„Charles W. Morgan” – The story of the last whaleship: work of love, sweat and tears, but of blood, too

The Mystic Seaport museum in Connecticut launched in late July the sailing whaleship „Charles W Morgan”, allegedly the oldest and only remaining whaleship in the world. The „Morgan” was originally built in 1841 in New Bedford, Massachusetts when New Bedford and the adjacent area was then a major, and very prospering, whaling center worldwide. Like the wooden ships of her time, her expected life – between the dangers of limited maneuverability depending heavily on weather elements, cannibals and mutiny, Arctic ice and Confederate raiders, fire, woodworms, saltwater, was not expected to top twenty years, but it turned out that the „Morgan”, despite her many close calls, she ended up making an unheard of 37 voyages during eight decades of prime commercial life (average voyage duration was about four years.)

Charles W Morgan - Outline

It cost about $27,000 to built the vessel at the yard of Jethro and Zachariah Hillman, and about another $26,000 to outfit her, about $1.5 million in total in today’s money. Her least profitable trip made about $200,000 while her most profitable trip brought in about four million dollars, all at today’s purchasing power again. Over her trading career, she generated more than $32 million in gross profits (at today's PPP), mostly in the form of sperm oil, a waxy ester (prized as illuminant because of its bright, odorless flame), and whale oil made from the blubber of baleen whales (used for the production of soap, margarine and as cheaper illuminant due to her darker flame and fishy odor.)  At 110 ft long, 27 ft beam and 17 ft draft, she had three decks, sailing capacity of 13,000 square feet and with about 35 crew, she was classed as a 351 ton whaling ship. She could hold 3,000 barrels of 31.5 gallons each; given that, on average, each whale could fill fifteen barrels, each of the voyages meant the life of 200 whales, implying that the ship has been the production plant (and graveyard) of 7,000 whales. Just one ship.

We are of the opinion that killing whales is a despicable practice in our days and ought to be banned altogether, but we have to admit that whaling was ‘big business’ a couple of centuries ago and the industry has been the cause for advancement of naval architecture and navigation, exploration and trade, and a pillar of the development and growth of most of the New England area in the USA and many other 'clusters' for the trade worldwide.

We feel strongly and enthusiastically about the Mystic’s diligent work to rebuilt and restore the vessel to her original condition based on tools and craftsmanship technique from the time of her original construction.  The restoration so far has taken more than five years and has cost about seven million dollars employing 60 people.

Charles W Morgan - preparing for launch day

Imagine, if you please, what would be to sail on the vessel at her time: thirty five crew members packed in quarters no larger than two bedrooms, sailing around the Cape Horn for four years, away from families and loved ones, living on rations, no fresh food and vegetables onboard, with potable water stored in wooden casks for months, no bath, shower or toilet (just a ‘head’) battling the elements of nature, harpooning whales from the four small whale boats, towing the poor humongous beasts to the mother vessel, manually cutting, mincing, lifting, 'trying out' huge chunks of the meat, working on your knees and soaked in blood and fat (the decks of the vessel were not high enough to stand up, in order to preserve space.) With the exception of the captain and the first officer, a modern observer could justifiably say that being on the ship at such time was sort of voluntary indenture.

Working Quarters - Detail view  of elbows and frames supporting the weather deck

How many things have changed since then? The ships; the people; the culture and the morals; ethics and what’s ‘right’ and ‘wrong’; major trades and industries important to local societies and even nations… Ships always have a story to share… from the people who dreamt of them, to the people who built them, to the people who sailed on them, to the people who serviced them, to the people who restored them way past their trading life ... we should take a minute listen to their sort of 'Siren song'!

Charles W Morgan - Past Glory (Photo credit: Mystic Seaport)

© 2013 Basil M Karatzas & Karatzas Marine Advisors & Co.

Unless otherwise stated, images are provided by Karatzas Marine Advisors & Co. No part of this blog can be reproduced by any means or under any circumstances, in whole or in part, without proper attribution or the consent of the copyright and trademark holders.

In shipping, hope always springs eternal

Since late spring, freight rates especially in the dry bulk market have improved, and with them, the market mood for the industry has managed to find some much needed buoyancy, at least in the short term. There has been also the completion of the IPO for Ardmore Shipping (ticker: ASC) in the product tanker market, the first shipping IPO in the US markets since Scorpio Tankers (ticker: STNG) went public in March 2010, again in the product tanker market. So far, so good (as long as one ignores the existing product tanker orderbook and the additional orders that have been placed with the proceeds of this IPO.)

