Investing in Shipping Stocks: 'Maximum Pessimism' Is Here

The immortal words of John Templeton "invest at the point of maximum pessimism" guide us when we are looking for value globally. We know a number of "conventional" fund managers and recently posed the question to them regarding whether or not they would include shipping stocks in their portfolios. Their response was a resounding no. That got us thinking that, based on this response alone, significant value probably lay with shipping stocks.

As far as fundamental valuations go, shipping stocks are up there with the most unwanted stocks in world stock markets. The median P/B ratio of shipping companies listed in the US is a mere 0.785. You may want to check out this valuation screen at FINVIZ.com. This is more or less the cheapest P/B valuations that shipping stocks have traded at since the 1970s (sorry, our data does not go back prior to 1970).

Okay, the P/B ratio is a rather simplistic way of looking at the valuation of stocks, but shipping companies are rather different animals than many other stocks. Shipping companies have "hard" or physically "observable" assets unlike many other companies (it is much easier to value a hulk of steel floating on the water than it is a brand name, a housing loan, an ore body, or a building etc).

Contrary to popular belief, if you were to have invested in a collection of shipping stocks six months ago (more or less at the height of the credit crisis) you would have been at least no worse off than if you had invested in the US stock market itself.

Yet since mid-January there has been a proliferation of commentary on how global trade continues to deteriorate and sentiment towards shipping stocks has continued to deteriorate:

While we may be a few months off calling the relative bottom in shipping stocks, we believe that if shipping stocks have not underperformed the market over the medium term (over the last 9 months shipping stocks have performed exactly in line with the Vanguard Total Market Index) then they are highly unlikely to underperform over the next 18 months. The chart below suggests a significant relative bottom has already been hammered out over the last 9 months:

We are probably going to be lambasted for being bulls on shipping stocks, and yes we may well be wrong over the coming weeks. But we are willing to be wrong before we are right. When the outlook for shipping companies improves, their stock prices would already have increased dramatically.

We doubt that the outlook for shipping companies can get much worse and are confident that this is more or less the point of maximum pessimism for shipping companies, at least in modern times.

Disclosure: Long SEA

Comments

[doubleguns:]

Stopped out of DSX months ago $7.50 to $15.00. I look forward to another run at it.

Jul 15 10:11 AM

[Augustus:]

This group will not have bottomed until there is a real bankruptcy. Global trade is still declining. Ships are still floating and waiting for cargos at very marginal prices.

Jul 16 04:29 AM

[Dave Dorgan:]

I would add that a 4.77% yield on SEA right now is not bad either.

Jul 16 08:59 AM

[Alphameister:]

The stocks are likely to be well into a bull move before global trade bottoms. I'm not sure the stocks would look so cheap if book values were adjusted for the current market value of those ships, but they sure look cheap relative to normal earning power.

Jul 16 09:26 AM

[Tim Plaehn:]

I read today that 80% of the idle dry bulk ships are over 20 years old. The public shipping companies have modern fleets that are working at reasonable rates. Tankers are ugly right now but the dry bulk guys are making pretty good money.

Jul 16 09:31 AM

[Maxe Paul:]

This is a truly horrible sector to invest in going forward, my advice is if you buy these today, dump them by September. Consider this a free warning, these are going down hard when this bear market rally finishes, which is around September.

Jul 16 09:41 AM

[diogeron:]

I would think the odds of a stock like NAT being lower 12 to 18 months from now are slim and none.

Jul 16 11:31 AM

[Alan Young:]

Not a bad thesis; there's a bottom around here somewhere.

You correctly say that using P/B for valuation is simplistic, but then you add that the book assets are hard--ships are always worth something, like real estate. The problem is, the market evaluates the ships on a very volatile basis, on cash flow. So when rates go down (look at the $BDI chart), the "value" of the ships goes with them, and so goes the book. A lot of shippers have found themselves in violation of loan covenants because of this book devaluation. This fluctuation makes it much harder to compute valuations from book: it's a moving target.

A patient value investor could still do well here. Sometimes I wish I could be one.

Jul 16 11:57 AM

[Did U Think...:]

The global economic collapse is just starting and it will get much worse. If you think a $3 stock is cheap, wait until it gets to 30 cents.

