Freight futures sizzle as banks, funds tap growth

By Stefano Ambrogi - Analysis

LONDON (Reuters) - Freight futures more than doubled last year on record prices to ship commodities and could grow another 20 percent this year as more banks and hedge funds, stung by the credit crisis, fish for profits.

Major brokers say freight derivatives trade to transport raw materials jumped 113 percent to $117 billion in 2007 from $55 billion in 2006, outdoing the most optimistic forecasts.

Early last year leading players had estimated the market for oil and dry commodities growing to around $150 billion in the next three to five years.

"This is a massive drive for the Freight Forward Agreement (FFA) market," said Michael Gaylard, strategic director at Freight Investor Services in London.

"There's been a significant increase in the number of players actually looking at the market and also the variety of trades that are executed. We are very much breaking new ground here," he said.

Futures growth has been driven by physical freight prices to ship dry commodities like grains, iron ore and coal which struck a record in November on voracious demand from China and India.

The Baltic Exchange's chief sea freight index, which gauges the strength of 40 such trade routes, has had a roller-coaster ride over the last six months, plunging in January from a record, only to recover again.

Brokers say it is precisely that physical volatility that has drawn big financial players eager to cash in on the evolving futures market.

Banks and hedge funds now account for close to 40 percent of the global market compared with 15 percent last year, they say.

VOLATILITY KEY

"Volatility is absolutely massive: capesize-class (largest ships) volatility is about 70-75 percent -- it's huge. We've seen $20,000 intra-day swings on voyages," Gaylard said, adding that participation wasn't for the faint-hearted.

"The exceptional growth has been driven by financial players who want exposure to the shipping markets, exposure to China and India, and cashing in on that growth," said spokesman for London's Baltic Exchange, Bill Lines.

Only last year the former chairman of the U.S. Federal Reserve called the exchange's major trade routes an excellent indicator of global economic growth.

Major investment banks Goldman Sachs, Citigroup, Macquarie Bank, Morgan Stanley, Credit Suisse and Merrill Lynch have all set up or bolstered existing freight derivatives desks in the last year.

"It's certainly hit peoples' radars and what has happened recently on financial markets has only accentuated the look for another sector to get their teeth into," Gaylard said.