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We've Found a Historic
Buying Opportunity -- and 20%-Plus Yields
October 22, 2008
Legendary investor Warren Buffett has always said, "Be fearful when others
are greedy, and be greedy when others are fearful." And when we look back on 2008, we may
possibly conclude it was one of the most fearful times of
our generation.
However, I also believe a number of investors, like
Buffett, will
look back upon this time as an opportunity to make a
fortune. Fear has caused everyone -- from investors to
consumers to businesses -- to put the brakes on their
spending, leading to nothing short of panic in many markets.
Nowhere is this more obvious than with the Baltic Dry Index
-- which has fallen -89% from its peak just five months
ago.
The Baltic Dry Index isn't a regular stock index like the S&P 500 or
the Nasdaq. It's actually a composite survey of daily
shipping prices around the world. And although it doesn't track underlying stocks like
most market indices, its movement does affect almost every
shipping company's share price since it is viewed as a
proxy for the overall supply and demand of shipping
capacity. And as the BDI has fallen, it has taken the share
prices of many shipping companies along for the ride --
providing new investors a chance to capture some of the most appealing
yields (up to 28%) we've ever seen.
The BDI's Bubble Trouble
In May 2008, the Baltic Dry Index was riding high. Commodity
prices were still on their meteoric climb and commodity
buyers were insensitive to shipping costs. Fearing
tighter port security, Chinese companies had doubled up on
their industrial shipments in the months ahead of the
Beijing Olympics, pushing shipping prices even higher.
And the U.S. subprime crisis appeared to be contained at its
borders -- meaning the rest of the world's trade went on
unhampered. On May 20th, shipping spot prices hit an all-time, bubbly high.
No one, not even the shipping companies, believed the
May highs were sustainable. But few anticipated the
perfect storm of downward pressure shipping prices would face over the next few months. How bad
has it been? Rates for Capesize ships -- so named because
initially their large size prevented them from using the Suez
Canal, forcing them to sail around either Cape Horn or the Cape
of Good Hope -- that were priced at
$230,000 a day in late May have fallen to almost $20,000 a
day. The Panamax class ship rates have seen a similar trend,
tumbling from daily rate quotes of $90,000 per day to around
$12,800.
The decline of the S&P 500 looks
like a mere bunny slope when compared to the Baltic
Dry Index's plummet. The BDI has fallen
more than -75% in less than a month and a total of
-89% since its high on May 20th.
Even Iceland's stock market has done better -- and according to the Associated Press,
Iceland "is on the brink of becoming the first
national bankruptcy of the global financial
meltdown." So
unless you think that global shipping is simply
about to stop, this looks like a chance to position
yourself for a rebound. |
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Clearly, there are a number of valid reasons why
the Baltic Dry Index should be off its highs. In addition to
being grossly overheated just a few months ago, the U.S.
subprime mortgage problem blossomed into a full blown
financial crisis and has undoubtedly weighed on economies
outside the U.S. When world economies slow down, the demand
for shipping also slows. And the speculative bubble in the
commodities market has burst, making commodities buyers more
price-sensitive when it comes to shipping.
But instead of adjusting to a new shipping world order,
the index has failed to find a floor. Jacob Fentz,
Classic Maritime Inc. president noted that the BDI is
"overshooting big time on the downside just like it did on
the upside." But the good news for investors is
that there is ample evidence the index's
current inability to find the brakes stems from temporary
problems, with near-term solutions.
Short-Term Problems with Near-Term Solutions
Why do we believe there is an eventual rebound in the
future for the Baltic Dry Index? Many of the short-term pressures weighing on
shipping prices are already showing signs of letting up:
Easing Credit Worries: The worldwide credit crisis that
has made it harder
for small companies and consumers to borrow money has also
made it harder for dry bulk buyers to get their cargos
loaded onto ships. Traditionally, all a buyer had to do
was show a letter of credit from a bank. But as banks
became undercapitalized, many letters of credit were harder
to come by. Commodities began to pile up at the ports. "There's all kinds of stuff
stacked up on docks right now that can't be shipped because
people can't get letters of credit," said Bill Gary,
president of Commodity Information Systems in Oklahoma City.
