Changing economic paradigms: Governments and financial industry crowding out capital and labor

The great divide of 19th and 20th century capitalism was the antithesis between capital and labor. Our perceptions today are molded in this framework, but this is slowly being displaced in the 21st century by a new divide line between governments, big bureaucracies like the European Union with their banking industry partners declaring war on capital and labor mutually, putting them both under severe pressure by massive socialization of losses created by their policy decisions at the expense of general society.

Essentially this new state corporatism is a modern form of rent extraction fuelled by ‘pretend and extend’ policies on unsustainable public debt levels. This is crowding out productive investment, creating negative returns on capital and reducing wages in a downward spiral of debt deflation and at best sub-par recovery with high levels of unemployment. 

The old Marxist theory was that capitalism was unstable because the capitalists were using their power to suppress wages and this was leading to ever deeper economic cycles of boom and bust. Gradually with mass production, entrepreneurs like Henry Ford realized the importance of a mass consumer markets to sell these products even to their own workforce. Later in the Great Depression era, this evolved to the Keynesian view that governments can soften the impact of economic downturns by increasing their spending for economic stimulus to reflate. 

In the last 30 years, we are experiencing very high debt levels in excess of those that preceded the Great Depression and overly saturated consumer markets primed by bank credit. Today we have an evolving system of state corporatism. 

There is nowhere where this is more heavily concentrated than the Eurozone in the European Union. The common currency system has made governments reliant on commercial banking system to finance their deficits. The trade deficits are locked in because there is no natural adjustment mechanism by currency devaluation. The only way for member states to adjust the imbalances is either to borrow or to reduce consumption by aggressive use of deflation. Use of deflation results in bankrupting the domestic banking and pension systems as well as massive unemployment. 

This process has created mountains of unsustainable government debt, it has infected the entire EU banking system and it is currently being shored up by ECB programs like LITRO and OMT. The hard monetary policy of the ECB militates against monetization and the Eurozone policy has been to increase tax levels and declare war on capital with increasing use of the banking system as means of tax collection. The high levels of taxation are pro-cyclical and deepen the recessions. Greece is a textbook case.

Despite years of austerity with GDP output decline to Great Depression levels and massive PSI+ haircuts, Greek public debt levels remain as high as ever and unsustainable. The ultimate in this policy thinking was the Cyprus bail-in where depositors become shareholders and were taxed directly to absorb the banking losses, generated from default and haircuts on government debt instruments. Decisions are arbitrarily made by EU policy makers and their governments without direct representation of the people affected in the member states. The old rules of no taxation without representation have been broken. 

With the massive economic scandals in Greece with the TT and arms procurement, the Greek political elite are increasingly looking like a class of robber barons. This same class of people has been aggressively increasing levels of taxation on businesses and private individuals with new draconian and repressive tax laws with powers of garnishment and expropriation of bank accounts and income streams for collection. Backlash and resentment is rising to the boiling point in Greece. 

In the shipping community, we have an interesting phenomenon of ship owners, office staff and Piraeus port dock workers all adversely affected by these policies. The Greek shipping SME’s (small medium businesses) cannot get sufficient bank credit from the Greek banking system to roll over and renew their fleets, the management companies are forced to pay double Greek flag tonnage tax on their vessels, the service offices have been arbitrarily taxed (even retroactively) on their imported foreign exchange to pay general office expenses, the office staff is being taxed right and left reducing their disposable income and the dock workers face low wages, unemployment and competition from foreign immigrants for labor needs. 

Admittedly, these groups do not perceive necessarily that they are all in the same basket with common adversaries, but in fact a new dividing line is becoming increasingly clear. The zero sum game is between EU policy makers, the political elite with their banking system partners diverting resources from the general population and the business class. The resources are going to sustain the Eurocurrency system and the political elite at the expense of both capital and labour, putting them mutually under increasing pressure, resulting in increasing business closures and high unemployment.  

Added to this, the political dynamics of the Eurozone are changing with the recent turn of the French government (presently at record lows in public opinion polls} in complete capitulation to the Germans by embracing of Say’s Law (supply creates its own demand). The old French-German partnership that drove the European Union is being superseded by an all-powerful Germany, who drives major policy decisions as it sees fit. This is more than just a calamity of economic policy but an event of major political consequences. 

• It fuels domestically in France the Eurosceptic movement of Marine LePen leading in the polls for the forthcoming Euro parliament elections. 
• It reinforces the German supply-side consensus and establishes the principle that the only way to co-exist in a monetary union with Germany and the other Nordics is to become like them. 
• This makes Eurozone membership virtually compulsory to stay in the EU, which will ultimately lead to the exit of the United Kingdom. 
•  It also makes adjustment in EU periphery countries like Greece likewise virtually impossible to remain in the Eurozone and EU. 

