Vine Investor's  Instablog

It is becoming clear now that this summer will be one of volatility and macro changes throughout the financial world; therefore it is prudent to create a strategy that will take advantage of this volatility. Currently in the US, there is talk of the government not being able to make its August interest payments and a stall in the recovery, once the Fed’s quantitative easing stops at the end of this month. Housing has gone into a double dip and job growth is starting to slow down from its already lackluster rate. None of these factors seem to be easily resolved. Congress cannot vote on a deficit reduction plan which republicans are using as the ultimatum to have the debt ceiling raised. The longer these debates continue, and the August 2^nd deadline for America’s solvency approaches, many investors will head for safe haven assets. The very definition of a safe haven asset is what’s at the core of this debate. Should the US default, it could create more of a reason for holders of US debt to sell whenever possible, bringing a rise in yields. This will make cash and overseas assets the haven of choice for investors in the short term, but with problems persisting in Europe and Asia, cash may be the best short term alternative.

 

Europe is still not out of their credit crisis, with officials debating how to word a default of Greece’s debt as to, ironically, not trigger a default.    There are not too many prospects in this region due to the possibility of contagion as many of the banks across Europe hold the debt of the troubled countries. The only bright spot in the euro-zone would be Germany, which can take advantage of low wages and low Euro (should it weaken from the credit crisis) for its exports to Asia. 

 

Asia could be the region with the greatest prospects for yield or will exacerbate the issues, driving slow growth worldwide. China has already taken steps to reign in the amount of lending that has fueled the housing boom and rice in commodity prices, and failed thus far. From the measures taken by the Chinese government on these issues (as well as political issues stemming from inflation) it seems that anything but a soft landing in that country would not be good for the country, economically or politically. Japan has a huge debt burden, an ageing population, and the threat of falling back into a deflationary period due to the earthquake and tsunami. In order for the economy to get back on track the BOJ will have to find more foreign buyers for its debt, as well as make it more competitive globally by weakening its currency. The Australian government’s high interest rates will be largely dependent on the move in commodity prices and the country’s ability to avoid the Dutch disease of having the economy overly dependent on natural resources. 

 

With all of these factors present, one would expect the lowering of growth estimates by analysts and a flight from risky assets. This environment will give attractiveness to more stable asset classes and sectors that will provide an additional yield to compensate for a lack of growth. The need for many asset managers and pension funds to achieve a target return will make yielding assets more attractive. Returns don’t have to rely on capital appreciation alone. 

 

Over the next few weeks I will look deeper into the various asset classes and their potential, for the search for yield in this type of environment. 

The Baltic Dry Index has been referred to as an indicator of global economic strength, but as of late it has remained near the lows of the economic collapse. The factors for the lethargy of the index could also point some light into the problems facing the shipping industry as well and provide some insight into the catalysts needed to see a recovery of the sector. First is the issue with supply, there are more ships being built or ordered to be built than the historic average, this is in part because there was an influx of orders put in when the Baltic Dry Index was in the 10,000 to 11,000 range also the cost of having a ship built is much cheaper now than it was two years ago. Despite the pickup in exports that is occurring, the index, and in turn the margins of the shipping companies, will remain low until supply decreases to become in line or lower than demand.

The industry is also faced with high debt levels which will continue to hurt the industry as long as the rates remain low, and the oversupply problem is brought under control. Things to look for as signs of a potential increase in the Baltic Dry Index are cancellations of previously ordered ships by companies or less orders that normal taking place, showing that companies will retire ships over time without replacement. Mergers and acquisitions could also be seen as a positive by removing competitors from the marketplace and relieving some of the price pressures, with the high debt levels of a lot of these companies this will be limited to a few companies in my opinion. Another note is the rise in demand, although in the current state without one or both of the other factors occurring with the demand pick up I think it will take some time for it to meet supply.

                If you are looking for a way to play the industry, perhaps as a global trade segment in your own Vine strategy, there are certain factors to pay close attention to. Make sure that the debt levels of the company are reasonable and the companies’ cash flows will be able to meet the current obligations. Look at the current amount of ships that the company currently has and how many they may need to purchase in the near future. Make sure that the margins and cash flows are strong enough to pay the company’s current obligations.

                Some of the suggestions I would choose, due to the unclear timeline of when the industry will work through the oversupply issues it has, are the shipping brokers. These companies have larger margins and get their revenues based on the amount of deliveries made not necessarily the price that the company charges. These companies also have less fixed costs than the pure play shipping companies. If you want to play the Baltic Dry Index directly, look into Baltic Trading (BALT) it just had its IPO and is essentially flat from its IPO price. The upside to the company is that is has no debt and is using the proceeds of the IPO to purchase ships at these low cost levels. Baltic’s parent company and majority voting rights owner, Genco Shipping (GNK), said that the company will use the Baltic Dry Index spot rate at the price to ship goods. This will mean that a rise in the Baltic Dry will have a greater positive effect on the company than companies that have a portion of their rates locked in, no doubt at low rates. The fact the company has no debt give a little wiggle room should you enter into the trade and the index remains low longer than anticipated. A recent Barron’s write up says that the cash flows from the company should provide an opportunity for a dividend in the future. While that is possible, I would not rely on that in the near future, the substantial gains will most likely come from growth. 

With most countries feeling that their economies are becoming more stable there is a greater focus on how to control their growing deficits. Countries such as Germany, Japan, and China are focusing on exports to drive their countries growth in the future.  The news by president Obama stating that the US will aim to double its export in the next 5 years shows that the US is planning on using exports as a method to reduce the deficit as well. 

The Export led method of reducing the deficits in these countries would benefit from having a weak currency behind it. This would make the deficits of these countries smaller in relation to other currencies as well as make their countries exports cheaper. This could bring about a global shift in the way these countries interact and do business.

Despite the rhetoric about the US wanting a strong dollar, the agenda going forward will be much easier to achieve with a currency cheaper than the countries trading partners. With the Greek government in dire need of assistance and Germany being the country most likely to help you could bet that the strategy taken to stabilize the EU will come with a byproduct of a weak currency. The Japanese economy has already expressed concern about the strength of the Yen around the levels that the currency is currently trading at.

With all of these countries striving for a weaker currency to boost their exports there are opportunities that will surface that you could take advantage of. One winner of these countries attempting an export driven recovery are the exporters themselves. Look into exporters in countries such as Japan where valuations are already cheap and the most aggressive stance has been taken as far as currency devaluation. Transport countries could also see a boost in demand from good being shipped worldwide, and raw materials are being purchased to fuel these surges in export productivity.

A big concern that needs to be noted is the reluctance for countries to raise interest rates as aggressively as the might be required, this could result in rising inflation in those countries.

 

 

Opportunities:

                Transport companies

                Exporters

 

Concerns:

                Inflation