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TRANSPORT

Preparing for resilience in a period of change

In the year ahead, global transportation investing will contend with trade tensions and myriad new regulations. Given that backdrop, we see opportunity in the core-plus transport space,1 where asset risk is mitigated by our direct operational involvement and income generation is relatively protected by long-term leases and the financial strength of counterparties’ (end users’) balance sheets.

TRADE WARS: NEGLIGIBLE IMPACT AS NEW ROUTES SUPPORT SHIPPING

Shipping activity has, oddly enough, benefited from recent U.S.-China trade skirmishes—in part because they have accelerated an ongoing movement of manufacturing away from China, often to Southeast Asia, for lower labor costs. These point-of-origin changes have added as much as 15% more time at sea—a constraint on supply and thus a positive for ship owners’ bottom lines. Also supporting demand for shipping is the development of new trading patterns emerging from trade tensions: Products subject to tariffs (soybeans, for example) are now being trans-shipped from the U.S. to South America before shipment to China, adding another leg to trade routes.

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An ultra-large container ship (ULCS).

THE IMPACT OF REGULATORY CHANGE

New international environmental regulations starting in 2020 will drastically cut permissible emissions levels of nitrogen oxides and sulfur oxides, by up to 80%, requiring ships to use higher priced, cleaner-burning fuel. This change should make investing in fuel-efficient ships more attractive; 90% of our fleet is under five years of age and uses engine technology that cuts energy consumption by up to 15% vs. older vessels. That fuel efficiency and cost effectiveness may allow us to lease our ships at higher rates under the new regulatory regime.

Fuel-efficient vessels’ lower carbon footprint is also attractive to many lessees—for example, mining companies, utilities and conglomerates—that must report their annual carbon use and are keenly focused on environmental sustainability. ESG2 is also in play for aviation assets. Newer, fuel-efficient aircraft design features that reduce weight and fuel use, while moving the same number of people for less, can attract leases of up to 15 years. Environmental sustainability also supports other areas of core-plus transport investing, such as the vessels that provide critical maintenance to wind farms.

Meanwhile, Basel III (and soon Basel IV) regulations are intensifying the departure of traditional bank-owned leasing companies from the transportation leasing space.3 As these companies’ presence shrinks, asset managers are stepping in. To be sure, a risk to transport investing is a major trade-induced GDP slowdown; transportation is historically correlated with global economic growth. Nevertheless, with the exception of the global financial crisis in 2008, the transportation industry’s demand growth has been consistent and upwardly moving since 2000, a trajectory we expect to continue (EXHIBITS 1A and 1B). And due to the financial strength of the typical counterparty and the long-term employment of assets, market cycles have less impact on a core-plus strategy. Diversified core-plus transport portfolio construction—differentiated assets, counterparties and lease maturities—and specific industry knowledge are most critical to long-term, predictable income generation.

Maritime and aircraft investing’s underlying demand fundamentals have grown consistently since 2000 and recovered within 12–18 months of the 2008 global financial crisis

EXHIBIT 1A: TOTAL SEABORNE TRADE
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EXHIBIT 1B: TOTAL AIRLINE TRAFFIC
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Source: Clarksons, Flightglobal, International Air Transport Association; data as of December 1, 2018. LNG: liquefied natural gas; LPG: liquefied petroleum gas. Forecasts, projections and other forward-looking statements are based upon current beliefs and expectations. They serve as an indication of what may occur, actual results or performance may differ materially from those reflected or contemplated.


1 We define core-plus transport as the larger, more expensive and most strategically important assets integral in end users’ global logistics networks; these include large dry bulk carriers, ultra-large containerships (ULCs), tankers, liquefied natural gas (LNG) carriers, very large gas carriers (VLGCs), aircraft and railcars.
2 Environmental, social and governance considerations.
3 This is primarily due to an increase in the equity charges borne by banks investing equity in leasing.


 

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Transport