Why STNG’s Wager on DHT Could Signal a Tanker Market Rebound

By Barry Parker (gCaptain) –

In recent months, the froth has come off the prices of tanker shares. In the highly cyclical world of shipping stocks, when this happens companies will sometimes initiate “shareholder-friendly” measures—usually in the form of share repurchases (which increase “earnings per share” by lowering the denominator in the calculation) or, alternatively, paying out dividends. 

During the recently-ended Q3, product tanker behemoth Scorpio Tankers (NYSE: “STNG”) has taken a different, though not unheard of, approach—buying shares in another shipping company (from a different sector) as a temporary investment, in addition to buybacks of its own shares, and maintaining its steady dividend payout.

On its Q3 investor call—with results generally better than market expectations (an earnings “beat”)—STNG revealed that it had spent just shy of $90 million on acquiring a stake in VLCC specialist Double Hull Tankers (NYSE: DHT), with CEO Emmanuele Lauro telling call participants: “In the third quarter, we acquired a 4.9% stake in the crude tanker company DHT, a passive but liquid investment that positions us to capitalize on the upside of an improving crude tanker sector.”

Crude and product company shares react to different market stimuli, so, in theory, trades taking advantage of inter-sector differentials are possible.

Responding to analyst questions, Robert Bugbee, STNG President, said: “What we see with the DHT trade, which is to take advantage of something that is pretty unusual. For a few years now, the VLCC market has underperformed itself. It has been a potential negative for the product market because its weakness, along with the crude market, has drawn vessels from the crude into the product at times. Now we’re seeing that this is going to change. We see for the first time that this winter is lining up to be a very strong winter for the crude side. In that setting, we think DHT is very undervalued. That’s just setting up a great investment for the company.”

Effectively, STNG, already “long” on product carriers, in advance of the coming winter season (traditionally a strong time for tankers generally), is now adding crude carriers to its mix. Unlike a traditional “arbitrage” trade betting on a change in a differential (long something/short something else), this is a “long/long” strategy.

Analysts who follow the shares had varying views on how to please stockholders. Evercore ISI’s Jon Chappell, a big proponent of STNG shares, with an “Outperform” rating, and a price target of $80/share, compared to the current price below $60/share (compared to late May’s $83/share), was thinking in conventional terms, telling clients that STNG shares offered a “greater than 40% discount to [Net Asset Value per share, or ‘NAV’], which should further accelerate the buyback pace.”

The analyst team at Jefferies, led by Omar Nokta, reported that STNG was “Putting cash to work; acquires 4.9% stake in DHT”, highlighting that: “The big surprise is the acquisition of a passive stake in DHT, which comes on management’s positive view on the crude tanker market both near-term and over the medium-term given limited new VLCC supply.

Scorpio reiterated on the call that the stake is passive, that it has no interest to acquire VLCCs outright and the investment does not take away from its ongoing uses of free cash flow which have increasingly been geared towards its own buyback.”

Other equity analysts following STNG voiced concerns about the DHT trade. Though Bugbee had referred to regulatory constraints on share repurchases, Ben Nolan, Stifel’s shipping analyst, explained to investors: “While opportunistic and perhaps well-timed ahead of a potential seasonal improvement in VLCC rates, inarguably, DHT shares trade much closer to NAV than do STNG shares. In our view, the much better option (which also creates less distraction and noise) would be to buy back STNG shares. While there may be constraints on how much they were able to buy in the open market, an easy workaround would be a share tender. So, while not a bad option, we don’t view this as the best capital allocation option.”

Shipping investors continually battle over the wisdom of pure play versus fleets comprised of investments in diverse sectors. Chris Robertson, from Deutsche Bank (with a “Buy” rating on STNG) pointed out that: “While we understand that certain investors may want exposure to the VLCC crude tanker segment, we question if this decision should be made for them by Scorpio’s management team, especially when STNG shares are trading significantly below estimated NAV/share.”

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