At least, in the product tanker market, freight rates have been respectable and have been above cash breakeven levels for most of the time in the last three years. What has been amazing though, it’s the rumor mill that Peter Georgiopoulos and General Maritime Corp. may be chasing a fleet of VLCC tankers, possibly the A.P. Møller Maersk VLCC fleet of about twenty supertankers. Maybe also the highflying Navios Group have their sights on these vessels or on another package of the same asset class, but there is at least an official denial by the company in this case. Møller has announced in the recent past that they are interested in divesting of assets and lines of business that do not fit their competitive advantage in the market place (read anything but containerships, terminals and their related businesses), so there might be some truth to the rumor that a quality, modern fleet of supertankers may be up for sale.  There has been some activity in the VLCC market recently, after a long permafrost season in this market. Recently, Sinochem purchased four VLCCs from the Clipper Group (all vessels were already on long-term charters to Sinochem), HOSCO divested of two very young VLCCs to European buyers and Mitsui OSK Lines have sold four VLCCs in the spring this year; with the exception of the MOSK Lines fleet that were slightly older than ten years of age, the rest of the tonnage sold so far has been younger than three years of age. Last time such a modern VLCC was sold was in January 2011 when Daewoo sold a (resale) VLCC with her contract in default at about $79 million to Sinokor; as a matter of comparison, HOSCO’s comparable tonnage (at least in age) were transacted at $54 million, a meaningful drop in pricing.

The Møller VLCC fleet is about four years old on average, and, individually priced, the vessels should fetch less than $50 million each (at least if recent transactions offer any type of guidance in an admittedly very illiquid market with known problems of ‘price discovery’); so this is a one-billion-dollar deal. Again, so far, so good; one billion dollars would get excited any self respecting investment banker, institutional investor, market consolidator, highflying maritime executive or any executive trying to find his way to the top (again).

As life would have it, today John Fredriksen’s flagship company Frontline (ticker: FRO) reported 2013 Q2 earnings.   This is a company that routinely posts the best performance in the VLCC market sector, and rightly considered the ‘bell cow’ of the segment. Their earnings report reflected just a very lousy and oversupplied market: while their estimated cash break even is $25,000 per diem, their Q2 earnings averaged just above $14,000 per diem. They also took an asset impairment charge of about $81 million. More importantly, the forward guidance has been bleak based on unfavorable market dynamics and an oversupplied market going forward. For starters, the USA is not anymore a great market for the VLCCs with the shale oil discoveries, and the Chinese prefer their own tonnage for the import needs. And, by the way, while the world VLCC fleet stands at 639 vessels (624 of them are double hull with more than one-third of the world fleet newer than four years old), there are still 57 vessels under contact to be built (just about 9% of the world fleet). Not a bright picture, any way one sees it.

Vessel prices have come down a long way; it was reported at the time that the Møller four VLCCs ordered in August 2008 at STX Shipbuilding had a contract price in excess of $140 million each, thus the $50 million estimated present price per vessel now looks like walking out of the Louvre with a boatload of Monet masterpieces in your backpack.  And possibly a van Gogh, too. But again, these vessels were making $14,000 per diem in 2013 Q2 with a top operator and their cash breakeven has been at (more than) $25,000 per diem. Just because asset prices have dropped precipitously, it doesn't mean that a buyer / investor at these levels still cannot lose money. But the fact that there are rumors and even appetite to talk about such projects in the present market environment, it’s at least entertaining. Probably the next step would be an IPO…

© 2013 Basil M Karatzas & Karatzas Marine Advisors & Co.

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What's in a number?

Shipping, being an international industry with many service providers necessary to ‘put on a show’, is rather an opaque business by standards long-established in many other industries. It’s not only the potential conflicts of interest and ‘self dealing’ that may be hidden under the cloud of opaqueness, but mainly the fact that many parties in the industry, and for many reasons, use same terminology but different definitions to communicate their message.

In the last decade when shipping was hot due to China’s stratospheric growth and comparable freight rate trajectory, many newcomers, especially institutional investors, started looking into shipping primarily through the public equity markets (think ‘shipping IPOs’.)  More recently, mostly private equity is also is taking a hard look at shipping and acquiring shipping assets. What we find amazing, to a certain extent, is the way information, especially quantitative information, is conveyed that may make certain companies or operators have an advantage or better performance, when in reality the main difference is that a different denominator is used in each case.

