Stochastic modeling of Supramax spot and forward freight rates

Abstract

We conducted an empirical analysis of Supramax spot rates and propose a continuous time process to model the dynamics. The model incorporates features relevant for shipping freight rates, freight rate volatility that varies over time, sudden, big freight rate movements, and short-term, mean-reverting price trends. This suggests some degree of short-term predictability of Supramax spot rates, making shipping different from traditional asset markets, like stocks and currencies, and also most commodity markets. However, this does not imply that arbitrage profits are easily picked up in this market, as, financially speaking, spot freight rates are not traded assets. We instead focus on the relationship between the spot price dynamics and the forward freight agreements (FFAs) market. We apply our model to derive theoretical FFA rates. Compared with actual FFA prices, our theoretical model is able to mimic various FFA curve shapes also seen in the market. This suggests that our model may be useful for various financial management applications in shipping.