GNK - Genco Shipping: Pause The Optimism Here - Potential Volatility Ahead

Summary

• GNK stock continues to reflect too much optimism, despite the declining BDI rates and uncertain macroeconomic outlook.
• While the stock offered a higher forward dividend yield than its peers, we reckon its older dry bulk fleets and lower profit margins remained headwinds to its forward execution.
• Despite the robust tailwinds for a long-term TCE recovery, the potentially lower FQ1'23 contract rates may trigger more volatility after the upcoming FQ4'22 earnings call.
• Investors would be well advised to proceed with caution for now.

GNK Is Trading Too Optimistically Here

GNK 5Y Stock Price & Baltic Dry Index

Genco Shipping & Trading Limited ( GNK ) is about to report its FQ4'22 earnings call on February 23, 2023, potentially triggering more headwinds to its stock prices ahead. This is due to the notable divorce between its stock prices and the Baltic Dry Index ((BDI)) since December 2022.

While both had been closely correlated for the past five years, we had been witnessing a widening gap indeed. At the time of writing, the BDI had fallen to $602 nearing its hyper-pandemic lows, suggesting a drastic decline of -89.1% since its peak of $5.52K in October 2021 and -82.1% from $3.35K in May 2022.

Market reports were not promising either, with recent contracts showing Capesize fleets fixed at TCE rates of $13K for up to eight months and Ultramax/Supramax fleets at an average of $11.65K. The estimated weekly dry time charter rates by February 8, 2023 similarly suggested a drastic normalization to $13.25K and $11K, respectively.

These numbers contrasted tremendously against GNK's FQ4'22 TCE rates of $20.5K for 75% of available dates, suggesting a potential downtrend for F1'23 rates since the company's existing fleets were comprised of these three class sizes.

Our lack of confidence was also partly attributed to GNK's notably aging fleet , with an average age of 11.2 years, against its peers Star Bulk Carriers Corp. ( SBLK ) at 10 years, Golden Ocean Group Limited ( GOGL ) at 6 years, and Eagle Bulk Shipping Inc. ( EGLE ) at 9.5 years. Notably, 34% of its fleets comprised older tonnage between fourteen and eighteen years, nearing the 20-year mark when scrapping was commonplace.

It was for this particular reason that GNK had to rely on Very Low Sulphur Fuel Oil (VLSFO) for most of its older minor dry bulk fleet, due to the lower Sulphur content at <0.5% as opposed to IFO380 at <3.5%, to comply to the IMO 2023 emission regulation. This unfortunately increased its operating expenses, due to the inherently more expensive fuel, by 44.4%. At the time of writing, VLFSO was priced at an average of $650/MT compared to IFO380 at $450/MT .

While GNK's Capesizes were already installed with scrubbers , allowing the use of IFO380, its margins continued to be compressed indeed. During the last twelve months, the company reported gross margins of 52.5% and operating margins of 37.7%, compared to SBLK at 63.8%/51.3%, GOGL at 54.8%/42.6%, and EGLE at 55.1%/41.4%.

Therefore, while we had been particularly positive about its peers, we remained uncertain about GNK's prospects in the intermediate term, particularly attributed to the reduced margin of safety from the tremendous stock rally recorded over the past few months.

In the meantime, portside iron ore inventories in China seem to have piled up from 129.13MT in October 2022 to 140.12MT by February 9, 2023, implying more than sufficient supply for the short term. Therefore, things might remain subdued for GNK over the next few months, since up to 77% of the global Capesize fleets were commonly used for iron ore transports.

On the other hand, there might be chances for reversal moving forward, with China's Dalian Commodity Exchange showing expanding rates of up to 895 Yuan for iron ore active contracts through April 2023. With a notable 35.1% increase from November 2022 levels of 662 Yuan , demand for iron ore appeared to be rebounding, potentially improving Capesize TCE rates in the intermediate term.

This may be further aided by the potential long-term recovery of China's property market, with the government pledging massive support to debt-ridden developers, as discussed here in our previous SBLK article.

However, we reckon the game will be drawn out through 2024, due to the combination of the country's hasty reopening cadence , growing geopolitical tension , and uncertain global macroeconomics . GNK's forward performance may indeed be adversely affected by the combination of the factors mentioned above.

So, Is GNK Stock A Buy , Sell, Or Hold?

GNK 1Y EV/Revenue and P/E Valuations

GNK is currently trading at an EV/NTM Revenue of 2.86x and NTM P/E of 7.52x, lower than its 3Y pre-pandemic mean of 3.34x and 8.73x, respectively. Otherwise, it is higher than its 1Y mean of 2.42x and 4.77x, respectively.

Based on its projected FY2024 EPS of $3.05 and current P/E valuations, we are looking at a moderate price target of $22.93. This mirrors the consensus price target of $22 as well, suggesting an excellent 20.1% upside potential from current levels.

GNK 1Y Stock Price

This is impressive, despite the tremendous stock recovery of 51.8% to $18.31 since the September bottom of $12.06. Based on GNK's projected dividend payout of $3.06 in FY2024, we may be looking at a lower forward dividend yield of 16.7%, against 25.3% from the stock prices at the recent bottom.

Nonetheless, since this number is still massively improved against GNK's 4Y average of 5.64% and sector median of 1.68%, there is no reason to complain indeed. Notably, its FY2024 forward yields prove excellent in comparison to its dry bulk peers, such as SBLK at 19.4%, GOGL at 10.3%, and EGLE at 8.3%.

However, we reckon GNK's upcoming FQ4'22 earnings call may shed more light on its current performance and forward guidance. Based on the factors discussed above, the possibly underwhelming FQ1'23 TCE rates may drag down its stock prices afterward. As a result, we prefer to rate the stock as a Hold here, due to the potential volatility.

Interested investors should only add at the next dip, speculatively in the low to mid $10s for an improved margin of safety.

However, we must also highlight that this phenomenon is particularly attributed to the industry's cyclical nature, instead of GNK's fundamental performance. Things may pick up in the intermediate term, with the Fed likely reaching its terminal rates by H2'23, and pivoting from Q1'24 onwards. Combined with China's reopening tailwinds, GNK may perform better from Q3'23, in our view.

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