Shipping Equity Risk Behaviour and Portfolio Management

This paper investigates the dynamics of stock price volatility for different vessel-type segments of the U.S. water transportation industry.

The huge global importance of the shipping industry is borne out by the fact that more than 80% of the world’s commodity trade by volume is transported by ocean going vessels (UNCTAD, 2017). With large volumes shipped around the world at relatively low costs, maritime transport is central to the growth and sustainability of the global economy. Shipping market information can be extremely useful as a gauge of the state of real economic activity or as a predictor of financial markets. Hence, uncertainty in the industry has implications for broad economic policy and financial practice.

Over the last decade, ocean transport has transformed from a pure service market (cost of transporting raw, semi-finished, and finished materials) to a market where freight is bought and sold for investment and portfolio diversification purposes, attracting investment banks, equity traders, fund managers and hedge funds. This paper empirically examines equity volatility dynamics in the U.S. water transportation industry from the perspective of risk analysis, quantification and forecasting, to provide institutional and private investors – those that consider shipping stocks as an alternative asset class – with information that can be used to calibrate risk attitudes and support the decision-making process.

The research measures market exposure by a portfolio of tanker, dry bulk, container, and gas stocks to examine tail behaviour and tail risk dependence. The role of mixture distributions in predicting future volatility is studied from both statistical and economic perspectives, and the researchers test for predictability in co-movements in the tails of sectors returns.

Findings indicate that large losses are strongly correlated, supporting asymmetric transmission processes for financial contagion. Finally, using a non-parametric approach, the researchers extend the model to the multivariate case and assess the value of volatility and correlation timing in optimal portfolio selection.

The results can help to improve the understanding of time-varying volatility, correlation and tail systemic risk of shipping stock markets, and consequently, have implications for risk management and asset allocation practices, as well as regulatory policies.

Shipping markets are a notoriously volatile sector. This is mainly due to freight rate volatility, which is driven by a range of influences such as political events and conflicts, natural disasters, seasonality, fuel price and currency fluctuations, trading relationships, environmental regulations, and supply and demand imbalances. At the same time, a sound understanding of shipping equity risk is of particular significance; in light of the 2008 global financial crisis (which greatly affected international commodity trade and, consequently, shipping) and the prominence of equity markets as a source of finance for shipping companies.

As a result, this paper is of practical value to equity funds, traders, institutional and private investors in search of alternative style investments.

The accepted version of the paper, Shipping equity risk behaviour and portfolio management, is available for download at City Research Online.