Value-at-Risk in Shipping and Freight Risk Management

Abstract

Shipping market participants have always been faced with important and difficult investment decisions because of the complex and volatile nature of the shipping industry. While volatility in ship prices and freight rates offers the opportunity for large profits, it can also lead to huge losses. Therefore, as with any other business, assessing and monitoring volatility is an important part of shipping investment and risk-management activities, for several reasons. First, being aware of the magnitude of risk exposure, shipping companies can employ risk-management techniques to reduce and/or control the overall financial risk of the firm. Second, lenders (banks) financing ships can assess their risk in providing funds to shipowners. Third, traders can assess any changes in the value of their portfolios under the small probability that the market crashes. Finally, when trading FFAs and freight options it is always helpful to know the potential expected loss of each position and of the portfolio as whole, especially when contracts are cleared and margins should be maintained. Within this setting, risk measurement and assessment is of utmost importance for market participants and accurate risk quantification is critical for evaluating investment decisions as well as for the development of effective trading and hedging strategies.