According to Oscar Wilde, a cynic is a man who knows the price of everything and the value of nothing. He haggles endlessly over a few hundred thousand dollars on a $20 million ship, when its real “value” is nothing like $20 million. Wilde also mentions “sentimentalists” who are seized by ideas like “the world’s biggest ship”, without really grasping the economics needed to make them work.
The “Price” Is Right
In both cases the key distinction is between the cash which changes hands and the value received in return. In shipping cash is exchanged for a ship and investors can easily check that it’s the right price from brokers’ reports. Another price check is to compare the ship price over time (the blue line in the graph plots the price of a 5 year old Panamax bulker) with the price suggested by a model based on spot earnings and newbuilding prices (the red line plots the price calculated by a regression model – the fit is excellent with an R-squared of 0.9). Currently brokers are reporting $24m and the model says $20m, so the market price is a bit high? Or is it?
The “Value” Investment Model
Which brings us to the ship’s “value”. Back at start 1999 when a 5 year old Panamax bulkcarrier cost $12.5m, the “model” suggested that this was a bit expensive, and $10m was more in line with fundamentals. But anyone who paid $12.5m in 1999 was getting astonishing value. By start 2007 the ship, 13 years old, was worth about $31m and over the eight years it had earned about $42m on the spot market. Deduct operating costs and the $12.5m purchase price produces a very handy profit indeed.
That’s value, but for new investors who entered the market in late 2007, the value proposition was reversed. By then the 5-year-old Panamax had a price of $75m, and the model says it should be about $70m. So if you could snap it up for, say, $65m it’s a bargain … not. Unfortunately the future value “premium” proved to be negative and by start 2014 the 11-year-old ship was only worth $17m, a $58m loss. Spot earnings over the 6 years were about $33m thanks to strong markets in 2007/8 but after operating costs the loss is significant. So haggling over a $70m or $75m purchase price was not the issue. It was all about “value”.
Hidden Value Premium
Today the Panamax price is $24m and the model says it should be $20m. But what about its “value”? Is today more like January 1999, late 2007, or something in between? Not many punters would back the January 1999 value premium. Spikes like 2007/8 are far too rare, and with today’s economic problems the fundamentals are against it. But the market is pretty low, so negative value like 2007 seems equally unlikely too.
Cynics In Charge
So there you have it. Maybe shipping investors should be contemplating a fuzzy scenario in which they break even, and maybe make a bit of cash, but not much? Not the excitement they’re used to, but compared with other investments on offer, maybe not such a bad one. In which case, today’s price may be just as important as its value. Have a nice day.