Analyst downgrades outperform their upgrades
February 08, 2011
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Mr. Market says stock are undervalued; some are. I have mentioned this phenomenon previously that of analyst up grades and downgrades. Does it make a difference what the talking heads say or when they say it? You bet!
For example have you ever known Cramer to promote a stock that had not already run up? I don't remember any. Everything he promotes has already run up. So Cramer's calls are generally late. And that is not good. If they are too late, the they run the risk of leading investors into their doom either way.
Analysts tend to be late on their calls. On upgrades, they are good on average for a 12% move and that's it. Downgrades however have an average upside of 35%! So it looks like Analyst are good at finding near tops and bedrock bottoms.
Take Dahlmar. This interesting aspect of this company is that it has only two recommendations BUY or Hold. And most of the time they downgrade from their own BUY recommendation to Hold.
Examples: FMC Technologies [FTI] This was a Buy they turned into a Hold. That means they were contemplating this announcement in Nov and About dec 2010 hit the company for a HOLD downgrade. The company was selling for 80 a share. The stock rose and is now 96 dollars a share. This is a nice 20% gain.
Then in Nov. 2010 they hit Rowan Company RDC with another one of their famous Buy to HOLD downgrades. This time they seem to have found the bedrock bottom and the stock went up from 30 then to 38 today... That is about a 27% increase in share value since Nov 2010.
So today Dahlmar continued its favorite whipping post, Bulk Shipping. The downgrades were their typical from Buy to Hold. Although in some cases they moved from Overweight to Hold. They included most Bulk shippers.
My contention is once again, they have probably found the bottom.
Shippers are not for the faint of heart but much of the analysis is flawed and based on two ideas: One is the Baltic Index and the other is the claim that there is a shipping glut.
First the shipping glut:
Yes shippers ordered new ships in 2008 and they have been delivered. These ships were intended for use in pre-recession market. The recession hit and the markets tumbled. But many shippers survived with China's hunger for bulk materials. These include iron ore, coal, grains etc. But China is only one country so the bulk shipping numbers have not recovered, they have merely kept the industry afloat. Some have retired older ships some have had credit issues taking new ships. So there has been some dilution, some temporary reduction or curtailment of dividends. But by in large the companies have made it through the worst.
Most Analysts have no real notion of the "glut" so they estimate it at between 5 to 8%. Some give outrageous glut estimates of 18%. That is only because business post recession has been anemic and is off about 18% from the pre recession markets. So they have mixed their terms up. But taking the middle range at 8%, is not significant if the global economy is on the mend and Asia and India continue to buy more materials. So if you are bullish on Materials then you should be bullish on bulk shipping. If you subscribe to the idea that the global economies are getting ready for explosive growth then an 18% increase in orders to pre-recession numbers is easily in view.
The Chinese appetite for bulk materials is not going to slow. For one thing they are feeding the world's largest steel industry, one that has grown geometrically. They surpassed US steel production years ago and today produce 700% more steel than the United States and growing. To imagine a world that recovers from this recession is to watch the emerging markets rocket. Analysts amazingly do not value the future growth in shipping. Most analysts have suggested that materials were up 6% since the recession ended and shippers have not benefited.
My contention is that the growth has been anemic by the Western laggards, the USA and Europe. There has also been a commodities speculation bubble driven largely by Western bankers and hedge funds which has modestly slowed demand. There are no shortages of supply, just higher prices. Most recently cotton has been targeted by ICE to virtually eliminate speculators from the Cotton markets that can't show some material business risk to the commodity. If this happens to other commodities then prices will drop tremendously. That would stir huge global consumption.
New Ship Orders and Debt:
Analysts are concerned about new ship deliveries and debt. But this is not like buying a generic truck of some kind where the shipbuilder can repossess the ship. Same with creditors. If they repossess a ship, it can't make any money. So creditors tend to take the long view in shipping and negotiate favorable terms. Sometimes they engage in leasebacks for lower rates. Ships can have a relatively long life and creditors understand the business.
There are also insurance issues. In the oil tanker arena, double hull tankers are required in most ports of entry. A large oil producer may be able to contract a single hull tanker to ship to the US Gulf but the risk of loss is so great, only double hull tankers are now contracted even though the law allows single hull ships. The same issues involve bulk shipping of chemicals like phosphates, and coal. Contractors want seaworthy newer vessels so their is a natural progression to depreciate the assets and sell them for scrap.
If ships have been taken out of service, then it is more costly to bring them back so recession speed up the process of write downs and that is true with any capital item of this scale.
The Dry Bulk Baltic index: It is the lowest since the depth of the recession.
So day rates have plunged on the spot market to $10K a day from $25K a day a year ago. But what the analysts and hedge funds do not explain is the concept of Slow Shipping. Pioneered by Mazerk Line, it was discovered that by slowing the ship considerable the cost savings on fuel the highest cost of the ship can be reduced by between 15 to 25%. Cargoes are delivered several day to even two weeks later. Thus, the voyage rate remains the same but the day rate must drop to accommodate the slower speed.
While the short interest and the hedge fund press like Bloomberg is attacking the shipping industry, over the Baltic Index, they avoid explaining why the index has dropped so they just chalk it up to a glut of ships and don't actually look at how the industry operates. Slow Shipping applies to all shipping industries. Thus, the Baltic index is extremely misleading.
Another issue involved is that most bulk shippers have long term contracts. They are not necessarily negotiated on price alone. Some materials producers are share holders. Most want safe deliveries with a firm with a good record. So they will pay more for that. They will pay more for newer ships which manage risk better and which have higher offload and load speeds. Its not just price. Further, all prices are not negotiated from the day rates.
Some ships, especially the older ships are moved to the day rate business. These ships are fully depreciated and can preform short runs with less cost. The point is the situation with day rates is dynamic.
Finally, with slow shipping, crews are at sea longer. So while there may be some present glut in shipping capacity in the dead winter of a recession, there is a shortage of Captains with experience and ratings for the larger vessels.
In conclusion, I submit that the Dahlmar downgrades are late to the party and have likely done what most analysts do, found the bedrock bottom not the top. It is my opinion that the shipping industry at large has bottomed. These include bulk shippers, tankers, and container ships. And anyone who is not daydreaming about some kind of survivalist scenario, is starting to feel the global economy coming alive. This means colossal building, massive materials, and energy and product meeting worldwide demand.
Steve Cohen, hedge fund guru of SAC investments announced in Sept 2010 in a 13G that the fund had purchased 6% of Genco. This guy is very secretive and may have subsequently sold or is buying more. Cohen is not loved on the street but nobody disputes his savvy. Nevertheless, he may have just been early to the dance. Some dances are worth waiting for.
Bottom line; there can be no global economic recovery or boom without shipping. If you think the global economy is about to take off then shipping may give you what you have always wanted in a stock, a big fat dividend and a massive run skyward.
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