When more emphasis was on public equities a few years ago, there was confusion of what were  ‘vessel revenue days’ and ‘vessel operating days’, ‘off-hire’ and ‘utilization rate’, numbers that could affect the ‘Time Charter Equivalent’ (TCE) rate and show that some companies were generating more ‘alpha’ from the market. For instance, vessels have to be dry-docked every so often; a shipowner knowing that they have a dry-dock due coming up next year for a vessel, would they count those ten (approximately) dry-docking days as ‘revenue days’?  The vessel by law has to be dry-docked and those ten days are ‘lost days’ as far as revenue is concerned, no matter what; but some owners were starting their ‘revenue year’ with 365 days for the vessel while others with ten days fewer. Guess which owner has an advantage and why, as far as ‘performance’ is concerned.

More recently, with shipping in turmoil, and a dearth of newbuilding orders (temporarily, at least), shipbuilders had to offer something new, a compelling reason to entice new business in the middle of a deadstill market. How about efficiencies then, namely fuel efficiencies? With bunker prices high, fuel efficiency was a logical card to play. Now, we are not claiming to be naval architects and marine engineers, and also we do not claim that certain yards didn't work very hard to improve indeed vessel designs. On the other hand, we have seen designs with claims of 30% in fuel efficiency, something that would require a revolution rather than evolution in the science of naval architecture, something that regrettably didn't happen recently as far as we can tell. But again, some of these efficiencies were due to the fact smaller engines were used to propel the same vessel (definitely lower fuel consumption but at a trade off of under-powering the vessel and increasing the chance of an accident); other efficiencies were calculated at different drafts of the vessel than design draft, assuming certain conditions of trim that were placing limitations on the trade of the vessel, certain (favorable) weather conditions, etc.,  or the result was based on comparisons against patently outdated designs or poorly maintained vessels.  We understand that improvements in fuel efficiency are usually limited at the very best to less than 15% based against previous designs, ceteris paribus. We are not claiming that 15% in fuel savings is a negligible concern, but it’s quite different making an economic decision on whether a company should be undertaking multi-million dollar commitments for newbuildings based on baked information of 30% in fuel savings.

Now that passive investors such as private equity funds (passive at least in the form of vessel management) have been looking for third party vessel managers, vessels operators and pool managers, certain definitions have been stretched to the limit.  Under pool employment and third party vessel management for instance, the more of the vessel expenses and downtime the pool manager passes back to the vessel owner, the better the pool results, which not only means more profit for the pool manager, but mostly, better pool results to brag about that will be used in presentations to convince more owners to bring vessels under the pool. Repositioning a vessel? It may be an ‘owner’s item’, as far as some pool manager can tell. Ballasting a vessel to a loading port? Also, it could be an ‘owner’s item’. Loss of hire due to vetting and port state control inspections? Ditto.  Similarly for technical management, how much of spare parts have to be kept onboard the vessel? Is it an expense or an investment? How about the cost when a minor part is missing and the charterer places the vessel off-hire and refuses to pay freight for the downtime? How about the reputation and goodwill a vessel and her owner create with the chartering community by providing well equipped and maintained vessels? How about the higher demand and potentially higher price the vessel will obtain in the secondary market later on with the vessel coming for sale from a ‘good stable’, as the shipping lingo goes?

It’s the holy grail of business gurus, business schools and management experts  reaching for optimization; not to mention the genuine goal of many good companies and managers. And, no doubt, there will always be debated among bean-counters whether certain business cash ‘outflows’ are expenses or investments / capital improvements.  After all, that’s the ‘nature of the beast’.  On the other hand, there should be a certain amount of transparency on how certain numbers are achieved by the companies, the managers, the pool operators, etc But more importantly, parties receiving such information should look diligently ‘under the hood’ and demand a thorough explanation on how the numbers are defined. Just because one manager is ‘cheaper’ than another, or one pool is 'better performing' than another, etc is immaterial unless a common denominator can be established.  As they say, the devil is in the details, and sometimes such details can offer surprises.

© 2013 Basil M Karatzas & Karatzas Marine Advisors & Co.

