Freight rate hedging is seeing robust growth after years of economic downturn and crashing shipping prices. As demand for commodities – grain, sugar, iron ore – increases worldwide, forward-thinking hedge funds are taking increasingly calculated risks to maximize returns in the volatile freight rate market. Companies like Louis Dreyfus Group have even established brand new hedge funds dedicated solely to shipping rates.
Why the Soar?
The shipping market is directly related to the health of the world economy. As economies have steadily recovered after the crash of 2008, higher cash flow has induced an increased need for vessels to transport commodities. According to the world’s biggest shipbroker Clarkson PLC, global iron ore shipments via sea hit a record 1.2 billion tons in 2013. Coking coal and aluminum production raw material shipments saw double-digit increases, while soybean deliveries jumped more than 7% in the same year. “There’s strong demand, and you don’t have the ships,” tells John Kartsonas, portfolio manager at Vermillion Asset Management, a commodities hedge-fund firm, to the WSJ. Plus, “…there’s not a lot of things you can do to bring this market back to balance,” he cautions.
What’s the Catch?
Despite some funds’ exuberant hopefulness, all isn’t smooth sailing yet. According to the Baltic Dry Index, an ocean freight index that tracks rate levels, freight rates have plunged 59% so far in 2014. Clarkson estimates a growth of 3.6% in shipping capacity by 2016, the smallest increase since 2004.
Bullish investors, however, trusting in the steady albeit sluggish global growth, only consider this a temporary setback in the face of unforeseeables such as the cancellation of several soybean cargoes from China by the U.S., as well as a ban on nickel exports by Indonesia. They are further emboldened by analysts’ reports of increasing gains in the freight rates of four different types of vessels tracked by the Baltic Dry Index, signaling that rock bottom has already been hit.
That investors’ hopes are soaring along with the imminent upsurge is evident in the gains some of these new funds are reporting. Louis Dreyfus’s freight-focused fund, Edesia Lighthouse Fund LP, for example, boosted its investors’ confidence by reporting a 4% increment through March. Playing on this “changing sentiment,” Consortium Maritime Trading Ltd., an investment firm, plans to raise $25 million in capital by this year’s end for its own fund started in April.
Hedging in the world of ocean freight transportation isn’t new, but the steady growth of the consumer commodity market and the realization of transport vessel shortages in the coming years and their effects on freight rates have set this notion in the forefront of many hedge fund managers’ agendas. Money managers can bet on the likelihood of rates going up or down by means of a futures-like mechanism called forward freight agreements. As with any hedge fund portfolio, this market is highly volatile, given to wild fluctuations based on a variety of factors. Concurrently, its risk carries the promise of higher returns and unmatched profits.
The question for a potential investor remains: Ride forth the tidal wave or ride out the capsize?