In the forthcoming Euro-elections there is a deepening divide between the Federalists, who want more EU centralization and integration and those, who want to break up the Eurozone, want to reaffirm the sovereignty of the nation-state with a smaller, weaker EU that functions as a trade zone.

For these reasons, the party system in Greece is fragmenting and the two main political parties are in disrepute. There is likely going to be increasing instability in Greece and the European Union in the coming months. The Europarliamentary elections are likely to be a catalyst for major policy changes, should the prevailing 'status quo' be altered by the results.

Shrinking credit markets?

  

The Eurozone crisis has taken a new turn for the shipping industry this year with more stringent ECB rules on asset quality control. This process may further restrict shipping credit from European banks, which still remain today a major source of senior debt financing for the shipping industry. The new rules may restrict bank options in working out the non-performing loans on their books, warehousing shipping assets and selling off portions of their loan portfolios to hedge funds and distressed asset investors. Auditors are unsure of the impact of these new rules on their banking client’s balance sheets. 

German shipping banks have been the largest source of senior debt for the Greek fleet. DvB Bank last year was one of the few major banks still expanding its shipping loan portfolio and a leader in putting new shipping loans on their books. 

There was considerable discussion about the ship finance deficit at the annual ICS Forum in Athens last December. The Greek banking system is in very poor shape. Speakers like Michael Bodouroglou and Ted Petropoulos are estimating a huge funding deficit for needed fleet renewal. The facts from their presentations are that whilst there has been a rise in non-conventional funding sources like private equity and capital markets, it is still small comparatively to the bank lending and does not come close to filling the finance gap. 

Old timers like Petropoulos are still quite hostile to private equity partnerships in shipping, emphasizing non-alignment of interests, but events and times are overtaking them out of necessity to deal with the pressures of the funding gap. Petropoulos himself admits Greek SME shipping companies face presently a bleak future due collapse of the local banking system and there will be immense pressure for consolidation. Petropoulos also made the point that Greeks for the first time in decades are beginning to fund vessel purchases on a cash basis. 

There is another dimension to this as well. The EU/ ECB is the home of austerian economics thinking and aggressive use of deflation to lower domestic prices by ‘internal devaluation’. They are challenged by poor results from these policies in weak economic growth and increasing bad debt as well as massive social cost. The more successful Anglo-Saxons have fared better – by comparison – with QE due their distaste for economic depressions that Europeans seem more willing to accept. 

These kinds of AQR (asset quality review) policies are a direct result of EU thinking. Presumably, the ECB is trying to shore up EU banks for all the government NPL’s that the Eurozone system produces by the way that they work. Greece is a textbook case. Five years of recession, 20-30% of GDP destroyed, 30% unemployment/ 60% unemployment, bankrupt local banking system, bankrupt pension system and a major private creditor PSA+ restructuring, yet still extremely high level of public debt that the IMF wants restructured with the EU/ECB balking. The present Greek government turned down an IMF proposal to help them pursue an OSI (public sector debt restructing with their EZ partners), claiming that they are an EU success story. 

Politics is likely driving this AQR thinking because of the debt deflation situation and this is creating a negative feedback loop. Contracting bank credit means most likely more recessionary drag and deflation. In any case, it is far from certain in any way that the Far East, particularly Chinese banks will be able ultimately to fill the slack for shipping. Likely they have, however, plenty of their own NPL’s to Chinese SOE’s that are catching up with them. Their existing shipping loan holdings are small compared to the major European banks. It is certainly easier to fund new building because of the available export credits over purchase of older tonnage, where credit is virtually non-existent for non-Chinese shipping companies from Far East banks. 

On this basis, these EU/ ECB policies are likely to contribute to more anemic sub-par recovery. The credit deficit and deflationary climate bodes badly for asset prices. On the other hand, the present climate has opened significant opportunities for listed shipping companies like Navios and their deals with HSH. 

Ship finance is very much an increasing case of ‘haves’ and ‘have-nots’. Those shipping companies who presciently and successfully established themselves in capital markets have access to financial resources thgat their their private competitors, who are heavily reliant on bank finance, do not have.  Further industry consolidation seems a direct consequence.

Scorpio Bulk: new ground in shipping investments

Scorpio Bulk is attracting massive media attention. It is start-up dry bulk company with no operational history, riding on the name of Scorpio Tankers and their management team. 

