Capital costs for shipowners go up as the Federal Reserve continues to hike interest rates. Oliver Faak, Partner & Head of Europe at advisory and fund manager Transport Capital, says it’s about time to consider fixed instead of floating rate loans in ship financing.[ds_preview]
War, sanctions and inflation are causing turmoil in the world economy. Downside risks for shipping have increased. Does it impact the ship finance market?
Oliver Faak: Supply of debt capital for shipping is surprisingly stable and even expanding. There are still new debt/credit funds entering the market and adding to competition. As a result, we have seen an erosion in interest margins for shipping loans, which are down to 250 b.p. in some cases, along with a relaxation in terms & conditions, covenants etc. No doubt, this is a comfortable situation for shipowners as most of them will assure you that credit availability is not an issue at all.
However, we believe the situation is about to turn at some point soon as banks won’t be able to maintain this kind of risk appetite. On the whole, the implications of the war and sanctions against Russia on ship financing were marginal so far. All we saw was the insolvency of Amsterdam Trade Bank and some isolated cases of Russian involvement in projects that look manageable. Still, there is a potential for the conflict to escalate further. For me the worst scenario from a ship finance perspective would be if China got dragged into it and afflicted by sanctions against its finance sector including ship leasing.
Dollar interest rates are rising faster than expected now, with the Fed hiking its prime rate to 0.75–1.0 %. Should shipowners be alarmed about rising capex? How should they react?
Faak: The Fed is expected to lift its key rate to 2.5 %, perhaps even to 2.75–3.0 %, by the end of the year. For sure, this can have a major impact on debt service levels. It is something owners should be keenly aware of in order to prevent getting squeezed if at the same time charter markets go into decline. I believe it is time for owners to consider a switch from traditional floating to fixed-rate loan agreements when refinancing ships.
Currently, the premium for fixed-rate shipping loans, respectively interest rate hedging, is still pretty high at around 130 b.p. versus floating. But taking into consideration aforementioned Fed interest rate hikes at the short end of the interest rate curve, the overall yield curve could turn into a flat if not an inverted mode. Therefore, hedging could offer good value in the face of more upcoming interest hikes and a more challenging economic environment.
How about the growing use of »green loans« linked to the performance on emission savings? Can it help owners contain capital costs?
Faak: »Green« projects are generally the more attractive propositions for investors. From a debt perspective, it is a different story. Amid all the hype about green loans people tend to overlook that the financial benefits are at best minimal. The margin grid, i.e. the benefit for maximum performance on emission savings for a financed fleet, is as little as 10 b.p. With all respect, that’s a joke when you compare it with the margin spread linked to financial covenants of 60-100 b.p.
However, this differential is probably justified because interest margins are there to cover default risks which depend on the financial performance. There is no logical link between default risk and environmental factors, at least not a direct one. (mph)
