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Management Series: shipping-and-transport

Sail of the century

Shipping is going through the fifth year of its worst peacetime downturn - and some people will do extremely well as a result, thank you very much.
That sounds counterintuitive. But for many ship owners, operating vessels on the spot or time charter markets is essentially a secondary source of profit. The real money, particularly in the field of dry bulk ships (ones designed to carry bulk goods such as grains, coal, ores and cement) is made from asset play - buying and selling the ships themselves. And those who get the timing exactly right may find themselves extremely rich in a few years' time. Conventional wisdom is as simple as "buy cheap and sell high". But that is easier said than done, and anything that can assist the process is always welcome.
Step forward Nikos Nomikos, Professor of Shipping Risk Management at Cass, who has put together a unique sentiment index* for the market with three colleagues: Dr Nikos Papapostolou, Lecturer in Shipping Finance; Dr Panos Pouliasis, Lecturer in Energy/Commodities Finance; and Dr Ioannis Kyriakou, Lecturer in the Faculty of Actuarial Science and Insurance.

Market temperature
The idea is to offer an indicator of the future direction of the value cycles of dry bulk carriers up to six months in advance, allowing investors to beat the pack.
"In essence, we are trying to capture something that is not captured by what you could call rational economic models. We are trying in a sense to take a measurement of the temperature of the market," says Professor Nomikos.
The basic insight that optimism and pessimism are key drivers of investment, household consumption and saving - and are therefore worth measuring - is not new to economic theory.
The Confederation of British Industry regularly produces a business confidence survey, and the accountancy firm Moore Stephens publishes a quarterly confidence survey directed specifically at global shipping But these are based purely on subjective survey criteria. Professor Nomikos and his colleagues focused instead on quantifiable proxies for sentiment using the methodology applied to the US stock market by the behavioural economists Professor Malcolm Baker, of Harvard Business School, and Professor Jeffrey Wurgler, of the New York University Stern School of Business.

Size matters
Variables such as the availability of finance, asset valuations and liquidity were used to construct indices for the four main sizes of dry bulk carriers - in descending order capesize, panamax, supramax and handysize - and an index for the market as a whole. In all cases, these were computed back as far as 1996.
"We didn't look at survey data, but rather the actions of participants, as reflected through changes in market data and fundamentals, to measure how confident they were about the market," Professor Nomikos says.
All of the indices are expressed as a positive or negative numerical value, showing how far they differ from the mean average, which tends to zero over time. This makes it easier to correlate the indices visually with what is actually going on in the market.
The team discovered that the overall index did indeed efficiently capture price turning points, particularly for capesize vessels - so named because, at 150,000 tonnes or more, they are too large for the Panama Canal, and therefore sail via Cape Horn from the Pacific to the Atlantic and used to sail round the Cape of Good Hope before the recent enlargement of the Suez Canal.

Sector sentiment
Further regression analysis developed a model incorporating market sentiment, sector sentiment and a variable to allow for the phase of the shipping cycle.
Its performance in capturing the phase of the shipping cycles up to six months ahead is good, with an average correct prediction rate of more than 75 per cent in all cases.
So while Professor Nomikos sadly does not have a foolproof means of becoming a dry bulk billionaire, his work may offer users a noticeable edge.
To highlight this point, the Cass team modelled what would happen to a hypothetical owner using movement of the market index across the zero line from above as a buy signal, and across the zero line from below as a sell signal.
Following such a strategy between 1999 and 2010 would have generated a profit of $121.4 million on a capesize and $86.8 million on a panamax, the largest bulk carrier that is able to fit through the Panama Canal.

Higher returns
Indeed, in all four size segments, returns would have been higher and risks lower than those arising from a standard buy-and-hold model.
In three cases out of four the system also beat returns from a probabilistic model of ship prices that "goes with the flow" of the market, although the latter proved superior for handysizes (usually 15,000-35,000 tonnes).
What now? Professor Nomikos says: "We are hoping to publish the market index commercially on a monthly basis, jointly with a sponsor, and we are also working on counterparts for tankers and container shipping."
And if you are thinking about buying a bulk carrier, now looks like a good time: "The index is higher than its lowest point, so sentiment seems to be picking up since March, and has more or less remained at the same level."

*Investor Sentiment for Real Assets: The Case of the Dry Bulk Shipping Market. For further information on the research, contact Professor Nikos Nomikos at n.nomikos@city.ac.uk

David Osler is Finance Editor at Lloyd's List. He can be contacted at david.osler@informa.com

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