Following the tanker fleet strategy, the concept has been to build up a large fleet by aggressively acquiring yard slots. They currently have a fleet entirely on paper that consists of 23 Capesize bulkers, 23 Kamsarmax bulkers and 28 Ultramax bulkers from various yards all for delivery between 2015 and 2016. They have to build an organization for the commercial and technical management of this very large fleet. This amounts to a massive futures position in dry bulk assets that depends on market conditions in 12 - 24 months for employment. It is fairly concentrated shipping risk. 

 It is not surprising that there have been mixed comments about Scorpio Bulk. This venture has a very different history from Scorpio Tankers. Emmanuelle Lauro built the tanker operation methodically concentrating initially on a tanker pool with partners and building up a substantial commercial team. He also had a tanker fleet in the water that he was managing and operating. He then hired Robert Bugbee and organized an IPO to acquire tanker assets. 

This venture conversely is contracting new buildings without any vessels in the water. Indeed prior to Scorpio Bulk that was supposed to be an impossible schema for a public shipping company because investors wanted operating cash flow with vessels in the water before funding any shipping projects with forward deliveries and were not prepared to endure negative cash flow for prolonged periods before the vessels hit the water. Scorpio broke revolutionary ground that had never been done before in public markets. 

What Scorpio wants ultimately to do with this company and its assets is yet to be seen. Bugbee may be trying to replicate OMI and look at an opportune moment to cash in and sell out the company or its assets for profit. Prima facie, however, they are looking to build an operating dry bulk company alongside their tanker operation. 

The key factor here is how the dry bulk markets will be faring when the vessels hit the water. The prevailing school of thought today is that dry bulk markets are likely to be good for the next two years with Chinese closure of domestic mines and increasing imports of coal and iron ore from cheaper and more efficient overseas sources. After two years, this substitution process will have been completed and the surge in demand will level off to inventory restocking needs. This is especially important for Scorpio Bulk since their fleet is larger bulk carriers, where these are primary trade. There are no handysize vessels in their fleet. 

The major investment premise is that the vessels have been contracted at historically low prices and markets have nowhere to go but upwards in the coming years. The vessels are new and fuel efficient. The major risk hypothetically is that Chinese growth rates disappoint and the rebalancing, including Chinese long positions in commodities need to be liquidated at losses. Historically, falling commodities prices has been a negative factor for freight rates. China finds itself in a middle income trap and there is no other source of fresh demand so that shipping markets face a prolonged downturn of low rates. 

Another risk that the present type of eco vessel is rapidly superseded by change of fuel and becomes obsolescent prematurely. This concerns the general strategy of Scorpio, heavily predicated on the eco-ship story and heavily invested in current eco-designs. 

Most shipping experts are confident that these are unlikely scenarios, but shipping is always unpredictable because trade relations are constantly in flux. Scorpio has undoubtedly considerable new building risk with a very concentrated position. No rewards without taking on risks.

Goodbye Greece, Hello Hellas: Rebranding of Greece in troubled waters

 Christos Alexopoulos has written a thoughtful book, calling for the rebirth of Greece from its present decline. He represents the views of a very large part of the Greek middle class. Their hopes were for Greece’s accession to the European Union and participation in the Eurozone as a springboard for prosperity. Now with the pain of the fourth Greek bankruptcy, humiliation of the EU/ IMF workout program, massive unemployment and declining living standards from five years of recession, they feel in a quandary about their national future. They look back to Classical Greece and feel that this heritage entitles them to play a key role in Europe. 

The problem is two-fold: the failure of the developmental model of the last 30 years based on EU bootstrapping and the rapidly changing dynamics within the EU that undermine the very premises of their belief system. 

Greeks tend to see the European Union as a means of emancipation from the days of the Cold War and their relationship with the US for which they blame the Greek Junta period. For them, the European Union is everything. Membership in the Eurozone was to give them economic empowerment as a developed country, part of a unified Europe that would be on the same terms as the US, China and Russia as a major power. This viewpoint is a product of their political elite, set by Konstantinos Karamanlis on his return from self-imposed exile in France called back by the Greek general staff after the first phase of the Turkish invasion of Cyprus in July 1974. This marked the beginning of a new political era in Greece. 

Karamanlis ratified the actions of previous Dictator George Papadopoulos in abolishing the Greek Monarchy and establishing a Republic. He legalized the Greek Communist Party and generally entered into a period of expanded entitlements, hostility to private enterprise and foreign direct investments, trying to fend off the rising Pan Hellenic Socialist movement of his rival Andreas Papandreou.

