A Melting Arctic Means More Shipping, Drilling for Fuel
Gerelyn is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
As the Earth's temperature rises as a result of global warming, one of the effects is melting ice in the Arctic Ocean. Ice in the Arctic has long been a barrier for greater trade activity because it blocks ships from crossing the body of water. For instance, in 2010, only four ships crossed the Arctic, according to Scientific American. That number rose to 34 in 2011 and a record-breaking near 50 in 2012 -- all as a result of the paths that were cleared thanks to melting ice.
While the numbers may not appear Earth-shattering, they're headed in the right direction and shippers will take any increase in contracts they can get. Shippers have been under pressure amid falling charter rates and an oversupply of vessel inventories since the recession.
And it's not only shipping that could benefit -- the melting ice could also be a boon for oil and gas drilling activity. It has the potential to unlock vast oil and gas reserves believed to be currently trapped below the Arctic ice. Navigation stocks could also benefit, as these companies could help formalize the charts and mapping that energy producers and shippers need to navigate the Arctic. Let's explore some ways to invest early in companies that might find a way to participate in a trend that's still taking shape.
The Baltic Dry Index, a gauge of industry shipping rates, has been under added pressure of late amid the summer doldrums in shipping activity coupled with lower demand for dry-bulk materials stemming from China.
Genco Shipping & Trading (NYSE: GNK) makes drybulk cargo shipments including iron ore, coal, grain, and steel products around the world. At the end of 2012, the company had $1.6 billion in debt and $1.3 billion in shareholders' equity. Genco reported a 2012 net loss of $157.8 million compared to net income of $25.1 million in the prior year. The swing to a loss came amid lower charter rates last year for its vessels.
Revenue generated in 40 out of 53 of Genco's drybulk vessels is tied directly to rates based on the Baltic Indices. The company locks in long-term charters for its vessels where possible, but it's still exposed to the volatility of charter rates. Shipping generally experiences strong demand in the fall and winter seasons as a result in higher consumption of fossil fuels such as coal in the Northern Hemisphere, according to the company's annual report. Don't be surprised to see persistent weakness in the forthcoming summer quarter.
Genco and the Arctic
Genco already has exposure to dangerous parts of the Indian Ocean and Gulf of Aden as well as the South China Sea and Red Sea. Therefore, it's reasonable to presume that it could pick up routes in the Arctic should the company decide to do so. There has been a lack of formality tied to the market in terms of mapping and adequate surveying. As more Arctic ice melts away, shipping will continue to command greater attention and Genco could be among the beneficiaries should it decide to operate on Arctic waters even though it's not present there now.
Meanwhile, the National Oceanic and Atmospheric Administration (NOAA) has been feverishly introducing new charts for Arctic navigation, but they can't seem to keep pace with demand. Perhaps a way to play this rising trend is to consider navigation stocks.
Lead the way
Shares of Garmin (NASDAQ: GRMN) are down more than 12% year-to-date. It trades at a forward P/E of 15.6. In its fiscal first quarter, revenue dropped 4% to $532 million. Its automotive, outdoor and marine segments were all under pressure, while aviation and fitness revenues advanced. The marine segment includes chart-plotters that are used
A review of the company's 10% revenue decline in its marine division to $50 million is oddly reminiscent of Apple's recent woes. Garmin continues to struggle for a lack of innovation. Worse, its operating margins weakened in the period as a result of excessive discounting that the company was forced to do to hold onto its market share. Marine has been a drag on Garmin's overall performance.
However, the company is spending on R&D, and the upcoming quarter is seasonally stronger than the first. There is a $300 million share-buyback program in place, but Garmin hasn't been buying back any stock of late. Shareholders recently approved a $1.80 cash dividend through March 2014 (the time period is as per Swiss corporate law.) It's banking heavily on innovation for growth, and it's reasonable to presume it might look for opportunity in the need for greater navigation in the Arctic.
Unlocked oil and gas reserves
Incidentally, the opening up of the Arctic Ocean is also expected to open up vast undiscovered oil and gas reserves - some 30% and 13%, respectively, according to the Financial Times.
Norway was an early mover in opening up the Barents Sea, which it shares with Russia in the Arctic region, to deepwater oil drilling. This, of course, would benefit oil and gas producers, such as ConocoPhillips (NYSE: COP), although the company has delayed plans to drill in the region amid an unexpected tax increase for oil and gas drillers in the region. ConocoPhillips is not alone in taking to the sidelines, as Statoil and Royal Dutch Shell put off similar plans.
It's part of ConocoPhillips' business strategy to explore risky assets, such as those tied to the Arctic region, to offset some of the volatility it experiences from commodity prices. When the stars align for the company no doubt it would be among the beneficiaries of new drilling in Arctic fields.
As for ConocoPhillips, the stock is trading close to its 52-week high but a low forward earnings multiple of only 12. That's about inline with ExxonMobil's valuation, but compared to Shell's forward P/E of only 8.0 ConocoPhillips looks cheap. ConocoPhillips pays a $0.69 quarterly dividend as a result of a 4.5% distribution increase in recent days, and spend $20.1 billion to repurchase some 300 million shares between 2010 and 2012.
The opening of the Arctic could be a catalyst to invest in the companies that choose to participate -- whether it be shipping, drilling or navigation -- because it could lead to greater revenue for these businesses. That's why it's worth watching a company like Genco to see if it decides to pursue shipping opportunities in the Arctic. My take on Genco is watch and see. If there's a strengthening in shipping rates, Genco will benefit and it could benefit further if it decides to participate in the Arctic. Garmin needs to prove itself all over again and as for ConocoPhillips, I don't believe you can go wrong owning an oil and gas stalwart.
Gerelyn Terzo has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!