"The problem is not demand, and it's not supply because we
have plenty of supply. It's finding anyone who can
come up with the credit to buy."
But the credit freeze has finally begun to thaw. This
week, bank-to-bank lending rates -- which skyrocketed as
credit worries simmered -- have fallen to their lowest
levels in more than a month. Governments around the
globe have put up literally hundreds of billions of dollars
to back the world's banking system and letters of credit
appear to be navigating their way through the system again.
Stabilizing Demand: In an effort to reduce
pollution, China shut down
hundreds of construction sites, coal-fired power plants,
cement factories and chemical manufacturers a month before
the Olympics and throughout the games.
While this was only a temporary measure, the drop-off in
shipping demand made an already nervous sector panic. But the temporary fits and starts from the Beijing Olympics
are behind us. The Olympic cutbacks were not a real
measure of demand any more than the pre-Olympic build up
was, and these anomalies are now being seen for what they
were.
Short-Term Feuds and Still-Strong Growth: There is currently a tiff
between China's steel companies and Brazilian iron ore
suppliers, which has resulted in at least a month with
limited shipments of ore between the two countries. Geographically, Brazil and China are
about as far apart as two countries can be. The
loss of this
long, lucrative raw material trade route is wreaking havoc
on the BDI.
China is an important market for shippers,
and many were already worried about a slowing Chinese economy. And while
there are some signs of this happening,
it has still turned in a +9.9% growth rate for the first
nine months of 2008 -- considered a breakneck speed for most
economies. China will still need ore to build out that
growth and Brazil will eventually sell it -- and ships will
move it.
Lock In a
28.0% Yield on the Fear and Gain on the Reality
"Dry bulk levels may be close to their 'logical
bottom'" -- so read the recent headline from Lloyd's List, a
respected maritime news outlet. As many of the
temporary pressures on the Baltic Dry Index are already starting to ease,
it's hard not to believe the BDI has overshot its floor and
will soon find a more rational level -- certainly off its
unrealistic highs, but also above its equally unrealistic
lows.
And
before normalcy returns to the BDI, investors still have a
chance to play on shipping's worst fears. While you can't trade the index itself, almost
every shipping stock was pummeled by the fall, and
most will follow it up on the rebound.
With many shipping stocks trading near their 52-week lows, their
yields are at unprecedented highs. Investors not only
have the opportunity to lock in these 20%-plus yields, they
have the added potential for share price gains once a bit of
sanity returns to this sector.
Shipping stocks have always been known for their
generous yields. To some extent, that's a reflection
of the underlying risk and volatility of the sector.
Shipping companies know they have to compensate even
aggressive investors for the bumpy ride. Conceivably, companies could cut their dividends in the
future. But they understand there is
probably more risk in reducing their dividend -- and
potentially alienating investors -- than the risk associated
with making high dividend payments. And perhaps more to the point, new investors have an
added level of safety as the downside price risk is
far lower than it's ever been.
Nick Lanyi, editor of
High-Yield International,
recently made this same time-sensitive observation -- giving
his subscribers the opportunity to lock in on these historic
shipping sector yields. Nick currently holds
two shipping companies in his "Ultra High-Yield" Portfolio;
one with a current yield of
28.0% and
another yielding 22.5%. Before the historic
drop in the BDI, yields for these companies were 8.5% and
14.0%, respectively -- attractive, but nowhere near as
mouth-watering as they are today.
Not only have the yields increased dramatically, both these companies have a history of
strong cash flows and are trading at P/E valuations in the
single digits. If you'd like to learn the names of these
stocks and learn
more about how Nick's timely analysis can help you find the
best high-yield opportunities around the globe,
please visit
this link.
Thanks for joining me on my search for today's
highest-yielding securities!
-- Nick Lanyi
Editor, High-Yield International
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