His major achievement was convincing Giscard D’Etaing to support full Greek membership in the then European Community. This was meant to ensure political stability in Greece and provide economic resources in the way of transfer money for economic development. His ultimate successor, Andreas Papandreou pushed these policies to the limit, massively expanding entitlements funded by rapidly increasing national debt and socializing large sectors of the Greek economy by absorbing over indebted and failing Greek private companies already suffering from the adverse climate of the Karamanlis period. This led to an expanded state bureaucracy and speeded up the deindustrialization and decline of productive base in Greece.

The final phase before the fall was set by the Simitis government, who made membership in the Eurozone a national priority, proudly proclaiming Greece as a powerful and developed country. Eurozone membership was meant to resolve the increasingly serious problems of disturbingly high levels of public debt and weakening trade balances. The 2004 Athens Olympics Games was the showcase project of this era, despite the drug scandals of some high profile Greek athletes – tell-tale signs of the immorality of the times. 

In this belief system, the EU was good and on the rise. The US was bad and in decline. Greece in the EU was a politically and economically powerful country. The Greek political elite cultivated this belief system over the last 30 years. It never spoke honestly or openly to the Greek people on national issues. 

For example, despite months away from an IMF bailout request and full knowledge of the impending disaster from the Bank of Greece, George Papandreou – scion of an old Greek political family, ran for elections in 2009 on a platform that money was no problem. In power, he had no coherent plan to deal with the crisis and he appointed a totally inexperienced and inadequate finance minister. By the next elections in May 2012, his socialist party’s share of vote plummeted from 43% to 13%, yet even today with polls running around 5%, this party essentially controls all the key posts in the state machinery and major positions in the Greek government. The present government continues on the same path: the EU remains a nirvana, turnaround is around the corner and what happened since 2009 is just a bad dream. Greece lives today on EU/ IMF handouts in small amounts until the next IMF review.

Behind the official rhetoric of the last 30 years has been the constant decline of productive base in Greece, the waste of human resources in a poor and substandard educational system, deteriorating demographics and a rapacious political elite, who enriched themselves in various rent-seeking activities and maintained power with a bloated state sector, financed by deficits and debt. Greece entered the Euro with already very high levels of public debt on the hope that the technically lower interest rates would resolve these problems. Instead, the Euro accession fuelled consumption and consumer debt as well as a real estate and stock market bubble. The hard currency all but decimated what little was left of any productive base and destabilized the balance of payments. Eventually Greece crashed when investors woke up to the risks, public debt interest rates soared and Greece was shut out of financial markets.

The aura of prosperity proved an illusion. Bad policies, poor decisions and general incompetency of the Greek political elite caught up with reality. Still most Greeks blame foreigners (especially the Americans ….. the usual villains for almost anything in Greece by various conspiracy theories), rather than trying responsibly to understand what actually went wrong. The Greek political elite remain totally dependent on the European Union for what to do. Rather than emancipation, Greek dependency on the European Union degenerated to a bipolar disorder.

Large swathes of Greek society are being marginalized economically. Laws are now rammed through in the Greek Parliament by fast track procedure in single articles, avoiding substantive debate or objections. MP’s have been imprisoned for the first time since the Greek Junta. The government now charges people and keeps them imprisoned indefinitely pending trial. It is even passing new laws that deprive the accused of basic civil rights simply for being charged pending adjudication. Greece is a country of very limited sovereignty under full control of its EU government creditors. Effectively no elections or government can happen without prior Brussels approval.

Poorer Greeks and self-employed are revolting against the system, in the face of the high unemployment and confiscatory taxation. They see their fate on the wall, having to compete with immigrants for low-paying jobs or compelled to emigrate. The middle class in the more affluent neighborhoods especially in the northern suburbs tends to remain smugly complacent longing to be “Europeans” albeit overlooking their overtly second class EU status.

As one parish priest put it in a sermon on Greek Independence Day 2013: “we became impassioned by money and material well-being, we lost our spiritual independence and this ultimately resulted in our loss of national sovereignty and civil rights.” The Greek middle class has an entirely shattered belief system and yet no other clear alternative.

This dilemma is very apparent in Goodbye Greece, Hello Hellas. The author suggests that Greece be renamed ‘Hellas’ (in official documents ‘Greece’ is already Hellenic Republic…..) for national regeneration. He lists various issues that confront Greece but avoids any direct confrontation with the already largely discredited status-quo in Greece of the EU automatic pilot that has led to the present national predicament. As the psychology of the author reveals, most middle class Greeks still cling desperately to these concepts, hoping that they just in a bad dream. 

