As Amazon Eyes Freighters, A Pair Trade Opportunity In The Baltic Dry Index

| About: Navios Maritime (NMM)


Amazon is getting into the water with the freighter business.

The components of the Baltic Dry Shipping index are at all-time historic lows.

The potential added business from Amazon, as well as continued profitability favors Navios L.P.

(click to enlarge, image source Click to enlarge

I should probably preface this article with the fact that I am not a fan of the current price of Amazon (AMZN) shares. I had a very bearish article out just before Christmas that pretty much laid out the reasons that the stock price was due to come down. Even after coming down $100/share I don't think we're done.

However, I do think that today's news about Amazon getting into the ocean freight business was interesting for several reasons. Not the least of which is, I own shares of Navios Maritime Partners (NMM), one of the holdings that make up the Baltic Dry Shipping Index.

And, I am sorry to report to you, I am down big time on that holding. In spite of cost averaging on the decline, I'm still at a paper loss of over -46%. That's extra embarrassing because I wrote about them before too, not long before the dividend was cut in half. The stock price as a whole has come down over 80% since then.

NMM Chart

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Although, it seems that today's price action might indicate that other people are thinking what I am thinking. Navios closed up over 11% today.

The details about the operation are still extremely fuzzy.

I tried to snoop other news sites to try to find out more about the deal, but what I can only say with some certainty is that the part of Amazon that services Chinese customers has acquired some licenses to do... something with large shipping vessels for their customers on that side of the world.

It doesn't appear to read as though Amazon is getting into the shipping business themselves, but rather that they seek to lease the services of those companies that already are in that business. Navios, having leasing rates being at multiyear lows, and shipping volume in the Baltic index at the lowest point in history, stands to benefit.

Time to take a good, hard look at some risks here.

The rapid deterioration in Navios' net income was something that completely sideswiped me, so this time I wanted to make sure I made more of an effort to talk about potential problems that could show up here. One is the very real possibility of more dividend cuts. Investment Pancake did an excellent job of explaining the situation recently.

We have to speculate a little bit on what the year end results will be for Navios, and make a guess based on that about what dividends could do. The good news is, for the first 3 quarters of 2015, Navios had positive net income. It was down from years previous, down a lot in fact, dropping by nearly half from the year prior. In the 1st quarter of 2014, Navios had net income exceeding $18.36 million, but in the 3rd quarter of 2015, it was down to $11.8 million.

If we assume that the 4th quarter is at least as bad as the 3rd (it's probably worse), then there is a strong argument that the company would close the year at somewhere around $40 million in net income. Even at half the distributions of the year before, that's more than $69 million in dividends. They can't pay that without raising cash somewhere else, and with the share price way down, selling more shares to make up the difference would be severely dilutive.

Let's take a worst case scenario, and try to find a bottom here.

So if we cut the dividend to a point where it's under net income, then it could be somewhere around half of where it is today. That would be an annual distribution of about 43 cents/share. You know, that's not so bad actually, you catch a 20% yield moving forward on today's closing price of $1.98/share.

If the dividend is not cut, you catch a 40% yield, but let's not hold our breaths for that. Like Pancake said, management can "commit" to the dividends all they want to, but their actions in the past have shown that they can't be trusted when times get hard.

I think that the current selling price is below where I would consider this investment safe. Navios doesn't really carry a lot of long term debt relative to the value of its fleet, but if the fleet value should continue to get marked down, that could be a real problem for them.

This is where what Amazon is doing will matter.

Anytime supply is in demand, prices will rise. It doesn't even matter if it is just Navios, or a competitor like Safe Bulkers (SB), or Diana Shipping (DSX). Amazon coming in and striking contracts means that somebody is getting that business, and it will stabilize the prices for everyone, assuming that there aren't a lot of new ships continuing to be manufactured.

I personally have no idea where Amazon might be getting the money for leasing ships, or airplanes, or even the trucks they bought recently, but for now that isn't something to be concerned about. Apparently they think that they have some. Maybe they added to their long-term debt some more, who knows. We'll have to wait for Amazon's end of year results to punish them for that, but in the meantime, it makes some sense to buy some shipping companies for a speculative play.

Navios is damaged goods, I'm sorry to say that.

In spite of the bearish tone of what I'm saying, I think there is upside from here. So I'm buying. I think you should also buy. I'll give a price target here of $3/share, I think we're at a point where if future results don't start to improve, they probably aren't going to get much worse. Although there's been a big price drop to today, telling you to sell now doesn't make a lot of sense after the fact.

Amazon has a glut of problems of their own.

Even at $100 less now, I continue to rate Amazon a strong sell. Just because the operation they run is amazing, doesn't mean I think you should pay a huge premium for it. The fact that they are leasing jets and tankers instead of buying them outright like they did with those trucks, says that worldwide domination is not quite in the cards for them right now.

There is also an ongoing concern about whether the IRS might come after them for more taxes. You should take that seriously, as the company's amazing growth could very well be due to the fact that their competitors have had to give more of their cash to the government in the past. If so, those competitors have good reason to be upset and would be watching Amazon like a hawk.

The bottom line.

You have a potential pair trade here. Sell Amazon and go long on Navios. However, if Navios by itself feels too risky for you, get a mutual fund instead. The DMS Baltic Index fund (DBIAX) will help you spread out that risk a bit. The price is also depressed, but buying low is the goal. Can it get lower? Well anything is possible, of course, but don't be "Chicken Little". These shipping companies, in spite of lower contracted rates are still turning a profit, and that is meaningful.

Disclosure: I am/we are long NMM.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.