Jul 16 12:06 PM

[secmaven:]

What about all the oil tankers being used for floating storage and the continuing increase in shipments of crude to China? How can FRO at 20, down from 70 not be attractive?

Jul 16 03:49 PM

[Daren:]

Global collapse will be in currencies. This is happening now and is why tangible assets will continue to appreciate in cash terms. The smoking mirror is pretty much all the currencies are competing to be worth the least.. I would not consider common equity a "intangible" within this unique system collapse. The value of enterprises will be a the most liquid escape from cash with the strongest position into recovery (hence, a leading indicator). If i was China, I would be setting up a liquidation vehicle of there dollar denominated assets for the most valuable to "self" companies on dollar denominated exchanges. In leu of, going after IMF gold or bonds. Appoint board members and go about business as usual. THe numbers will speak for themselves and the US will have a closed door transaction reducing this massive imbalance.. Essentially a massive debt for equity swap that improves everyones balance sheet in the shortest window of time.. Would infuse capital into the market at the same time providing solid "investment demand" in the US equity markets.. THe US GOVT is reallly the only inhibitor to such a resolution. In the mean time.. I DRYS as a leading/ leading play is solid. I have seen argument of dilution of shares by the CEO.. In fact, seems reasonable. I really like this slightly diversified strategy and think it makes DRYS the strongest company in the sector. The dilution also brought full benefit of future gains totally in house. THe Petrobas relationship is huge with their new offshore oil field finds.. If the global economy is to rebound. You will see it in tech infrastructure first then shipping sector sector second.. The banks too, but I cannot even recognize them after the economic atrocities they have committed..

Common equity might very well be the replacement currency.. It is out of reach of politicians, to a significant degree. It can re-domicile to the most friendly jurisdiction and it has fiscal reality as its borders. It can conduct its commerce in what ever currency it decides.

Jul 16 04:38 PM

[User 422955:]

I was once interested in DRYS until I learned that the principal stockholder is a Greek with a large family. Most Greeks still believe in "family values," which means putting the family's well being before that of others. (No insult to Greeks intended.)

Jul 16 05:04 PM

[Daren:]

Just look at there historical competitive track record... There is always proprietary interest first.. Why you think Investment bankers stage companies from private placement through public offering.. So they can sap consulting, placement, and underwriting fees. Not to mention the warrants and options.. they make sure there costs basis is somewhere in the 1000's in most cases.. Goldman is proving it Q over Q.. Unless you are them.. YOu are in the food chain not at the top.. Yet, at this point in time, Global equity markets are the best place to make money right now..

Jul 16 05:30 PM

[erhed:]

Does anyone know the difference between "there" and "their"?

Jul 17 09:00 AM

[elliot_mllr:]

Before accepting a particular price to book value one has to ask how the book value is computed. For example, are the vessels being valued with or without time charters in place?That is a key determinant of vessel value. Various bank loan covenants take different positions: some are bare boat, some are with charters.
Also, one must distinguish between container ships, dry bulkers and tankers ( and as to tankers there is a further breakdown between crude, product and LNG, and shuttle tankers that go between deep sea rigs and refineries, and storage and offtake tankers). Each category and sub category has its own problems and opportunities.For example, there is the greatest present and putative oversupply of vessels in the box ships (containers). In the tanker sector the oversupply may be ameliorated by the rules mandating the end of single hull vessels. Here the price of steel impacts the extent of scrapping.
As a shipping investor who has owned dozens of each category of vessel company, right now I believe that the dry bulk segment is the best. It does not depend on exports from countries like China and Indonesia, whose economies are becoming more domestic and infrastructure driven and which need to import bulk cargoes. My favorite now is Navios Maritime Partners (NMM) a very well-run limited partnership affiliate of Naivios Maritime Holdings. Its vessels are all chartered for this and next year at decent rates and it has a significant yield based on safe partnership distributions.

Jul 17 11:30 AM

[Daren:]

You truly have your relationship with "content" is commendable.. I would hate to be in a spelling be with you.. Or on the same investment team.. Keep up the good detective work..


On Jul 17 09:00 AM erhed wrote:

> Does anyone know the difference between "there" and "their"?

