A Misguided Correlation Keeps Shipping Stocks Undervalued
Monday 10/04/2010 9:58 AM ET - Dow Jones News
Related Companies
Symbol Last %Chg
DRYS 4.68 0.43%
DSX 12.71 0.08%
GNK 16.24 -0.85%
PRGN 3.95 -0.25%
SHIP 1.19 -0.83%
As of 9:48 AM ET 10/6/10
By David Benoit
Of DOW JONES NEWSWIRES
NEW YORK (Dow Jones)--The shippers carrying commodities across the seas believe world-wide demand is strong but investors are missing the boat.
Heads of companies, from steady Paragon Shipping Inc. (PRGN) to little Seanergy Maritime Holdings Corp. (SHIP), say they see no slump in the tons of iron ore, coal, wheat and other dry bulk products they haul. And while they are rightly worried there may be too many ships in the water, they say global demand will keep hulls full.
But that optimism hasn't spread to their share prices. Shipping stocks remain down sharply this year and well below the prices analysts call fair. An index that tracks shipping stocks is down 8% this year, in contrast with the Standard & Poor 500's 2.7% gain.
The culprit in the discrepancy is a measure investors look to as a gauge, the Baltic Dry Index, which is down 18% this year.
The BDI measures the price of chartering a ship, and so in some ways it makes sense to tie the value of shippers to what they can charge. But it isn't that simple, as shippers sign charter contracts long in advance. And while an increase in ships in the sea can skew the BDI, one shipper launching empty ships doesn't necessarily hurt another.
Although the BDI has enjoyed some time in the spotlight as a valuable leading indicator for the health of the global economy, reportedly even a favorite of former Federal Reserve Chairman Alan Greenspan, its use for judging both the economy and equities is currently flawed.
The death knell should have come this summer, when the BDI fell for 35 straight sessions from late May to mid-July, losing 60% in the process and dragging shippers' shares down with it. The fall had nothing to do with demand, and everything to do with a sudden surge in supply.
The order book, the list of ships being built, had always been predictable and carefully aligned with demand. But this summer, ships ordered at the height of the economic boom were delivered and the global economy didn't have the demand to match it.
The index dropped like an anchor, its status as an indicator lost. Yet the equities remain tethered.
The index that tracks the stocks, created by Capital Link Inc., an investor-relations firm and shipping website, shows stocks peaked in early May and bottomed in mid-July, just like the BDI.
For individual stocks, the picture is similar as even the strongest remain down for 2010. Genco Shipping & Trading Ltd. (GNK) is down 29%, DryShips Inc. (DRYS) is off 18% and Diana Shipping Inc. (DSX) has slipped 11%.
All three stocks could rise 20% and still be undervalued by their average analyst targets, according to FactSet Research, proof the typical investor is missing the point.
By trading with the BDI, investors overlook that shippers sign contracts and a one-day BDI change doesn't affect a contract signed a year earlier. For instance, Star Bulk Carriers Corp. (SBLK) and Seanergy have two-thirds of next year's capacity under contract, while Paragon leads with 93%.
Dale Ploughman, chief executive of Seanergy, says investors "should be a little more sophisticated" and look at each company's specific situation. He says his company is growing rapidly but not adding debt.
Investors also don't appear to distinguish how shippers manage their businesses, Jefferies analyst Douglas Mavrinac says. So stocks like Genco, his top pick, are valued like the rest despite a strong balance sheet and good contract coverage.
Suffering a similar plight are Diana Shipping--which gains much Wall Street applause for having the lowest debt compared with capital--and DryShips, with high coverage and deep sea drilling operations.
Still, while the use of the BDI is flawed, concerns about the oversupply of ships aren't misplaced. Oppenheimer analyst Scott Burk warns, even if much of the order book is canceled, the extra supply could keep earnings low.
Michael Bodouroglou, chief executive of Paragon, speculates the BDI could fall by another quarter. That would probably scare investors, but it could encourage shippers to reduce supply, a positive for the industry.
Meanwhile, demand from China and India, where most of the dry bulk ships head, remains strong. Executives say reports of slowdowns there aren't materializing, and they are looking for continued growth. For example, Star Bulk Chief Executive Akis Tsirigakis says India wants 10 private dry bulk ports by 2012. It has one today.
If demand continues like that, and supply isn't as bad as some fear, the stocks may be able to break the BDI chain and climb with the broader market, says Capital Link President Nicolas Bornozis.
The question is, will investors notice?
"I hope one day somebody will wake up and say Seanergy really is the gem that their CEO is saying it is," Ploughman says. "The only input I could give is I will continue to do what I'm doing."
-By David Benoit, Dow Jones Newswires; 212-416-2458; david.benoit@dowjones.com;
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