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Private Equity and Shipping: Another Take

The prolonged trough of the shipping industry has drawn the attention of many newcomers to the industry, from distressed instrument investors to third-party vessel managers and operators.  It’s not only that all these newcomers (along with existing players) position themselves for a market recovery; a sea change has taking place in the shipping industry, from shifts in shipping finance to competition from more fuel efficient newbuilding designs to geo-political issues such as China’s support of domestic shipbuilders and their fostering of a local shipping industry that create business and investment opportunities.

Among the participants in the shipping world, traditional shipping finance, and namely the shipping banks, like a modern day Aeolos – the Greek god of winds - have the power, whether actively or passively, to shift the market at will. With an outstanding shipping loan portfolio of more than $500 billion at the top of the market, at present, shipping banks have been trying to find their balance while having one eye on the rear view mirror and their ‘legacy issues’ (shipping, but also sub-prime, real estate, sovereign bonds, etc) and the other eye on Basel III and the new capital requirements.

Institutional investors have been drawn to shipping partially because of the collapse of the asset prices and partially because the lack of debt had opened the doors for alternative sources of finance such as mezz financing, leasing, yield-driven equity, alpha-seeking private equity, etc

Recently, the private equity firm KKR announced the formation of the Maritime Finance Company with the funding of a few hundred million dollars for the purpose of primarily filling the gap left by the lack of capacity from the traditional shipping banks. The concept of institutional investors with private equity minded returns entering the debt financing market in shipping is not exactly unique. Based on our experience and dealing with small banks and seasoned shipping bankers, the concept has been around at least for the last two years and we are aware of institutional investors providing small funding to boutique shipping banks for origination of new loans for double-digit returns (returns on the equity investment, not necessarily double digit interest rates).  No doubt that such debt financing cannot be replicated on a massive scale given the cost of financing. On the other hand, it has been calculated, that for banks to fully comply with Basel III capital requirements, their spread on shipping loans will have to be more than 600 basis points. If one were to calculate the total cost of debt financing on a historical average of LIBOR, that numbers would not be much lower than 10%.

Probably in the near term of the next two years it will be difficult to deploy large amount of capital as debt financing for new projects while charging interest rates high enough to generate double digit returns.  After all, current undertakers of new projects in shipping usually have their financing in place and access to different and cost competitive forms of capital from many geographic markets (such as export credit, Norwegian bond markets, highest priority receiving debt financing from shipping banks to the extent possible, etc). On the other hand, there are still plenty of ‘legacy projects’ with banks and shipowners from the better days of the cycle, projects that are not completely doomed but definitely could utilize some restructuring and some capital injection, not exactly equity but neither debt, mostly around the ‘mezz’ section of the capital structure, that could deliver low double-digit returns with low risk while bypassing most of the ‘issues’ an institutional passive investors loves to hate in shipping.

© Basil M. Karatzas 2013 All Rights Reserved

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Between an Australian (Iron Ore) Rock and China’s Hard Place

China’s intended policy to ‘rebalance’ their economy with a greater focus on consumption rather than investment logically could have a negative impact on shipping, especially for large vessels that transport raw commodities to China such as capesize vessels. As more money is being spent domestically on consumer products and services, including either domestically procured or imported luxury goods, where there is more ‘value added quality’ than rudimentary processing of raw materials such as for real estate and infrastructure, big dry bulk vessels may be set for a tough few next years.  A recent article in the New York Times on the ‘credit crunch’ and curtailing some of the ‘shadow banking’ may be an early precursor of what is to be expected.

The price of iron ore, the commodity with the highest seaborne trading volume after crude oil, over the last decade has increased threefold, primarily due to China’s insatiable demand due to urbanization and infrastructure-building spree. Iron ore with 62% ferrous content delivered to Tanjin has been quoted presently at about $130 per ton, a 20% improvement since May alone, when China embarked on a buying spree of the commodity in order to primarily replenish inventories.

Mining companies have been planning a $250 billion investment in order to expand capacity; most of the investment is planned by the industry’s major (and most bankable / competent) players, like Rio Tinto Group (RIO), Vale SA and BHP Billiton Ltd. (BHP), which implies a high degree of diligent execution and delivering of the projects on time. Given the lackluster world economic growth and China’s decelerating economy, most analysts expect a glut in the iron ore supply with prices set for a decline to levels around $100 per ton, on average, over the several years; some analysts even expect that temporarily iron ore may dip well below the $100 / ton mark, meaning rather bearish prospects for the commodity. As a general rule of thumb, bear commodity markets imply bear shipping markets, correspondingly, since there is a very high degree of correlation.

