I have now written a number of bullish pieces on the shipping sector (article 1, article 2, article 3). My previous articles speculated that a confluence of factors would mark a bottom and lead to a rather impressive recovery in the sector. Those articles were all theoretical, speculating on a recover. Now, we’re finally starting to see dramatically increased charter rates. At the same time, while some stocks are up a bit off their lows, concern over the global economy and trade wars have served to cap upside. This gives investors one of the great long opportunities of the past few years. If you thought the crypto bubble was insane, you haven’t seen a proper bull market in shipping. The best part, is that almost the whole sector trades at a discount to NAV at a time when NAV itself is depressed. Hence, I’m not risking much if I’m wrong.
If I told you last year that Trump would initiate a trade war with China, you would have likely expected the spot charter rate for a container vessel from China to Long Beach California to decrease. What if I told you that rates are actually at 7-year highs? I like to throw this fact out because it shows how wrong conventional wisdom can sometimes be when applied to finance. When you can find a moment where conventional wisdom intersects with factual data and the two disagree, you usually find a mis-pricing in the equity markets. When conventional wisdom eventually catches up, you have the opportunity for huge percentage gains—particularly when you’re dealing with a security that has massive operational leverage, on top of financial leverage—especially when the fundamental story keeps getting better.
All bull markets in cyclical sectors start with long periods of investor losses, disgust with the sector and lack of capital for companies to add new supply. The 11-year shipping bear market from 2008 to 2019 has all the hallmarks of a typical cyclical bottom—complete with a wave of bankruptcies and massively dilutive capital raises over the past 5 years. Banks took epic losses and stopped lending capital for growth while ship-yards closed up or consolidated. Even if the industry wanted to resume rapid growth, there’s no one willing to fund vessels and newbuild prices are much higher following a massive wave of consolidation. Besides, most yards are booked solid with scrubber installations right now.
If you re-read some of my pieces from the winter, my main thesis was that IMO 2020 was a gating function that would necessitate that older tonnage get scrapped. Meanwhile, newer vessels would have scrubbers installed and have an insurmountable cost advantage. Putting this in perspective, depending on the spread between high sulfur (HSFO) and low sulfur fuels (LSFO) and transit speed, a capsize bulker with a scrubber could easily have a $10,000 daily cost advantage compared to a 20-year old burning LSFO. When you realize that spot charter rates were as low as $5,000 a few months ago and you see that the older vessel is no longer in the ballgame anymore—hell, it isn’t even playing the same sport. What I didn’t predict was the bottlenecks at the shipyards related to scrubber installation.
As a cyclical market starts to recover, supply and demand tend to roughly balance—then there’s usually an unanticipated catalyst that takes a tight market and pushes it into a bull market. Depending on which shipping company is lying to you, they expected scrubber installations to take 20 to 30 days. We’re now looking at 40 to 60 days in reality. When does anything ever go on schedule with a new technology? What’s really blown out charter rates was the fact that scrubber installations were supposed to be happening on a set timeline. Suddenly, vessels are cueing and waiting days or even weeks before the shipyards get to them. Supply is leaving the market at a time when demand is inflecting positively.
We’re not just seeing rates recover in containers. The Baltic Dry Index (dry bulk) just hit a 5-year high. Very Large Gas Carriers (VLGC) just hit a 4-year high (after hovering around $10,000 a day, they got as high as $70,000 a few weeks ago). VLCC rates just quadrupled from the lows earlier this year and late summer is seasonally VLCC’s weakest period. Most important for me, LR rates also doubled in the past two weeks, following an extended lull while refiners were offline preparing for the new LSFO mandates. Rates are now roughly twice what they were this time last year. I’ve mentioned a few times on this site that Scorpio Tankers (STNG – USA) is my largest position. I took some off the table in the 26 to 30 area after it seemed to overshoot in the short term. I added it all back along with call options last week. This is game time for product tankers. I’m pushing my position limits here!!
IMO 2020 will be wildly bullish for shipping. Maybe even better than the switch from single-hull to double-hull crude tankers at a time when Chinese commodity demand exploded higher. I remember that one well because I owned companies like Frontline (FRO – USA) where my annual dividend was more than I paid for the stock 3 years earlier. It was a remarkable 50-bagger in 3 years. Shipping bull markets are explosive. It’s great to talk in the theoretical, but suddenly it’s actually happening to rates—yet no one seems to care. I care. Where else can you buy a collection of companies at 1 to 3 times current cash flow, 40-75% of NAV and an expectation that things get remarkably better from here?
I have spoken a bit about “long-shorts” in the past. I want to own companies that do well when the global economy does badly. I see shipping in a similar way. If you think global trade wars are going to abate—you’re wrong. The US started a cycle that will only accelerate global balkanization. Remember, geopolitical volatility is the most wildly bullish thing that can possibly happen to shipping as it disrupts existing trade routes and adds to overall global ton-miles. Shipping is the ultimate “long-short” when it comes to geopolitical volatility. It’s like owning the 2x leveraged VIX ETN (TVIX – USA) but you get to buy in at half of NAV while getting a positive forward roll as a bonus.
For that matter, democratically elected governments have proven that they’re not going to let their economies roll over without first giving it all they have to prop things up. What’s the easiest way to prop up the economy in the short term? Massive infrastructure programs, money printing, protectionist trade policies. What will that do to demand for basic commodities and shipping? What about inflation of new-build prices? I feel like we’re going to witness a new shipping super-cycle, especially as resource poor India replaces China in terms of commodity demand growth.
Want to know how I know I’m right here? Remember those scumbag CEOs who manage the publicly traded shipping fleets? They’re infamous for screwing shareholders. Want to know how they’re screwing public shareholders today? They’re buying back stock at half of NAV. They’re personally buying shares themselves. I’ve followed this sector for 20 years. The only time I’ve seen buybacks on this scale was in 2002 to 2004, leading up to the most epic shipping bull market of my lifetime.
If you’re not at least looking at this sector, you’re missing the most hated, most under-followed, most uninformed, most obvious bull market out there. Everything has lined up for one of the greatest trades of all time.
Shipping is by far my largest sector weighting. I foresee a lot of multi-baggers in the next few years. Then again, Caveat Emptor—it’s still shipping.
The last few times I wrote about shipping, I got dozens of emails on the topic. I’m happy to respond, but please educate yourself first. My buddy, J. Mintzmyer runs an outstanding research service dedicated to shipping. Click here to learn more. I VERY highly recommend paying up for the full version of his research product.
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Disclosure: Funds that I control are long shares and call options in STNG along with other publicly traded shipping equities.