Three “Unequivocally Bullish” Impacts On Shipping From The Ukraine/Russia Conflict

March 9, 2022   |   Tags:
Three "Unequivocally Bullish" Impacts On Shipping From The Ukraine/Russia Conflict

Submitted by QTR's Fringe Finance

This is part 2 an exclusive Fringe Finance interview with shipping analyst (and friend of mine) J Mintzmyer, where we discuss the state of the Russian invasion of Ukraine and its effect on markets and shipping stocks. Part 1 of this interview, where J identifies two shippers he owns and why some shipping stocks could 2x to 10x higher, is here

J is a renowned maritime shipping analyst and investor who directs the Value Investor's Edge ("VIE") research platform on Seeking Alpha.  You can follow him on Twitter @mintzmyer. J is a frequent speaker at industry conferences, is regularly quoted in trade journals, and hosts a popular podcast featuring shipping industry executives.

J has earned a BS in Economics from the Air Force Academy, an MA in Public Policy from the University of Maryland, and is a PhD Candidate at Harvard University, where he researches global trade flows and security policy.

Part 1 of this interview talked about how the invasion changed the outlook for shipping, unnoticed names in the sector and best and worst case potential outcomes.

Q: J, explain the impact of the invasion, and everything we talked about in Part 1, on commodities and consumer goods - which will suffer more because of the conflict?

It’s still unclear exactly what the medium- and longer-term impact will be for most Western and Asian consumers. At this short-term stage, energy prices are clearly exploding higher, but the futures curves are also at near-record levels of backwardation (i.e. the markets are predicting rapid price recoveries). Until these futures curves flatten out or even shift to contango, it’s not clear that the ‘doom and gloom’ economic wreckage argument has much credibility yet.

If oil futures price $120-$150+ oil for 2-3 years outward, then I’m more concerned. 

Consumer goods obviously have lots of commodity inputs across the entire supply chain and shipping costs have also been a key factor driving up final prices. So whatever the impact ends up being for commodities, we can add a delay-factor, but similar net impact to consumer goods. 

Do you see any scenario where shipping rates or stocks move lower?

Short-term rates can be very volatile and can produce head-fakes.

For instance, if flooding occurs in Australia (disrupting iron and coal exports), we often see a near-term dip in rates due to demand cancellation, but the longer-term impacts often lead to far high rates down the road as flows comes back online, ports are congested, and end-users have higher catch-up demand. We saw this with COVID-19. Container shipping rates plunged for a couple months before ripping into a multi-year bull market due to residual congestion and catch-up demand. I’ve seen weird moves in stocks before, so if there is some rate volatility, the market might misinterpret the situation in the near-term. 

Container Rates to U.S. Top $10,000 as Shipping Crunch Tightens - Bloomberg
As of July 2021

Additionally, if the broad overall stock market is terrible, shipping stocks might also not perform well, or they might not gain as much as they should otherwise. We saw this in 2020, where shipping rates were skyrocketing, but the broad market was skeptical and valuations didn’t move much. This head-in-sand by the generalists allowed us to build a model portfolio (long only, no options or leverage) at Value Investor’s Edge which returned 136% in 2021.

We have been adroit so far in 2022, returning 26.1% YTD as of 4 March, while the rest of the market is down about 10%; however, on most days when the market is crashing, shipping stocks are still at least slightly impacted.

I’ve talked about the longer-term (multi-year fallout risk) a few times above. In that scenario, it’s doubtful that shipping stocks do very well. If that’s the scenario you expect, then SPY and QQQ puts probably are the best bet here. 

I know you are still very bullish on shipping given the conflict. What's your brief pitch on why any investor may want to consider shipping exposure right now (not financial advice, of course). Key risks/caveats?

I am a research provider and a personal investor, so I cannot give direct investment advice. In a more general sense, there are two clear ‘winners’ (and I hate to use that word given the humanitarian crisis we face) of the current situation: energy and shipping.