Just to re-ascertain the point of a bear iron ore market may not be good for the capesize vessels, most of the investments and the planned investments for increasing iron ore capacity are taking place in West Australia. In a recent report produced by Goldman Sachs, seaborne supply of iron ore is expected to grow from an estimate of about 1,150 mtpa in 2013 to approximately 1,500 mtpa in 2017, for an overall 30% increase. However, during the same interval, seaborne iron ore supply from Australia is expected to by 44% while from Brazil by ‘only’ 30%. Nothing shabby with these growth rates – as long as you are not a mining company, but, really not a cause to pop a champagne bottle for a shipowner.

As anyone can quickly ascertain by taking a look at a world map, Australia is much closer to China than Brazil, and it takes three times more ships to transport the commodity from Brazil than from Australia to China. On August 16th, the Baltic Exchange in its daily report was posting the ‘C3 route’ Tubarao-Qingdao at $20.73/ton while the ‘C5 route’ W Australia-Qingdao at $9.01/ton.

While over the next five years seaborne iron ore supply is expected to grow by 30%, the supply of capesize vessels (about 180,000 dwt) and Very Large Ore Carriers (VLOCs) (>200,000dwt) is expected to grow by 13% in the next three years, based on firmed, confirmed orders by bankable players (and thus high certainty of actual delivery of the vessels). This again is the firm, known supply, and with the shipbuilders with plenty of spare capacity and desperate need of new orders, it could easily be revised upwards. Not to mention that if iron ore gets cheaper, so it will be the case with newbuilding vessels, which could lead to another round of increased newbuilding frenzy. And, this, at a time when capesize vessels have been averaging $9,000 pd in the freight market, barely sufficient to cover their daily operating expenses (the less said the better on their financial cost, since some such vessels were bought for more than $100 million, and an ‘average’ term amortizing mortgage would presume more than $25,000 pd payment).

It has been said that you never appreciate a friend or ally until you are really in need. China in the last decade has been the cause of ‘irrational exuberance’ in shipping and its excesses thereof, and many other industries of course, such as the mining industry and their ‘commodities super-cycle’. Now that China seems to be slowing down, still to levels that many developed countries only would dream of, the ‘decoupling’ for many industries seems to be messier than expected. But again, China is full of surprises and broken projections …

© Basil M. Karatzas 2013 All Rights Reserved

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Shipping’s Great Rebalancing Act

The shipping supercycle of the last decade was riding on the coattails of the commodities supercycle and China’s incorrigible demand for raw materials due to its investment boom. Primarily minerals like iron ore and coal (with the dry bulk market as a beneficiary) and crude oil (with the crude tanker market as a beneficiary) experienced very strong growth based on China’s strong demand, with a brief case in point of the following graph depicting Chinese iron ore imports increasing from about 70 million tons in 2000 to about 745 million tons in 2012, for an approximate CAGR of 20%.  So far, so great!

China’s growth of an average 15% annually during the last decade was primarily credit driven, and such credit expansion has now reached dimensions ‘forcing’ the hand of the Chinese central government. Total debt now stands at $17 trillion, or 210% of the GDP, although admittedly, China’s external debt is only 7.2% of the GDP. Recently, Fitch Ratings estimated that ‘wealth products’ of $2 trillion in‘shadow lending’ are effectively a ‘hidden second balance sheet’ for the Chinese banks. Still scarier, this $2 trillion ‘shadow balance sheet’ is financed on short-term, rolling basis of three-to-six months at a time. (We all remember the ‘repo market’ and its contribution to the financial meltdown.)

The heavily construction-driven Chinese growth has resulted in many excesses in the economy (and in many other aspects of life and society, including politics.) Focusing on the economy here, residential construction represents 20% of the Chinese GDP, according to a recent presentation by James Chanos of Kynikos Associates, one of the few successful short strategy hedge funds. By comparison, at the height of the US real estate bubble, residential construction represented about 6% of the US GDP.  Even scarier, in 1989, at the height of Tokyo’s real estate bubble, real estate was valued at 375% of GDP, while in 2007 in the US, real estate was valued at 180% of GDP; by comparison, today’s price of real estate in China stands at more than 400% of GDP.

