Earn a steady income from ships
Investors can now earn an income from renting out ships thanks to a new fund. Should you take advantage? David C Stevenson investigates.
Just before Christmas a Guernsey-based fund called Tufton Oceanic Assets (LSE: SHIP) launched on the London Stock Exchange, marking a real first for London a chance for investors to make an income by renting out ships. Investors have long been able to invest in shipping giants such as Maersk or Hapag-Lloyd. But these are cyclical trading businesses, rather than ones focused on producing a steady dividend stream. In the UK, it has been possible to invest in a few small ship-owning companies under the Enterprise Investment Scheme (EIS), but there were no shipping investment trusts.
A huge liquid market
This is a pity, because there's much to like about the market. Like aeroplanes, ships produce a steady stream of rental or lease payments, and the market in shipping rentals is huge and very liquid, with many reliable, creditworthy customers. On the downside, its cyclical nature means the market is prone to bouts of oversupply, with prices collapsing as a result as they did for the Baltic Dry index (which charts the cost of transporting raw materials) after 2008.
But unlike many other asset-backed markets, grabbing hold of delinquent assets in a slump isn't hard repossessions have been going on for hundreds of years, and there is a very liquid market in new rentals for the ship owner. And as with any cyclical market, there's always the potential for an upturn indeed, we may be seeing one right now. The Baltic Dry has risen by around 60% over the past five years. The global economy is humming, helped by a strong US and China. Cargo rates have stabilised, and shipyards are relatively less busy the global order book for new ships is at a 20-year low, and shipyard capacity has shrunk by 16% since 2012.
An established player
Tufton is an established player in the second-hand ship market, managing around $1.5bn across a variety of funds. It tends to target product tankers, bulk-cargo ships and smaller container ships. The vessels themselves might be anything from five- to 20-years old, trading at between 30% and 70% of their new value, while customers charter them for between two and ten years. As with aeroplanes, sale-and-leaseback deals are common a big operator sells their new ship to a funding vehicle such as Tufton, then leases it from them. This leaves the finance outfit to deal with the hassle of the final residual value, or resale value. This is where the real profits are made by buying second-hand ships cheaply, and making sure the residual value is as high as possible.
Tufton maintains that now is the right time to buy. Certain types of ship arestill quite cheap to buy, but rental rates are rising alongside the economy. This upturn isn't being swamped (yet) by a sudden spike in new ship construction. Tufton reckons it can pay out 7% per year (5% in the first year), with an overall internal rate of return (a measure of project profitability) including capital gains of 12%. Tufton's existing institutional fund has made a total return of 12.5% since 2015.
The risks are clear (which is why the fund is floated on the specialist market, aimed at institutions and sophisticated investors). Shipping is cyclical and, in a downturn, residual values could plunge, and rental yields dry up. The fund is also dollar-denominated, which introduces currency risk. Yet as part of a diversified portfolio, this is an excellent source of alternative income, with real asset backing and steady income streams.
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