Jul 17 01:50 PM

[Daren:]

Intended for Mr. Elliot_mllr. Thanks for sharing the tangible/practical wisdom!

Jul 17 02:02 PM

[LCM:]

I'm confused.....

Jul 17 08:34 PM

[LCM:]

Oh and I bought TORM....was that stupid? Seriously!

Jul 17 08:34 PM

[Michael Dem...:]

Check out Global Ship Lease (GSL). Long term container charters (10 yr average). When you back out excess cash it's trading at a Mkt Cap / Free Cash Flow Equity of less than 1. Currently negotiating waivers from LTV covenant with banks. Little liquidity and I suspect a dividend oriented institutional holder blew out their position this week taking the stock down dramatically....

Jul 17 08:41 PM

[HerrHansa:]

There have already been failures in the shipping sector, though if you view that in an opportunistic manner it can mean more business for the companies moving forward into the future. Investing in any shipping company should not be done without a great deal of research. Figure out how the companies are increasing revenues, or how they meet their budgets. Then check the average age of their fleets, being aware of companies backed up by second hand ships, or with old fleets; then check on whether they have ships being built, or any canceled newbuilds.

This entire sector is fairly volatile, and will make many up and down movements. Consider that over 95% of all goods and materials spend a portion of their time on ships, and it is easy to see this is a sector that will continue to remain important. Raw materials must move before construction and manufacturing. Inventories of products must drop prior to increased shipments of new products.

Energy demands will continue, despite a more recent drop in demand; population increases and resumption of manufacturing will spur demand for oil and natural gas, much of which is shipped. Be aware of shipping companies with too many double sided, double bottom, or single hull ships in a company flleet; the mandate moving into the future is to push to all double hull fleets, due to safety concerns. Companies like DHT Maritime (DHT), which I invested in not long ago, already are fully double hull, while Frontline (FRO) and a few others are not quite there yet. DH usually command higher day rates than DS, DB, or SH tankers. Also be aware of the sizes of ships in fleets, especially that there was a slight asymmetrical rate drop in VLCC recently.

To get a nice visual on where ships are in the world, port activity, and what sort of movements, try out the Vessel Tracker plug-in for Google Earth:

www.vesseltracker.com/...

While the free version is a day or so behind in updates, you can get a great idea of whether or not ships are on the move, or if they are moored. Check out the big areas like Singapore, Rotterdam, and Malta. If ships are moored, they are usually not generating revenue, except for some tankers being used as floating storage (i.e. Malta region).

Jul 19 05:23 PM

[Night trader:]

uss is now worthless.,4cents a share. Was over $100! no ships sank,but alot of portfolios did!

Jul 22 07:50 AM

[einstein p ...:]

I think this group bottomed out when the BDI was below 1000. Most of the dividends have been cut or eliminated, so there are only a couple of stocks that I would consider ---- PRGN and SBLK. I have been trading EXM and have done well. I think the United States may have serious problems down the road, including a currency crisis. Other countries such as China and India are going to need to build a domestic consumer class and the infrastructure to support it. I would look for consolidation among the shippers and a slow trend toward higher prices and better dividends. The bottom is already in.

Jul 26 11:38 AM

[BigOlDave:]

Global Ship Lease Inc. (GSL) ? Price is $1.18/share and they're showing a dividend of $0.92? A 77% yield? Are you kidding me?

Shippers are a good trade, not an investment. They disgorge their earnings in the form of enormous yields for the benefit of their (mostly Greek) owners.

And if you buy at a reasonable entry point, you can even see share price appreciation too.

But you have to be a masterful market timer to make above average total returns in this group. Good luck to the masterful.

But Global Ship Lease Inc. (GSL) ? Why would I take this seriously, even as a fast trade!

Dave
______________________...


On Jul 17 08:41 PM Michael Demaray wrote:

> Check out Global Ship Lease (seekingalpha.com/symbo...).
> Long term container charters (10 yr average). When you back out
> excess cash it's trading at a Mkt Cap / Free Cash Flow Equity of
> less than 1. Currently negotiating waivers from LTV covenant with
> banks. Little liquidity and I suspect a dividend oriented institutional
> holder blew out their position this week taking the stock down dramatically....

Jul 28 01:21 PM