In the New Testament’s Epistle to the Galatians, Paul the Apostle wrote: “Whatsoever a man soweth, that shall he also reap”. In slightly less devout terms, US musician Lou Reed repeated the message in 1972’s Perfect Day when he sang: “You're going to reap just what you sow.”
Shipping would be wise to remember both Paul and Reed’s advice when considering market cycles and overzealous investment in get-rich-quick schemes.
In TradeWinds' Germany Focus this week, some of those who did well out of the country’s boom in containership ordering and chartering now lament the country’s loss of control over the fleets of ships built under the tax-efficient KG (limited partnership) financing schemes.
One of the earliest architects of KG financing, Bernd Kortum argues that the oversupply of containerships was not created by the investment boom but by the over-ordering of mega-vessels by carriers competing irrationally for market dominance.
He has a point. But his argument ignores the "snouts in the trough" frenzy that also developed in Germany over the five or so years before the crash in 2008.
when owners now say that ongoing problems for German fleet ownership are caused by the banks dealing with regulatory problems, they have a point
Kortum is not to blame for that frenzy in any way. He was one of the most conservative users of KG financing, withdrawing from the market years before others did, with his managers being among the most vocal that too many poor-quality deals were being done, and that it was no longer possible to create financially sound KG packages as prices and charter rates soared.
Bad luck
And Kortum can also count himself extremely unlucky that, despite his good sense, his own companies were eventually caught up in the fallout from the collapse and had to be sold.
But it was inevitable that, despite some proclamations that a new paradigm of higher-level rates had been achieved, there would be a slump at some point and the equations that supported so many peak-period KG deals would no longer add up.
When well in excess of $40,000 per day was reported for the charter of a then KG-bellwether 2,500-teu boxship, TradeWinds predicted the rate could never be bettered and was told off for doing so. Nowadays, an owner would dream of the meagre profits available from $10,000 per day.
For a couple of years after that, TradeWinds increasingly questioned market players about the financial sense of many of the deals that were being done, arguing that they were stoking up the conditions for a crash. We were told, "yes you are right, but there is still money to be made now from doing these deals", and so people will continue to do them.
Commissions and fees to be made by financing ships were the determinants of decisions, not whether the vessels could be operated for a lifetime at profitable levels of hire. But ship profitability was what the KG system of the period had been designed to achieve after an earlier crash caused by it becoming a tax avoidance scheme.
When the crash came, it was due to a similarly buccaneer approach to financing sub-prime house mortgages in the US — and it is hard to argue against the reasoning that German shipping is still in a mess more than a decade later. Too many ships were similarly mortgaged in ways that meant no one would be able to pay the bills.
Bank finance woes
So, when owners now say that ongoing problems for German fleet ownership are caused by the banks dealing with regulatory problems, they have a point.
But one of the biggest reasons why many German banks have got into the position of struggling with regulations to tighten their behaviour is because they were involved in too many financing deals that were never going to work in the long term.
Now, of course, private equity is marching in to pick up the pieces. The entry of such firms is likely to mean loan portfolios will continue to change hands for some time to come yet. Shipowners fear that some of the funds might take ownership of distressed vessels by pursuing “loan-to-own” schemes that involve the conversion of debt into equity.
Those tempted to invest in such schemes should first look at the fundamentals of the world economy as well as specific shipping markets. Remember the advice, you will reap what you sow: whether it be a good or a bad outcome.