As China, at present, tries to contain a potentially ‘banking bubble’ and rebalance its economy away from investment and toward retail consumption, the impact on the rest of the world can be tangible. As Paul Krugman discussed recently in an article in theNew York Times recently, China’s reaching the ‘Lewis point’ when additional capital on investment starts to generate diminishing returns (underemployed ‘surplus labor’ from the country side has only marginal contribution to the overall economic output, as new industries cannot efficiently depend on cheap, untrained peasant labor drawn from the mainland), it will have to focus on domestic consumption.  Focus on internal consumption will translate to a need for lower imports of raw materials, and as China – the largest world importer and consumer of commodities – curtails its imports, the impact on shipping, especially on the asset classes most dependable on the ‘China play’ like capesize bulkers and VLCC tankers will be tangible.

Of course, China has made a name of itself surprising the world in the last decade, mostly positively, and many Cassandras so far have been proved wrong.  Regrettably, even when excluding a catastrophic scenario of ‘bubble bursting’ and focus on the likely scenario of ‘soft landing’ with a manageable rebalance of the Chinese economy and tapering off of raw material imports, the prospects for certain types of shipping do not seem so great; there are still 80 VLCCs on order to be delivered (with the world fleet standing at about 650 vessels) and 180 VLOCs/Capesize vessels (with the world fleet standing at about 1,400 vessels.)

© BasilM. Karatzas 2013 All Rights Reserved 

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The Winds that Crested a Newbuilding Wave in the Middle of a Shipping Cycle Trough

It has been said that if you are in the shipping business, you have to be an optimist by nature. And, optimism with the boatload we have been having over the last few years despite a few bad days here and there …

In a chart in a previous posting, we noted that newbuilding orders placed so far in 2013 are already more than the orders placed in the whole calendar 2012. A proxy index for the market (BDI) in the same graph indicates that we are not faring much better in terms of freight level since last year. So, why the excitement?

The recent newbuilding wave cannot be attributed to any factor alone; however, ever since post-Lehman collapse, many factors have been simmering and eventually are finding an escape valve in the newbuilding market.

For starters, after the collapse, every shipowner and institutional investor worth their salt, they have been salivating about ‘cheap ships’, ‘distressed sales’ and the great number of vessels the bankers would be auctioning on an industrial scale. By now everyone knows that that ‘dream boat’ of business never came to port. The banks held onto the assets, and the ‘cheap ships’ that were sold were few and between, especially if one focuses on good quality, market competitive tonnage.

And, the shipbuilders, who quite a few of them were picking off the shelf designs and started experimenting on a commercial basis (aka ‘greenfield yards’) during the bubble, thought that if they were to manage to convince anyone to sign a new contract in a bad market, they better had to come up with improved designs. We heard of 30% efficiencies, etc, but once all is said and done, all else being equal, on average ‘eco designs’ are about 10% more fuel efficient than ‘average’ vessels. Still, 10% in savings in fuel for a small handysize bulker burning about twenty tons per diem, the savings are about $1,500 pd (nothing to sneeze at when freight rates are below $10,000 pd), savings that nominally add up to $14 million over the vessel’s life (nominally about 60% of a newbuilding’s price). Just imagine what that 10% in fuel savings means for a big vessel that consumers five times as much bunkers as our Lilliputian ‘handy’.

And, the shipbuilders didn’t stop at the ‘eco design’. The sweetened the terms for newbuilding contracts with back-loaded payment structures (30% on signature and 70% on delivery, instead of a more gradual and traditional ‘progress payment’ structure of 5×20% at meeting certain construction milestones.) And, why not, they even got their perspective governments to provide export credit to their qualified buyers, and, in other instances, managed to pocket a few subsidies for themselves as well. After all, they were creating jobs, and helping keep the market oversupplied with vessels (not a goal to be ignored to countries like China).

And then, there were the central bankers worldwide priming the system at levels unforeseen in history, probably for good reasons given the financial scare ensuing the Lehman collapse, keeping interest rates at very low levels; and, more importantly, promising to be doing so for the foreseeable future and ‘at any cost’, using emphatic language to ensure that all got their point crystal and clear. Low interest rates reflectively also mean that the ‘opportunity cost’ for the cash rich buyer is small enough to be ignored, which makes the prospect of a newbuilding even more enticing.

And, while in previous downcycles the market was dominated by strategic players like the shipowners, the cargo owners and the shipping banks, this time things are indeed different. Quite a few of entrants to the market, and some of these new entrants to the market are with deep pockets that could make even rich private shipowners look like paupers, are institutional investors and private equity funds that have raised or have access to multi-billion dollar pockets of money.

