Credit is due to Shipping Finance

The freight market has been disappointing recently, for dry bulk, tankers and containerships, while asset prices too have been on a softening trend, especially for tankers. As one would expect, traditionally the freight market gets most of the attention in shipping, for signs of strength with the hope that asset prices would be lifted too; however, we are of the opinion that shipping finance may be the key for successfully navigating the shipping markets going forward.

Having traveled extensively recently and having closed several S&P and structured, financial transactions, we can only be more convinced by the day that shipping finance is where the real battlefield lays for shipping nowadays. Access to finance, whether based on own funds or access to financing from third parties, is what sets shipowners apart in terms of survival and growth.

Shipping banks are done with traditional shipping and first preferred ship mortgages. Yes, we have seen a couple of occasions where European banks are still lending at 300 bps spread over Libor, but they are so selective and have such a limited capacity that effectively such lending activity only confirms the fact that shipping banks are not active for most practical purposes. Thus, cheap debt financing is no more.

Shipping credit funds have made lots of noise in the last year, and we estimate that they have deployed close to a billion dollars in the last eighteen months; still, they are too afar from financing the average shipowners, notwithstanding the temptation in this desperate market for debt financing. Credit funds typically look for 8% minimum yield before any fees, equity kickers and other incentives, which limits their applicability to only second hand vessels that are priced at a multiple of the collateral’s scrap value; financing the acquisition of a resale capesize vessel with excess $30 mil acquisition price and paying 8% yield, one may as well try their luck in Las Vegas and try to have a good time while they are at it. Thus, credit funds can have parodical application.

Private equity funds having made ill-timed “bets” in 2011-2014 in shipping (and we consciously use the term “bets”), now they stand licking their wounds and trying to devise ways to cut their losses short. Never mind grandiose plans for IPOs, market consolidation and bringing turn-around expertise and making a commitment to the industry; we have been the busiest we have seen with advisory, market intelligence, valuation, industry expertise services for disputes, arbitration and litigation between shipowners and financial investors. So much for hopes that private equity could feel the funding gap left in the wake of shipping banks leaving the industry.

True, there are still shipowners with deep pockets who have kept buying vessels well into 2017, despite the asset price bounce compared to all time lows in 2016 for the dry bulk market; however, there are few shipowners that indeed still have deep pockets. German owners may feel sick that they lose ships to other markets and especially to the Greek market, and this can be true to an extent, but on the other hand, few shipowners have been buying and can keep buying on a sustainable basis; most shipowners with ‘seed money’ are almost maxed out and looking for third-party money if they were to keep buying.

Shipping finance is really the battleground for modern shipping these days, the industry’s ‘soft underbelly’. While one can keep projecting on tonnage demand growth and developing trade patterns, shipping finance will be the field that will make or break shipowners. Shipping finance is getting to be ever more challenging and there is no realistically any reason that the picture will get brighter in the future. Yes, for few publicly listed shipping companies with critical mass, real business plans and solid corporate governance, capital markets can still be the way to go. But for most of the independent shipowners and several of the penny-stock listed shipping companies, shipping finance would be the critical link in their survival and / or success.

Based on reports from a recent shipping conference in New York – which purposefully we did not attend, we have seen that “M&A” and “consolidation” were the buzzwords of the day. But again, in a market that is as dead in activity as a coffin floating after the sinking of the „Pequod” in Moby Dick, whether for IPOs, etc (even a SPAC sponsored by the blue blood Saverys’ shipping family has failed) or follow-ons, hopes for “M&A” and “consolidation” have to do. And, statements that shipping and commercial banks ought to be considering shipping again, given that the industry is “low volatility”, humored us for reminding us the proposed “Hamburg Formula” for vessel valuations  of almost ten years ago where the shipping industry was suggested to be an industry of low volatility and risk and the suggested cost of capital was a whole of 50 basis points over the T-bill, then.

Solving the shipping finance riddle is really a critical point for most of the shipowners to address going forward, the direction of the freight and asset pricing markets.


This article first appeared on Splash 24/7 on June 23rd, 2017, under the title “Credit is due to Shipping Finance”.


Manhattan, New York City: An ever more critical place for shipping finance. Image credit: Karatzas Images

© 2013 – present Basil M Karatzas & Karatzas Marine Advisors & Co.  All Rights Reserved.

IMPORTANT DISCLAIMER:  Access to this blog signifies the reader’s irrevocable acceptance of this disclaimer. No part of this blog can be reproduced by any means and under any circumstances, whatsoever, in whole or in part, without proper attribution or the consent of the copyright and trademark holders of this website. Whilst every effort has been made to ensure that information here within has been received from sources believed to be reliable and such information is believed to be accurate at the time of publishing, no warranties or assurances whatsoever are made in reference to accuracy or completeness of said information, and no liability whatsoever will be accepted for taking or failing to take any action upon any information contained in any part of this website.  Thank you for the consideration.

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Shipping industry’s “Neither a borrower nor a lender be”

2016 for the most part has been a difficult year for every sector in the shipping industry: weak rates for dry bulk, containerships, offshore and even tanker vessels exacerbated the financial distress for many owners and their lenders. Recently however the market has shown signs of hope, here and there, with freight rate and asset price improvements, but in general, the greatest hope of all has been that the worst days in shipping, likely, are behind us.

