Though the shipping market appears to be getting back on track after tough times, challenges remain for the world of shipping finance
A decade after the crisis in the shipping industry started, it seems that the market now is slowly moving to a favourable equilibrium, with the worst behind us. Freight rates have stabilised and hover in positive territory, while the outstanding orderbook is low-to-manageable in most asset classes in shipping. With the hope that there will be no rushed stampedes in any direction, the next few years look, at the very least, stable for an industry still in pain.
While supply and demand for ships slowly seems to have found its natural path, there is still a major concern in respect to shipping finance. In short, there is a notable dearth of financing available for this capital-intensive industry, and, to the extent that capital is available, the cost of obtaining it has moved to significantly-high levels, as compared to the financing-costs of the last decade and also in respect to what a still-weak industry can afford.
For starters, private equity funds and institutional investors have effectively lost any interest in shipping. Many of these funds were “sucked” into investing in newbuildings in 2013 in the hope of a pre-mature market recovery and they ended up losing billions of dollars. Not only was the timing wrong, but many mistakes were made in terms of operations, strategy, execution and sharing risk. At this stage, there is minimal interest in investment in shipping, unless there is a special “angle” to it, preferably involving cargo-movement. And equity investors in the public markets, where the best of the shipping companies are listed, still do not see a “catalyst” in order to invest.
The other major leg of the shipping financing-stool — that is, shipping banks — also stands anaemic and unable to support the industry. Several major shipping banks have already stopped lending in the shipping industry (i.e. RBS, Lloyds TSB, etc.), while a great deal more shipping banks have limited their activities to a handful of clients. Despite the low-interest-rate-environment in the last few years, shipping banks could not live with the risk embedded in the shipping industry and preferred to have huge cash reserves rather than lend in a risky shipping industry. Additionally, the regulatory environment has not really been helpful to shipping banks, as ship mortgages are asset-backed loans (as compared to corporate loans), and thus costly for the bank in terms of capital they have to keep in reserve. Accordingly, for most of the shipping banks and the average shipowner, only a handful of lending takes place.
Shipping finance is the “bottleneck” at present in shipping as it’s a dislocation in the market
On the other hand, for a few big shipowners who have critical mass and have been proactive enough to build their balance sheet to be attractive to the banks, they have been taking the lion’s share of the shipping loans available. In short, in a rather-subdued shipping-lending market, a handful of big shipowners are getting for themselves the crashing majority of the liquidity available — and that at extremely competitive terms (i.e. L+200 basis points or even less) — while the vast majority of shipowners remain undesired by the banks. It’s clear that the trend is towards a market where “the big get bigger” and the smaller owners have to fend for themselves.
And how to get financing in a market that has little respect for the smaller shipowners?
Several credit funds and alternative capital funds have been set in the US and the UK that aim at filling the funding gap in the shipping industry. At a price. Several of these funds lend (or provide leasing) at 8% interest or more, whether expressed in absolute numbers or in terms of spread over Libor. In quantitative terms, for every $10m borrowed, just the daily interest payment alone is $2,300, and this is on top of operating expenses and amortisation of the loan. There is great demand for such financing, given the lack of alternative options, and indeed, it’s high-cost financing. There are already a few shipowners who are buckling under such a usurious debt burden and already sweating to save their vessels from arrest. Such is the state of the market.
Of course, there is still Japanese and Chinese leasing, and to a certain extent, the Norwegian bond market — all of which have been rather active, and at rather competitive terms and cost of capital (ranging from 4% to 8%). But again, these venues for shipping finance are available only to shipowners who have certain critical mass (at least twenty vessels, etc.) and a viable business plan to support.
Shipping finance is the “bottleneck” at present in shipping as it’s a dislocation in the market. On the bright side of things, lack of shipping finance has been one of the reasons that the outstanding orderbook has been coming down, leading to a more-balanced market. And lack of cheap shipping finance has taken lots of speculation out of the market. No one can be displeased with these “side-effects” — unless, of course, one is a shipbuilder or a speculator betting that ships’ prices will strongly appreciate.
Looking forward, shipping finance is likely to be the new battleground of the shipping industry. Shipping is a capital-intensive industry, and having a competitively-financed fleet will always be a differentiating factor for successful shipowners. We deem credit funds and alternative capital to only be a very opportunistic source of financing in the short-term next few years, and never really a strategic, long-term partner to the industry. Attempting to buy ships and build a fleet with 8% or more cost of debt at the prevailing terms is an accident waiting to happen (we are not necessarily arguing that a risky industry such as shipping is entitled to much-cheaper debt-financing, but now the cost and prevailing terms is a compact with the devil, in our opinion).
One thing is clear: shipping finance is a sieve separating the chaff from the wheat. Shipowning seems to be moving to an “institutionalised” state where big shipowners will get to access competitively-priced capital and grow while smaller shipowners will have strategic decisions to make. It does not seem that shipping finance is a transient problem for one to wait out. Active planning and a solid strategy is required for one to succeed, working with the right partners and advisors.
Basil M Karatzas is the founder and chief executive of Karatzas Marine Advisors & Co, a ship-brokerage and shipping finance firm based in Manhattan, New York. Karatzas Marine Advisors is a member of The Baltic Exchange. For more info, please visit www.karatzas.com.