So, there is a market when vessels in the secondary market should be cheap but no there is no activity on grand scale, when the market index is less than 10% of its peak (see graph) implying both that sooner or later has to improve and also that till then the ‘revenue forfeited’ will be smal , when the payment structure for newbuildings is favorable and the financing cost low, when the Siren Song of the ‘eco designs’ promises that fuel efficient vessels will crowd out their older siblings even in an oversupplied market when vessels will be idling, and, finally, when in two years we will be reaching the average shipping cycle length (two years is just about the time to get a new order materialize in the form of a new vessel), one can only start appreciating the newfound excitement for newbuildings!

© Basil M. Karatzas 2013 All Rights Reserved  

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Are Shipowners Their Worst Enemies?

A shipowner dies and shows up at the Pearly Gates where St. Peter is holding guard. Upon the new arrival, St. Peter, taking a quick look at his notes, apologetically whispers in the shipowner’s ear: “Son, I see that you led an exemplary life down on Earth; unfortunately, we have reached our quota of shipowners in Heaven, and I am deeply sorry that I will have to send you to Hell.”  The shipowner, maintaining the ‘cool’ and nonchalant attitude behooving a seasoned trader, looks St. Peter straight in the eye, and asks whether he could be allowed in Heaven, even momentarily, just to ‘check in the place’. St. Peter, taking another look at his notes and seeing the record of a blameless life, is just too happy to give his consent.  The shipowner enters Heaven, walks around for a few minutes, sees a few old friends and acquaintances, and then he decides to scream at the top of his lungs: “Cheap ships in Hell!” Immediately, a stampede of shipowners are exiting from the Pearly Gates heading straight to Hell, with our shipowner friend trying to catch up with the crowd.  St. Peter, manages to grab him from the arm and shoving him into a quiet corner, thrilled to tell him: “Son, it seems that now we will be able to accommodate you in Heaven, after all! You will never believe how happy I am for being able to let such a great soul enter Heaven for eternity!” The shipowner, a bit puzzled, casting a quick side-look at St. Peter, barely manages to burl out before he runs away: ‘Thank you very much, Father, but I’ve to rush to Hell! This rumor about cheap ships over there might be true, after all!”

As trivial and silly this joke may sound, there is an inherent truth to it: shipowners may be their worst enemies. Shipping is a poorly predictable industry that often requires on the spot decisions and ‘feel’ for the market. There are many variables to be incorporated into a model (once, a friend working at a research department of a major firm mentioned that there are more than 2,000 variables to be considered into a shipping model), and given the time-lapse for supply to catch up with demand (it takes about nine months to physically build a vessel, several years if there is an orderbook backlog), there have been constantly dislocations within shipping, just as a stand-alone industry. When there are amplifying factors like political events or crises in other industries (i.e. banking), the phases of the cycle can be completely out of sync.

Based on data compiled by Karatzas Marine Advisors & Co., a Manhattan-based shipping finance and ship brokerage firm, the following graph clearly shows that when times are good, shipowners order a lot of vessels, and when times are bad, shipowners still order vessels; fewer vessels, but still, plenty of them. The graph incorporates orders for dry bulk, containership and tanker vessels, and the Baltic Dry Index (BDI) is (very) liberally utilized as a proxy for the whole shipping market.

Given that shipping is a very capital intense business with a very high degree of volatility (for instance, the BDI almost topped out at 12,000 points in 2008 but the arithmetic average for that year was approximately 6,500 since the low of the year bottomed at 670 – and stands at about 1,000 at present), one might have expected a more counter-cyclical approach to contracting newbuildings; more orders in a bad market, fewer order in a great market. [Please click here for daily BDI chart from previous post of this blog, for a more representative view of daily volatility].

Year-to-date in 2013, there have been about 600 newbuilding orders; the same number of vessels was ordered in the WHOLE calendar 2012. So far, the arithmetic average for the BDI in 2013 y-t-d stands slightly below 2012’s average of 920.  Clearly, 2013 has been an aggressive year for newbuildings, all things considered, especially for dry bulk tonnage. Freight remains weak overall, barely above cash break-even in most sectors, but orders keep piling up!

Where’s the way to Hell? 

© 2013 Basil M. Karatzas All Rights Reserved

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