Chapter 16: The Hedging Performance of the Capesize Forward Freight Market
Manolis G. Kavussanos and Ilias D. Visvikis 1 Introduction The bulk shipping business is characterised by extreme volatility in rates and prices of its assets: the vessels. This is a consequence of the very competitive freight markets, inelastic supply in the short run and demand for freight services which is influenced by a score of international factors that are often difficult to assess and forecast. As a consequence of this high volatility in freight rates (and prices), cash flows of shipping companies, which are dependent on freight rates, are themselves volatile. This riskiness of cash flows and the difficulty of making them more predictable are responsible for the spectacular failures (but also for the high returns) observed in the industry in the past. In terms of freight rate volatility, the Capesize sector has been documented in the literature to be among the riskiest of dry-bulk shipping sectors (see, for example, Kavussanos, 1996).1 The relatively limited type of trades (iron ore, coal, grains) that these vessels are involved in, compared to Panamax and Handy vessels, is responsible for this higher volatility observed in freight rates and prices of Capesize vessels. Therefore, it makes it even more important to consider methods of mitigating the business risks that arise in the riskiest sector of dry-bulk shipping – the Capesize sector. As argued in Kavussanos and Visvikis (2006a, 2007), the use of derivatives products for business risk management purposes provides more flexible and cheaper solutions, relative to the traditional methods of time-chartering the vessels....
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