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February 26, 2008

Freight futures rush as funds seek sanctuary

by Dave Nixon

Story link: Freight futures rush as funds seek sanctuary

Freight derivative volumes have rocketed this year as banks and hedge funds have looked to a market that has not been influenced by the credit crunch or economic slowdown.

Freight forward contracts, which permit shipowners and operators to lock in prices in advance, grew 150 per cent over the past year as market instability and a quick rise in shipping costs produced opportunities for speculation and made hedging imperative.

Michael Gaylard, strategic director at the Freight Investor Services, one of the market’s leading brokers, said that banks and hedge funds have helped drive this market as they now make up a large slice of the volumes.

Citigroup, Merrill Lynch, Macquarie Bank, Goldman Sachs, Credit Suisse, Lehman Brothers, Morgan Stanley and hedge funds GMI and Akuila Okeanos have set up freight derivatives desks in the past year.

Attention in the field has developed as the credit predicament has effectively closed other markets, such as asset-backed securities, forcing banks and funds to look for other ways to make profits.

Citigroup, which established its desk in the summer around the summit of the credit crisis, said demand from shipowners and investors wanting to exploit the product for speculation and hedging was a huge factor behind its decision to penetrate the market.

According to the Freight Investor Services, the market is now worth $125bn, up from $50bn at the same time in 2007. Banks and hedge funds account for 40 per cent of this value in contrast with only 15 per cent in the middle of last year.

The price of renting a ship to transport raw materials such as iron ore or coal has escalated from $30,000 a day in 2004 to more than $100,000 today, even though costs have fallen from the highs seen in November.

Costs have been driven up by demand for ships from emerging markets, such as China and India, which must import raw materials to support their expanding economies.

The market has furthermore become more unstable as bad weather in Asia and Australia has closed ports, at the same time as energy shortages in South Africa and infrastructure troubles in Russia have led to shipping delays, creating indecision over future prices.

Bankers and brokers forecast the derivatives market will maintain expanding at a fast rate, with some forecasting that it will grow larger than the underlying physical market in freight, which is worth $150bn, by the end of the year.


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