The sad thing is that Greece is in a negative feedback loop. It is probably the weakest and most dependent country in the Eurozone. Despite the EU/IMF workout programs and formal haircuts in private sector debt, the public debt burden remains as crushingly high as ever, only mitigated by artificially manipulated interest rates. Eurozone debt deflation economics is heavily responsible for this phenomenon, yet middle class Greeks are terrified of returning to a national currency and proper central bank. A large part of this is due to insecurity and lack of belief in their country and its people. Yet there remains the romantic and naive belief that somehow the glories of classical Greece allow them to be a shining beacon for the rest of Europe and mankind. Panayiotis Kondylis described this paradoxical viewpoint In his work on Greece back in the late 1990’s and proved prescient about the current national predicament, emphasizing lack of coherent national policy. 

The book calls for a revised constitution by a committee of academics. It is a static viewpoint and does not really offer any answers or fresh concepts. Its biggest value is that it presents a very revealing view of how Greek middle class society sees the world externally.

Greeks are ill prepared for the storm ahead in the EU where there remains a high probability of Eurozone breakup as unemployment remains high and economic growth low. Other larger countries like France and Spain have not been willing to accept the harsh conditions that Greeks are willing to endure. A spirit of nationalism is sweeping throughout Europe. This is happening even in Greece but only among poorer Greeks so far. The Greek government response has been to threaten those who openly question the present system with jail, but the polls show that this tactic has so far backfired. Public rage is growing against the ruling Greek political elite. 

The striking impression that the book leaves is how far divorced is the Greek middle class from the reality around them with a totally discredited political elite, no sign of credible fresh leadership, serious loss of valuable human resources by youth emigration and a European Union under serious challenges and threat of partial break up.

Seaspan’s Yang Ming moment

Gerry Wang, Seaspan’s ebullient CEO, frequently refers to his business model as a ‘leasing” operation.  I have long questioned this.  In fact, Seaspan is a conventional vessel provider to liner companies.  Their contractual relations are long-term time charters with performance risk.  Yet this latest deal to order 14.000 TEU mega-ships and then charter them to Yang Ming Transport Corporation for their liner service has many interesting parallels to the ship leasing business that are illustrative of the business risks and rewards in the Seaspan business strategy.

Yang Ming recently announced consecutive losses TWD 2.6 billion (US$ 87 million) in the 2nd quarter 2013 earnings conference.  Revenue for the quarter was TWD 30 billion, a year-on-year decline of 14%, but a small quarter-on-quarter bounce of 9%.  The poor performance was blamed on depressed freight rates for the Asia-to-Europe trade lane from which Yang Ming derived about 27% of its revenue in 2012.

Yang Ming suffers from an over-leveraged balance sheet with too much debt and is struggling to shed assets for liquidity by selling off terminal operations and leasing them back.

Consequently, they are in no position to contract 14.000 containerships.  So they have now entered into an agreement to charter in ten additional 14,000-teu containerships from Seaspan, which are slated for delivery in 2015-16.  The logic is the usual in this business of ever-declining margins and over capacity:  “These mega vessels are expected to be deployed on the Asia-Europe route and are expected to bring unit costs to down better complement the fleet of the CKYH alliance,”  according to Jon Windham, a Barclay analyst covering them.

Seaspan initially ordered speculatively these mega-ships, paying US$ 110 million per unit at Hyundai Heavy Industries. With ten new units now committed to Yang Ming, Seaspan is now turning to Taiwan’s CSBC Corporation for five additional 14,000-teu vessels on the same price terms as the earlier Hyundai order as an added sweetener to this Taiwan deal.

No doubt, Seapan is offering Yang Ming a considerable service with these units that they could not afford to contract themselves.  Yang Ming is paying them a rate of US$ 46.000 per day upon delivery for the next ten years.

All this, however, cannot eradicate the bare facts that Seaspan is openly speculating in assets against charters often to financially weak liner companies in an industry that is suffering chronic overcapacity.  They wagering on an eventual cyclical market turn-around with increased box traffic.  Yet the heavy ordering of megaships contributes to over capacity. Unless there is real turn around in terms of increased container traffic and demand for box slots, this almost resembles a Ponzi scheme.

Of course, nobody can deny the tenacity of Gerry Wang and business standing of Seaspan in the liner industry.  Greek-listed container vessel companies like Danaos, Box Ships and Diana containers pale in comparison as poor relatives and much weaker management teams. 

The only really strong and healthy listed Greek containership company is  Costamare, whose largest vessels are 9.000 TEU.  They have a history of sustained profitability and they have not rushed into the megaships.  Many of their units are employed in feeder services, which are a growing and generally profitable subsector due larger ships on head haul routes, use of hub ports and increasing demand for distribution of boxes to smaller ports.

