The Voice of Freight

Hedging your bets

Gavin van Marle | Thu, 11 Feb = 2010

Sea Freight Focus

The obscure art of derivatives trading =E2=80=93 long used in = bulk=20 commodities =E2=80=93 has finally come to the world of container = shipping.

The first trade on the Container Freight Swap Agreement (CFSA), = developed by=20 UK broker Clarksons Securities, took = place in=20 January between European shortsea shipping line Delphis and global = investment=20 bank Morgan Stanley.

The derivative is an over-the-counter cash swap that is to be settled = against=20 the Shanghai Shipping Exchange=E2=80=99s recently created Shanghai = Containerised Freight=20 Index (SCFI), with the settlement arrived at by taking an average on the = rate=20 over a four-week period.

The SCFI has =E2=80=9Call in=E2=80=9D spot rate levels for 15 = routes in and out of=20 Shanghai, gained from rate quotes from 15 deepsea container carriers and = 15=20 freight forwarders and major slot purchasers. A comprehensive index is = also=20 taken from an average of these 15 routes through a weighting system (see = table=20 below).

Ben Gibson, on Clarksons=E2=80=99 = freight derivatives=20 desk, tells IFW that there were likely to be two types of = customer:=20 =E2=80=9CFirstly, there be will investors from financial institutions = who may operate in=20 a number of ways: as proprietary traders speculating in the market; as = traders=20 taking positions on behalf of their clients involved in container = shipping; or=20 as hedgers themselves looking to take cover against shipping debt the = bank may=20 have.

=E2=80=9CThe second type of customer is a hedger, who is looking to = use the=20 derivative to reduce his overall exposure to market movements by taking = a=20 position on paper that is the exact opposite of where he wants the = market to go.=20

=E2=80=9CIf I was a carrier and had exposure to freight rates = dropping, then I would=20 sell a paper taking a position on rates dropping, and the perfect hedge = is one=20 which cancels out of the loss of earnings through freight rates = dropping.

=E2=80=9CIt=E2=80=99s a form of insurance, and some customers want to = eliminate as much risk=20 as possible. This helps them to lock-in stability =E2=80=93 it provides = stability in=20 their income streams.=E2=80=9D

He is also at pains to press home the point that derivatives trading = on=20 container freight rates has nothing to do with actually moving boxes = between=20 Asia and Europe. =E2=80=9CYou can=E2=80=99t cash-in your contract for = teu slots =E2=80=93 this is simply=20 a cash instrument.

=E2=80=9CFor freight forwarders, it=E2=80=99s an extra tool. If they = are buying space and=20 selling it on, it gives them the opportunity to insure against that, as = a=20 shipper would. However, many freight forwarders don=E2=80=99t do that, = they block-book=20 space and act as agents for their customers or the lines, and this = allows them=20 to offer a risk management function.

=E2=80=9CThen they can say, =E2=80=98this is the rate that we are = getting at the moment, but=20 that may fluctuate =E2=80=93 by taking a paper position we can manage = against that=20 risk=E2=80=99. That is a value-add they can offer their = customers.=E2=80=9D

The trick for Clarksons was to = indentify a=20 neutral partner that could create the index, and guarantee the = participants=E2=80=99=20 integrity, and its own integrity.

=E2=80=9CWe already had a relationship with the Shanghai Shipping = Exchange. The key=20 feature of its index is that it solves the question of neutrality by = getting the=20 information from both carriers and their customers,=E2=80=9D says Gibson =

The Shanghai Shipping Exchange is a not-for-profit body set up by the = Chinese=20 government to provide information and an exchange premises for = international=20 shipping. The SCFI liner panellists comprise CMA CGM, Coscon, China = Shipping,=20 Hanjin, Shanghai HaiHau Shipping, Hapag-Lloyd, Jin Jiang, K Line, = Maersk, MOL,=20 NYK, OOCL, PIL, Sinotrans and SITC.

=E2=80=9COn the non-carrier side, the panellists are more Chinese = than you might=20 expect, but we felt that it was vital we had input from the demand side = of the=20 business. We hope the panel will be extended to include more = multinational=20 forwarders,=E2=80=9D he adds.

The shipper and freight forwarder panellists are Orient International = Logistics, UBI Logistics, JHJ International Transportation, SIPG = Logistics,=20 Shanghai Orient Express International Logistics, Shanghai Huaxing = International=20 Container Freight Transportation, Shanghai Jinchang Logistics, Shanghai = Shenda=20 International Transportation, Shanghai Viewtrans, Shanghai Richhood=20 International Logistics, Shanghai Ever-leading International, Shanghai = Asian=20 Development International Trans Pudong, Sunshine-Quick Group, Cosco = Logistics=20 and Sinotrans Eastern.

=E2=80=9CIt=E2=80=99s early days,=E2=80=9D admits Gibson. = =E2=80=9CWhat we are doing is talking to a lot of=20 users, and there=E2=80=99s been a lot of interest.

=E2=80=9CWhat held us up offering this before was the lack of a = benchmark in=20 container shipping. We have been looking at this for some time, but we = needed=20 the right index to be able to settle.=E2=80=9D

Clarksons initially looked at = containership=20 charter rates as a possible benchmark, but found that the market = wasn=E2=80=99t as=20 volatile as bulker charter rates.

=E2=80=9CYou need volatility for a derivatives product to = work,=E2=80=9D says Gibson, =E2=80=9Cand=20 the freight rates market has that sort of volatility.=E2=80=9D

Indeed, a cursory glance at the recent history of freight rates on = the 19=20 routes covered by the index (see table) bears this out.

Click on table to enlarge

The last 12 months has seen some of the most extreme swings on the = mainline=20 Asia-Europe trades, from a reported all-in level of $350 per teu this = time last=20 year, to a reported $2,000-plus spot rate per teu last week.

The next stage is to bring more customers into trading in = derivatives, but=20 that will also rely on a clearing house becoming involved, which will = take away=20 a lot of burdensome administrative procedures.

=E2=80=9CAt the moment, the market is 100% over-the-counter =E2=80=93 = both parties are able=20 to trade with each other once credit terms have been cleared, which = means it is=20 quite a long process to get a deal done. Generally it takes about a = fortnight to=20 go through all the compliance.

=E2=80=9CEarly in the second quarter, it is envisaged that we will be = able to bring a=20 clearing house into the market, which has cash in it to cover all the = trades.=20 That will open up a huge range of counterparties."

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