I believe most already understand the bull case for energy and its pretty remarkable for Elon Musk to even be calling for more U.S. oil production!

The shipping side is more nuanced. I alluded to the three big impacts in your first question:

1) Disruptions will go up, reducing supply (less supply available).

2) Trade will be rerouted in less efficient ways (more ton-miles -> more demand).

3) Higher oil prices will promote slower steaming (takes longer to complete routes -> less supply).

All three of these impacts are unequivocally bullish for shipping rates. 

We have discussed the risk/caveat to this in the above questions, which is that if oil prices surge so significantly that it causes a global slowdown, or worse a global recession, then shipping is unlikely to do well. I believe we need to consider two things here before getting super alarmed about current oil prices.

First, oil futures curves are currently massively backwardated. Oil might be quoted at $115+ today, but the longer-term contracts are still at much lower levels. Show me a curve which has $120-$150+ oil for years and I’m genuinely worried.

Second, oil around $100 did little to slow or even dent the global economy in late-2007 or again fromin 2011-2014. Not only has inflation added to these numbers, but the global economy, and particularly the U.S. economy, is significantly less energy intensive today, in 2022, than it was in 2007. 

If you want to compare near-$100/bbl oil in 2007 today, taking into effect inflation alone gets you to nearly $140/bbl. By the time we adjust for energy intensity (i.e. how much energy costs relate to GDP), $100/bbl oil in 2007 is roughly equivalent to $180/bbl oil today.

Back in 2007, and also in 2014, the futures curves were primarily in contango (i.e. future prices were higher than current prices). The opposite is true today. $100 has a psychological appeal and there are a lot of ‘Chicken Littles’ running around talking about the perils of $100 oil, but again, if you benchmark 2007’s $100/bbl oil, to have a correct comp, you need to see $150+, closer to $180+ oil, and it needs to be in the futures curves for years to come. We just aren’t anywhere remotely close.  

You mentioned Global Ship Lease (GSL) and Textainer Group (TGH) as two of your favorites with lower risk and strong upside. What are some higher risk plays with more spot exposure?

Our latest research and top picks (14 in the shipping industry) is exclusive for Value Investor’s Edge members, but I can share one other firm which has more direct potential for significant gains from the ongoing situation. This is Eagle Bulk (EGLE), which is a midsize dry bulk pureplay.

The midsize dry bulk markets have already been very strong and stable (lower volatility in rates) for the past 18 months, but the current situation might propel these rates even higher. Midsize bulkers are the most impacted by the Ukraine conflict as these ships are active in the global grain trades, whereas the larger ships are more focused on iron ore and coal.

EGLE also benefits from a high percentage of eco-design ships which will provide additional profits in the high oil price environment and most of their ships also have scrubbers installed, which enable them to burn lower cost bunker fuel. The spread between lower cost dirtier bunker fuel and clear VLSFO fuel is hitting near-record highs, further adding to EGLE’s profit advantage versus peers.  

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Part 1 of this interview, where J identifies two shippers he owns and why some shipping stocks could 2x to 10x higher, is here


Disclosure: J is long EGLE, GSL and TGH. J and I may have positions in other names mentioned in this interview. J is a podcast Patreon of mine and has been donating to my podcast monthly (as listeners already likely know from my constant shout-outs), though that is not why I seek his expertise. I have known J and have been reading his work for almost a decade now on Seeking Alpha and have met him numerous times in person. He’s a top class person - and analyst - in my opinion.

I may add any name mentioned in this article and sell any name mentioned in this piece at any time, without further warning. I may hedge in any way. None of this is a solicitation to buy or sell securities. Please do not attempt these trades at home. These positions can change immediately as soon as I publish this, with or without notice. You are on your own. Do not make decisions based on my blog. I exist on the fringe. The publisher does not guarantee the accuracy or completeness of the information provided in this page. These are not the opinions of any of my employers, partners, or associates. I get shit wrong a lot. 

 

Tyler Durden Wed, 03/09/2022 - 17:40


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