The business risks for Seaspan are similar to finance leasing companies in their business of high cost finance generally to a clientele of financially weaker shipping companies.  Sometimes the companies have liquidity problems and are looking to sell assets and lease them back.     Other times, they are expanding rapidly and have exhausted conventional lower cost bank finance.  The leasing companies bet on company turnaround and stronger markets to prop up their financially weak clients. 

Seaspan’s prime universe for these mega-ships is financially weak liner companies without the resources to order directly the vessels themselves.  Success of the venture depends critically on a market turn around.  Should this growth even finally level off with Far East trade rebalancing and slow recovery in Western economies leading to a belated and major shakeup in the Liner industry with few companies, some major bankruptcies, etc., then Seaspan might find itself badly exposed with such aggressive ordering.

So far Seaspan has managed to weather well the shock back in 2008 without a single order cancellation and is continuing its aggressive growth.

Landmark shareholder victory against Eagle Bulk management and directors for abusive and excessive executive compensation

Eagle Bulk Shipping has been one of the poorest performing shipping stocks in its peer group.  From lofty levels in excess of US$ 100 per share in its salad days, the stock crashed below US$ 20 in the fall of 2008.  From then on, it has been a slow attrition with charter party defaults, bank covenant violations and loan restructuring agreements with the stock presently trading at US$ 3,56.  Latest quarterly results were losses of US$ 3 million for the 2nd quarter 2013.  Yet its management sat at or near the top of shipping’s executive pay lists  for years.  Its directors who were earning more than their counterparts at large Fortune 500 companies without offering any oversight.  Shareholders who have lost literally their shirts appear to have succeeded to force Sophocles Zoullas and his management team to roll back their pay to more reasonable levels, albeit still quite high for such miserable value destruction and bad performance.

I have signaled Eagle Bulk at a very early stage back in January 2009 as a potentially problematic company: “EGLE: Conflicts between sound business principles and Wall Street 'value-building' concepts” http://amaliatank.blogspot.gr/2009/01/short-term-wall-street-objectives-can.html.

Its management followed an antiquated vessel provider business model with heavy dependency on third party charterer counter risk.  They scaled up their fleet at lofty values in large block deals, exposing the company to serious problems with loan to value covenants when the shipping markets crashed.  Eagle Bulk was badly exposed to the Korean Lines bankruptcy, with little transparency for years as to their charterers and counter party risk profile. 

If Eagle survives today as a zombie shipping company, this is by the mercy and desperation of their bankers, particularly the Royal Bank of Scotland, who did a trend-setting debt for equity swap last year  http://amaliatank.blogspot.gr/2012/06/eagle-bulk-in-trend-setting-equity-for.html to keep them alive.

Miraculously, tenacious shareholders managed to rebuff Eagle’s attempts to have their legal action thrown out by summary judgment in November 2011 and despite the high hurdles facing plaintiffs under Marshall Islands law. Eagle Bulk management executive pay practices were so abusive and egregious that facts suggested a “quid pro quo” arrangement may have existed between Eagle officers and directors, thus barring Eagle from using a so-called “business judgment” defense.  This has led to the present compromise agreement with Eagle management pending final court approval. 

The major bullet points are truly eye-opening in terms of the money and benefits that management had been extracting from the company despite its dire financial condition with its creditors and serious operating losses:

•    Cancellation of all stock options (180.704) granted to Eagle officers and directors between 2008 and 2011.
•    Shortening the expiration to five years from 10 for 1.4 million options granted to the Zoullas brothers in 2012, with an estimated US$ 1 million savings to Eagle.
•    Limiting average compensation to non-management directors to US$ 240.000 through 2015, compared to US$ 432.000 in 2011.
•    Limiting executive compensation through 2015 to the average paid by five peer companies — Dryships, Diana Shipping, Excel Maritime, Navios and Genco Shipping — rather than “prior practice of paying at the top of the industry”.
•    Requiring Eagle to bill Zoullas’ private Delphin Shipping US$ 237.000 for services it has rendered, and tightening dealings between the two “to ensure that Mr Zoullas does not derive an unfair advantage.”
•    Terminating the 2011 equity incentive plan and 4.3 million shares that could have been issued under it.

Among other practices in Eagle Bulk adding insult to injury is Zoullas appointing his brother Alexis as President making this listed company a family affair.

Lenders and other shareholders should rejoice, as Eagle still faces a difficult struggle to stay alive with continuing operating losses until dry bulk markets recover. 