Great name for a bank by the water, but regrettably no shipping loans offered. Image credit: Karatzas Images

One driver in shipping that has not shown any signs of promise are shipping banks in terms of expanding their book in the industry. The market collapse since 2008 has been especially hard for the shipping banks which first saw their clients (shipowners) facing a weak freight market and rendering them unable to sustain the original ship mortgage payments, and then, a precipitous decline in the value of the assets (ships pledged as collateral for the ship mortgages) killed any motivation to keep making payment on underwater assets. Most shipping banks are in an expressed course of departing from shipping and actively have been selling their existing shipping loans for the last several years. The news of certain shipping banks turning their backs to the industry is challenging, but the more disheartening prospect has been that shipping banks still dedicated to shipping have not been able to adapt their models for the current market developments; probably because of the fact that they have to act within strict regulatory and auditing guidelines, shipping banks still active in shipping have been maintaining an almost religious focus on a handful of clients who seem to ‘check all the boxes’, while the vast majority of the market remains un-serviced.

As we had mentioned in the past, the funding gap left in the wake of shipping banks has provided opportunities for institutional investors to enter the ship lending market. Whether these funds are categorized as credit funds or lending funds or alternative capital funds or even disguised as leasing funds on occasion, effectively they are providing capital to the industry in the form of debt, as supposed to equity, and effectively in a sense are substituting for the role of a bank as a lender. On the surface of it, shipping is a capital intensive industry and someone, sooner or later, would had to step in to fill the gap left by the banks.

Credit funds, being institutional investors, have by default higher cost of capital than the funding cost of a bank (read customer deposits), and therefore one would expect that obtaining debt from a fund would have to be at a higher cost. And, indeed, debt financing from a fund typically starts in the low double-digits, all in, even for relatively conservative projects. In a sense, it’s unfortunate that credit funds cannot adjust downwards (below their threshold) the cost of debt of a project depending on risk, since their investors (LPs) have been assured of a certain minimum return, typically in the high single digits after expenses and fees. As expensive the cost of debt financing from credit funds as it may sound, one has to compare it not to what shipowners were accustomed to (and possibly spoiled by indulging shipping banks) a few years ago of a couple of hundred basis points (bps) above Libor (L), but to the real risk of the industry overall and the intricacies of the transaction in particular. If risk can accurately be described by variance and volatility, what risk a rational investor would assign to the dry bulk market when the BDI has varied between almost 13,000 and 300 points in a decade, or when the BDI has varied between 300 and 1,300 points in timeframe shorter of a calendar year?

In need of capital… ‘Ships in a Harbor’, ca 1873, Oil on canvas, Claude Monet; Denman Waldo Ross Collection (1906); Boston Museum of Fine Arts. Image credit: Karatzas Images

As expensive the cost of debt from a credit fund as it may sound, it’s still a relatively low return given that institutional investors typically aim at returns in excess of 20% by taking (mostly market) risk. In a sense, it begs the question why institutional investors would bother with debt investments in shipping. Probably, there are several answers to that: many private equity funds entered shipping aggressively in the last few years and their equity investments have shown a misunderstood industry and its risks; debt investments, on the other hand, either by the same institutional investors or funds who were browsing the industry, is a more measured undertaking of risk, in an industry notoriously volatile. Further, the state of the shipping industry has been so bad that shipowners these days casually consent to high debt financing given the alternative, or lack thereof. Thus, market conditions have pushed shipowners to modify their financing cost expectations and move from bank-related debt financing and closer to fund-related debt financing. And, last but not least, let’s not forget that we are living in an usually low interest rate environment where investors are starved for yield and returns from credit investments in shipping can be acceptable given the interest rate environment.

Depending on how one counts this, more than $5 billion have been committed to credit funds and platforms by institutional investors in the last three years. The mandate of some of these platforms includes investments in shipping loans in the secondary market (not just originations); and, discouragingly enough, some of these credit funds are not completely realistic in their expectations, so we hold doubts on whether their capital can be deployed (still, we cannot get over a really nice ad in the Financial Times a few years ago for a fund having just raised $1 billion to invest in distress, including shipping; they managed to deploy exactly zero dollars in the shipping industry so far, and their in-house shipping guru departed for balmier seas). And coincidentally, $5 billion is still a minuscule amount of money for the debt needs of the shipping industry given that the market of shipping loans stood at more than $700 billion at the top of the market a few years ago. Credit funds will not be able to fill the gap left behind by the banks, but again, that’s not their main mandate or concern.

Can credit funds be considered a strategic partner to the shipping industry? Probably a hard question to answer given that credit funds are still driven by institutional investors who are industry agnostic and tend to gravitate to industries / sectors / geographies in distress, and will not be able to accommodate shipping over the long term. But, for time being and for as long as credit funds are active in shipping, their relatively high cost of capital and their more conservative approach (than equity funds of recent or shipping banks of the last decade), one can be assured that shipping asset prices or newbuilding ordering will not get out of hand, as it has happened twice in the past decade. Credit funds may not be suitable for establishing ‘ceilings’ in the shipping industry but mostly to provide ‘floors’ and holding the market from dropping lower.


© 2013 – present Basil M Karatzas & Karatzas Marine Advisors & Co.  All Rights Reserved.

IMPORTANT DISCLAIMER:  Access to this blog signifies the reader’s irrevocable acceptance of this disclaimer. No part of this blog can be reproduced by any means and under any circumstances, whatsoever, in whole or in part, without proper attribution or the consent of the copyright and trademark holders of this website. Whilst every effort has been made to ensure that information here within has been received from sources believed to be reliable and such information is believed to be accurate at the time of publishing, no warranties or assurances whatsoever are made in reference to accuracy or completeness of said information, and no liability whatsoever will be accepted for taking or failing to take any action upon any information contained in any part of this website.  Thank you for the consideration.