This will be a pivotal year for shipping investors. Things could go very right or very wrong — even more so than usual.
“It’s an exciting time for shipping from a macro perspective, but we’re in tricky markets,” warned Stifel analyst Ben Nolan during a panel discussion Wednesday presented by New York-based communications and advisory firm Capital Link.
“It’s probably more important now than it has been in the past to time investments and be nimble in entering and exiting,” said Nolan.
What’s priced into container stocks?
The question for red-hot container stocks: “How much credit is the market giving to persistently stronger [rate] duration?” said Nolan.
“Rates at these levels are unsustainable. At some point they’ll come down. You see this in a lot of aspects of transportation [equities] right now, where things are elevated but they’re not going to stay elevated, so how much is the market willing to chase them? It’s a tricky time to be a transportation investor.”
Citi analyst Chris Wetherbee agreed. “Probably the biggest risk when we think about containers is investors expecting that roll in rates and discounting it aggressively ahead of time, because that’s always the way transport broadly works, and shipping as well. In terms of being early-cycle and highly cyclical, people will discount peak valuations and peak earnings and put more [emphasis] on what they expect to be more normalized midcycle earnings.”
According to Jorgen Lian, analyst at DNB Bank, “The difficult question is: What is being priced into these equities today and how could they react once things turn? The one thing I do know is that in shipping, once things turn, it happens fast. The equity markets tend to [price in] a lot of negativity once the arrow starts to point in the wrong direction.
“Things are looking stellar and have continued to be very strong for longer than we thought,” continued Lian. “Any indicators as to when that might end have been very elusive, so as things stand, the supercycle we’re seeing today just seems to continue. But that being said, a lot of positivity has been priced in and my take is that once things start to turn, you will start to discount in the substantial fleet growth that’s coming into the market in 2023 and 2024.”
Can container lines show discipline?
“Container [stocks] have had an enormous amount of strength over the course of the last 18 months. Clearly, containers ‘won the pandemic,’” said Wetherbee.
The Citi analyst sees port congestion lingering into the second half of this year, and earnings for some container-ship leasing companies almost doubling in 2022 versus 2021 and perhaps tripling versus 2020. “We still see a lot of upside potential. Congestion is going to be the theme for 2022 and even though it will get better, it will persist long enough for [listed container shipping companies] to continue the windfall they’ve seen.”
Jefferies analyst Randy Giveans said, “We think congestion will linger for a lot longer than people expect.” He predicted that container freight rates “throughout 2022 are probably going to stay above anything we saw before mid-2021, so 2022 full-year average rates will probably be better than 2021’s.”
Nolan is less optimistic. “I think that by the end of the year, rates are very likely to be half of what they are now, or maybe even less, but that would still be pretty high. There’s also a chance that it could be even worse and we could overcorrect, although I think that’s probably more of a 2023-2024 event.”
Wetherbee emphasized that a key thing to watch will be “how this plays out in late 2022 [when he believes congestion will diminish] and into 2023 when we start to see vessels deliver.
“What the market needs to do is show discipline,” he said, referring to ocean carriers’ ability to cancel sailings “at the levels we saw back in 2020 when things were tough in order to preserve the rate environment and manage the capacity that’s coming into the market.
“It does appear that there’s a significantly increased level of discipline in this space but I don’t know that this group has been all that well-tested in that respect.” Wetherbee expects the test to come “over the course of the next 18-24 months.”
Uncertainty over tanker recovery velocity
Tanker stocks — which have been considerably less in favor than container stocks — also face a potential course correction.
“I think of the crude tanker market as sort of the opposite of the container market right now,” said Nolan. “It has been really bad, while the container market has been really good.
“I don’t think there’s a catalyst to cause [crude tankers] to get immediately better so the first half of the year is going to continue to be rocky. But I do think that by the third quarter, things start to look pretty good. If there’s any one category of shipping that has the most potential for upside, it’s the tanker market.”
Tanker stocks face major uncertainty on the turning point and the timing and degree of that turn, as with container stocks but in the opposite direction.
According to Omar Nokta, analyst at Clarksons Platou Securities, “There’s roughly 4 million barrels a day missing from the market at this point that is due to come onstream by September-October. The question we’re getting a lot is, ‘OK, great, we’re going to add those barrels. What does the tanker market look like then?
“Are we talking about it looking like containers or dry bulk at the highs last year, or is this just a recovery to some $30,000- to $40,000-a-day tanker market for VLCCs [very large crude carriers]?’
“That’s been the biggest question a lot of investors have. They understand a recovery is coming, but what’s the velocity of that recovery? Is it an opportunity to make a lot of money? Sentiment is being tested and questioned as to whether this recovery can truly happen in a meaningful way. Our view is: absolutely.”
Whereas the container sector will see a heavy wave of newbuild deliveries in the years ahead, the tanker industry will see a lack of deliveries. “One of the attributes of being the last to recover is the fact that there are no [newbuild] slots available for the tanker sector for the next three to four years,” said Nokta. “So, as soon as the market recovers and rates improve, we think they’re going to be firm for a very long, extended period.”
Shipping’s investor base
The dichotomy between containers and tanker stocks also arose when analysts discussed shipping’s investor base.
On one hand, said Wetherbee, “inbound [inquiries] have been better, certainly for containers, which are getting a lot of attention. There are 100 ships stacked up off the port of Los Angeles. That’s been in the news on a regular basis, including the nightly news.
“But on the other hand, you’ve got VLCC rates where they are and that ultimately takes some attention away, because you still have these real big peaks and valleys. And I still struggle to find the average [institutional] investor outside of the [shipping] specialists who is willing and interested in tolerating that degree of cyclicality with market caps this small.
“I’ve probably covered more [companies] with $100 million market caps or lower than I ever have before in my career and that’s not good for anybody. It doesn’t do me any good. It doesn’t do investors any good. And frankly, it doesn’t do the companies any good.”
Giveans commented: “It really is the haves and have-nots. Not many investors are calling me and asking about $100 million-market-cap names. A lot are calling me about the names with $2 billion, $3 billion, $4 billion, $5 billion market caps. Bigger is better when it comes to investor interest.”
Nokta said: “The overall size of the investing community is just so much larger than what’s currently investing in shipping. The mutual fund community is about eight to nine times the size of the hedge fund community. The liner industry — Zim [NYSE: ZIM] here in the U.S. and the big liners in Europe and Asia — does attract mutual funds. But the conventional tanker and dry bulk sectors only attract hedge funds. You don’t have longer-term mutual fund money consistently.
“Hedge funds are typically not there throughout the cycle. They come in when there’s an opportunity to make a lot of money going long and they’ll short in a meaningful way when the market turns.”
Wetherbee conceded: “We have to be realistic about it. The truth is we need larger-market-cap companies in this space for people to get significantly more interested. We still have an awful long way to go for this to become more mainstream.”
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