Here below is a comparative graph of Eagle Bulk share performance with peer dry-bulk companies over the last five years:

Eagle is one of those at the bottom of the chart.  This case reinforces my concerns about a competitiveness problem for Greek listed shipping companies compared to non-Greek peers in terms of return on investment.  Pacific Basin, for example, in Hong Kong makes Eagle management look rather ridiculous and amateurish, not even worth their revised remuneration levels.  The best performing Greek peer company is Angeliki Frangou’s Navios Holdings, one of the very bright exceptions in the Greek market.

Tail Risk in shipping recovery still very much present!

Lately there is a lot of capital chasing shipping assets, arbitraging on vessel prices.   Oaktree Capital is one of the high profile leaders.  Wilbur Ross was an early forerunner in the Diamond S. venture, doing the Cido deal in 2011.

It has nothing to do with business plans, building value with companies to gain competitive advantage and market share in transport and logistics services. This is pure and crude asset speculation, betting that we are at the bottom of the shipping cycle, vessel values will begin to move up and a quick profit will be made by unloading these assets on the next company, who in turn riding the cycle will hope to gain themselves on the next leg upwards until the last guy in – like a Villy Panayiotides at Excel with the Quintana merger – gets stuck carrying the candle and goes bankrupt with the losses as the market crashes.

My personal view is that Oaktree and others are desperately looking for yield without many options in the present world of ZIRP.  The FED policy under Ben Bernanke’s reflects today's conventional wisdom, trying to push asset inflation to reflate and get out of the current Great Recession aftermath of the 2008 Global financial Crisis.

Shipping assets have caught their radar.  Putting money in risky assets and companies for yield has not always gone very well in past shipping cases.  Berlian Laju, for example, just months after a massive debt restructuring with US$ 200 million in new funds and repeated earlier high cost lease deals ended in debt default just months later, illustrating the risks involved in this strategy.

Whether the present FED policies will ultimately reflate the world economy depends on future real demand for goods and services that generates cargoes for these vessels, pushes freight rates up and then vessel values increase geometrically on the future earning expectations. Until and when this happens, this speculative money is actually generating more over capacity and prolonging any market recovery in the shipping industry.

Meanwhile, we have increasing zombification of many shipping companies like General Maritime now reorganized along with TORM and Eitzen Chemical now renamed Jason, OSG/ BLT are in purgatory with their ultimate fate still in limbo.  Excel Maritime recently moved into a hopefully pre-packed Chapter 11 reorganization.  Genco and others like Eagle are tottering in the brink. The recent Baltic Trading follow on capital raise seems a back door doubling up for Genco - see my recent piece: "Peter Georgiopoulos tries to regain his lost credibility" http://amaliatank.blogspot.gr/2013/06/peter-georgiopoulos-tries-to-regain-his.html.

Their Bankers are desperately trying to keep the dead alive. In turn, speculative capital like Oaktree and others, are buying up distressed debt to keep the banks themselves alive with an increasing number of zombie banks around.  Warehousing of bad assets has become the fashion.  Commerzbank - basically a zombie institution - recently issued a statement that it does expect to sell any shipping assets because they expect the market will bring the prices up...  So why worry about any 'book' losses at current mark to market price levels, capital (in) adequacy, etc.?

Oaktree seems to have a rather chaotic investment approach with different parts putting shipping assets on their books in a rather haphazard way. After all, did it make sense or show good analysis to invest in General Maritime only months from declaring Chapter 11 and needing even more money in a second round?

Normally, investments are supposed to yield value and then second round financing is done to invest in another leg up in the private equity world.  Here Oaktree was doubling down on a bad position, which is not normally good trading practice.  The normal practice would be to lighten up and reduce exposure.  In the current 'pretend and extend' world that we live in, however, everyone is trying hard to avoid cutting losses and many actively practice 'doubling down'. 

Did Genmar ever really have much intrinsic enterprise value as a shipping company beyond its physical assets to warrant the Oaktree "investment" in recapitalization??? I would say no!

Peter Georgiopoulos  never really thought of Genmar as an enterprise - at least in the sense of a logistics transport business serving customers in carriage of cargo.  Peter G. was and is foremost an asset speculator.  He ignored strategic positioning for Genmar to gain market share, improve earnings margins and generate growth through retained earnings. Employment was just a means of holding his assets rather than serving and building a customer base. His biggest sin was ignoring trends in the tanker market and new growth areas. His mindset was on trading assets.  Others like TK Shipping and his nemesis 'Big John" Fredriksen handily outperformed him and provided superior performance to their investors.

In the case of Petros Pappas, the Oaktree approach is to fund Pappas like a bond trader. Pappas has a successful record in asset trading. Oaktree has Pappas like a stock picker in different vessel classes. Pappas trades largely on his own instincts with his own money on a 50-50% basis with Oaktree. His own skin in the game satisfies Oaktree for the moral hazard. Neither Pappas nor Oaktree are looking to build businesses or really have any business plans at all beyond the asset trading.

