Financial and Interest Rate Risk in Shipping

Abstract

In addition to fluctuations of freight rates, bunker prices and asset prices, unanticipated interest rate changes justify a substantial fraction of the shipping risk management function. Vast amounts of capital are required for the financing needs of shipping companies, the majority of which are provided through loans via international commercial banks. Shipping finance structure has changed as the industry evolves and becomes more mature, with sophisticated financial instruments and well-informed market participants. Indeed, apart from debt financing, instruments such as bank loans, asset-backed mortgages, bond issues, private placements and shipyard financing, a shipping company may raise funds through equity (retained profits, rights issues, public offerings) or even mezzanine funds (convertible bonds, unsecured debt). The latter strategy assumes more risk and is less popular in the maritime business, due to the capital-intensive nature of the industry which gives rise to highly leveraged companies. The inverse effect, which interest-rate volatility may have on the assets and liabilities of a company, can lead to severe liquidity problems and mismatching of cash inflows and outflows, especially in the shipping markets where business-cycle dynamics are proved to be catastrophic during periods of ‘troughs’.