Changing seas of ship finance
Tankers, dry bulk and containers each face unique challenges and opportunities
In the ever-evolving world of maritime finance, shipowners have experienced a sea change over the past two years. According to ship finance specialist oceanis' Q3 2023 report, banks, debt funds, and lessors have “showered” shipowners with relatively inexpensive capital over the past 24 months. This injection of capital has brought about significant shifts and challenges that have left equity investors few and far between in both public and private markets.
Examining the factors behind this transformation, oceanis noted: "The availability of finance has changed dramatically over the past half-decade. We are certainly no longer in 2018." The main narrative in 2018 was centred around bank exits and restructurings following a decade of historically poor earnings. However, the landscape has since evolved, with the increased presence of debt funds, Japanese and Chinese lessors, and significant deleveraging efforts by shipowners, all of which have made banks work harder to maintain portfolio volume.
This shift in capital availability is butting heads with another significant trend — the decreasing appeal of leverage.
According to the report: "The increased SOFR rate is driving this, making lower leverage or all-equity investment relatively more attractive." In response to pricing pressure and heightened competition between banks, margins have compressed noticeably.
To put these changes into perspective, the report said that from 2020 to 2022, the average margin arranged via oceanis dropped 1.50 percentage points while loan-to-value and loan amounts stayed the same. This trend has brought margins in non-recourse bank financings down to levels in the 2s, significantly lower than the previous norm in the 3s.
In addition to these changes, the report highlighted the fact that many financiers are venturing into new products or markets. For instance, "Chinese lessors are breaking new ground, offering terms to smaller shipowners also without corporate recourse." These terms often outcompete those offered by European banks, particularly concerning leverage, with pricing not trailing too far behind.
Furthermore, some European banks are revisiting the offshore sector, making non-recourse financings available again after nearly a decade. The report noted: "While currently only available for vessels with firm employment, this positive sign will benefit the recently underinvested sector."
However, despite these transformations in the finance landscape, the report raises a pressing question: Where is the equity? Drawing from the words of Howard Marks, the report noted: "We’ve gone from the low-return world of 2009-21 to a full return world, and it may become more so in the near term." Institutional investors have been flocking to less risky investments, driven by the surge in base rates, which has propelled equity risk premiums into the demanding realm of double-digit returns, making equity positions in shipping assets less appealing.
Moreover, despite the rising cost of capital, asset valuations across various segments have not adjusted accordingly. The report suggested that shipowners' substantial liquidity, coupled with their limited willingness to explore alternative investments at scale and potential misjudgements regarding equity pricing, have sustained this resilience.
Institutional investors are currently favouring debt investments in the shipping sector, and the prospect of embracing shipping equity hinges on the emergence of countercyclical opportunities or adjustments to discount rates for future cashflows, acknowledging the current high-interest rate landscape.
Despite the subdued nature of the quarter, the shipping industry remains profitable, and opportunities for shipowners abound, provided they navigate the changing tides of ship finance wisely. As the report aptly puts it,
"Should any shipowners aim to diversify their financing counterparts or explore options for an acquisition or refinancing, now remains a good time to do so."
Dry bulk analysis
The report suggests that the first quarter might not have marked the bottom of the dry bulk market, presenting shipowners with a challenging environment. According to the report: "Recent falls in earnings across segments, while asset values have remained surprisingly constant, have made investment in dry bulk vessels over the past few months more an exercise in faith than trust in the markets."
The challenge for owners seeking financing or refinancing lies in the fact that banks and funds primarily rely on current market projections, which have limited financing volumes. The report notes, "Exceeding 50% LTV with an older spot-trading vessel is very difficult indeed without resorting to higher-cost debt funds, as banks have retreated to the 40% level."
However, there is a glimmer of hope for shipowners who firmly believe in better earnings on the horizon. The report said: "For those shipowners with a high level of conviction that better earnings will return, some high-cost options are available which can provide up to 75% leverage, even for older vessels." These options, while offering higher leverage, come with significant risks, as "the repayments required exceed not only current market projections but even historic median earnings”, and the associated interest costs are high.
Tankers ‘pause for breath’
Meanwhile, tankers have seen a quarter that oceanis describes as a 'pause for breath' among financiers. After rebalancing portfolios back into the sector during the first half of the year, financiers are now reconsidering their moves. Loan amounts and margins, which saw improvements over the nine months leading to June, have remained relatively stable since then.
The report draws an interesting parallel between tankers and container markets in early 2022, stating:
"In many ways, this gives the same feeling as container markets in early 2022; the party is still going strong, but some are thinking to book a taxi home."
This suggests a cautious optimism in the tanker market.
Banks, funds, and leasing houses continue to show strong interest in funding, with high loan amounts still on offer. However, the report highlighted a contraction in LTVs as asset values have risen rapidly in the past six months. Margins, meanwhile, continue to fall as banks react to more intense competition for new loans.
Over in the container sector, financing has remained relatively stable over the past quarter, thanks to consistent earnings. The report noted: "Financiers remain comfortable with charters even from second-tier operators for newbuilds, while banks have a keen preference for top-tier counterparties on mature vessels to avoid exposure to renegotiations."
A notable observation is the evolution of banks' approach to LTV covenants. While some banks chose not to include such covenants in their loan documentation during the post-Covid boom, others are now imposing restrictions on dividends or requiring early repayments for vessels performing under well-paying charters. This underscores the importance of strong relationships between shipowners and financiers and the need to consider the impact of individual covenants on cashflows.
Despite the relative stability, transaction volumes have been modest due to most financings and sales closing in 2021 and 2022. However, newbuilds and sold vessels still require financing, offering opportunities in a market with slowly decreasing margins as charter rates become more conservative, and asset values retreat from their highs.
oceanis' Q3 2023 report paints a dynamic picture of the ship finance landscape, with each sector facing its unique challenges and opportunities. While dry bulk grapples with faith in future earnings, tankers maintain cautious optimism, and container financing remains relatively stable with evolving covenant practices. Shipowners and financiers alike must navigate these shifting tides with diligence and adaptability as the maritime finance landscape continues to evolve.