A recent Tradewinds interview with Lazard’s Head of Shipping, Peter Stokes, sheds a lot of light on this matter. In fact, I am amazed and somewhat gratified to see someone like Stokes, thinking and saying publicly, many of the same things that I have been saying privately and publically when I was recently a keynote speaker at the Hong Kong shipping forum.

Stokes sees two basic scenarios ahead (see "Bungled QE exit could 'burn out' ship values" http://www.tradewindsnews.com/weekly/w2013-06-21/article319083.ece5)):

• Scenario A: - conventional wisdom ‘muddle-through’ recovery in the next few years that is likely to be subpar in quality, partly because of so many trying to ride the coat tails of same scenario.  If everyone is arbitraging, then each is cancelling out the other in any meaningful price action.  Further this self-defeating over time in creating over supply with a new wave of speculative ordering that will grow with any upwards price movement.  There is too much speculative money and too much yard overcapacity.
• Scenario B - complete collapse with another leg down, where investment firms like Oaktree, shipping banks, etc. experience painful and unavoidable losses. The zombie shipping companies finally die. Assets are written down to true values and finally there is a proper shipping recovery based on an industry shake up where only the fit survive: much dreaded Joseph Schumpeter’s ‘creative destruction’. 

A  preview of scenario B is the recent reportage in Tradewinds about an apparently unsuccessful attempt by Wilbur Ross, First Reserve, etc. to float an IPO in the Oslo capital markets for their Diamond S venture that was built on a huge block purchase of product tankers from Cido a few years.  My previous two pieces on the Diamond S venture make interesting reading in retrospect: 

• "Does the CIDO deal mean tanker values are on the upside?" - http://amaliatank.blogspot.gr/2011/08/does-cido-deal-mean-tanker-values-are.html.

• "Diamond S. a new business model for shipping?" - http://amaliatank.blogspot.gr/2011/08/diamond-s-new-business-model-for.html.

Obviously, the latter Scenario B would be a devastating setback for governments (especially the European Union political elite) and many financial institutions.  Such an outcome might ruin their careers and threaten the integrity of their institutions. On the other hand, they are slowly running out of resources for the constant backstopping. “Pretend and extend” credit policies with the massive socialization of losses is far more costly than they are representing to their voters.  So far little of this has proved helpful to an economic recovery. Only the US has had some relative success, but their boost in energy resources may be a more substantive driver in this tepid recovery than FED financial engineering pulling on strings.

The two key elements ahead that may affect shipping asset prices are the US and its tapering to wind down the FED asset purchases and the Chinese restructuring, given that the Chinese marginal rate of investment is unsustainable and the losses are corrupting their banking system. The US and Chinese both realize that this needs to be done and it is unavoidable, unlike their EU counterparts with their “muddle through” theories, eternal dissention and dream-world mentality resembling Mann’s Magic Mountain novel.

Admittedly, I am strongly influenced by my friend Michael Pettis in China. I believe Chinese growth will ultimately disappoint.  The volatility concerned that Pettis expresses about the very large Chinese speculative position in commodities worries me given the potentially negative impact on shipping markets. So I would not be surprised about Stoke’s concern about further drop in shipping asset prices, driven by lower replacement cost in steel, etc. All this shipping investment is predicated on Chinese growth reflating the markets again – lots of very concentrated risk if this does not pan out.

See "Crunch Time: Why low growth is China's new normal" http://www.foreignpolicy.com/articles/2013/06/27/credit_crunch_time_china_low_growth_new_normal

On the other hand, the politicians, particularly the EU elite – our PM Samaras with his never ending Greek success story being the success story of the Eurozone – and Oaktree Capital are really betting the house that the worst is over and there will be happy days again with a robust recovery in just a few months.

Former colleagues of mine like the present Head of National Bank of Greece, Alex Tourkolias, saying that a shipping recovery will lead Greece out of its crisis and John Platsidakis of Intercargo, saying that two years from now the Greek debt crisis will seem like a bad dream gone away are lately exhibiting lots of boosterism.

In Hong Kong, by contrast, the shipping circles were subdued and cautious about a quick recovery in the markets.  Some companies like Pacific Basin have been aggressingly buying newer second-hand units, but these purchases are to renew their fleet and backed against a substantial cargo book, not the kind of overt and open speculation mentioned above by the likes of Oaktree.

So who knows? Stokes and I could be incorrigible pessimists and totally wrong. All I can say is that I still see a lot of tail risk around in shipping and elsewhere.