishing to analyse company and fleet financial data.

Analytics and asset play
In addition to the basic ship valuation and supporting information described above, more advanced analytics are becoming increasingly available as data collection and processing techniques continue to mature. Advances in financial modelling are making market timing and asset allocation decisions in the shipping industry possible. Traditional sources of funding are less enthusiastic about lending to shipping, primarily due to the recent capital adequacy requirements coupled with the capital-intensive and cyclical nature of the industry. This is the primary cause of the recent advent of “smart money” in shipping, lured in by the stable medium-term fundamentals, positive short-term outlook, contractual flexibility and the introduction of innovative structures.

Tools and indicators that aid a participant in timing the markets, especially in times of high volatility, are much sought after. One such indicator is price momentum. This allows the participant to look for strong positive trends in prices over a specified period to support entry/exit decisions.

Ships are depreciating assets with a non-linear profile determined by market activity, as shown in Fig.3. The changes in the depreciation profile over market cycles give a view on what the market perceives as the expected working life of the vessel.

In a weak market there is a strong likelihood of vessels being scrapped early. In a strong market, owners anticipating good returns are more willing to spend resources in extending the life of the vessel, and this is reflected in the shape of the curve.

The market often expresses a preference for vessels of a certain age, size, or other characteristics, which can be due to chartering patterns or international maritime legislation. Following these trends can allow investors to detect under or over-pricing, or even provide early warning of developing bubbles. Certain sectors are far more liquid than others, with preference for age expressed in a time-varying fashion.

Geospatial intelligence
Over 90% of the global commodity movements are carried out by ocean-going vessels. This is the preferred mode of transportation providing significant economies of scale. Supply and demand fundamentals for this industry are therefore key in providing an in-depth understanding of global macroeconomics. The demand for dry tonnage primarily arises from the shipments of iron ore, coal, grain and fertiliser, whereas the wet trade is dominated by the transport of crude oil and refined products. Demand for freight is therefore usually denoted in terms of ton-miles, with trends in demand affecting freight rates as well as the derivative contracts written on them.
Geospatial intelligence obtained from satellite and terrestrial vessel tracking provides information about varying trading patterns along with structural changes in the transportation of certain goods due to geopolitical changes. Trading patterns for popular asset classes denote the importance of the Australia to China or Brazil to China routes for the trade and transportation of iron ore and coal.

Additionally, speed of the global fleet and periods of congestion may affect the freight rates. The period of employment of a vessel compared to the global average may also reflect the operator’s capability to secure employment and minimise the empty ballast passage. Fig.4 shows how the proportion of time spent by Capesize vessels at different navigational statuses varied over a year, indicating seasonality of trade and changes in freight market conditions.

Summary
The amount of data available to all of us is growing at an exponential rate, and the ability to analyse it faster is more important than ever. We are seeing an increased appetite from all areas within shipping for high-level analytics. The industry requires advanced algorithms, huge data, innovative analytics and cutting-edge technology, while always being firmly grounded in commercial reality and application. Most importantly, it must be continuously updated, tested and optimised.