Multivariate Modeling and Analysis of Regional Ocean Freight Rates

Abstract

In this paper, we propose a new multivariate model for the dynamics of regional ocean freight rates. We show that a cointegrated system of regional spot freight rates can be decomposed into a common non-stationary market factor and stationary regional deviations. The resulting integrated CAR process is new to the literature. By interpreting the common market factor as the global arithmetic average of the regional rates, both the market factor and the regional deviations are observable which simplifies the calibration of the model. Moreover, forward contracts on the market factor can be traded in the Forward Freight Agreement (FFA) market. We calibrate the model to historical spot rate processes and illustrate the term structures of volatility and correlation between the regional prices and the market factor. Our model is an important contribution towards improved modelling and hedging of regional price risk when derivative market liquidity is concentrated in a single global benchmark. Date: Monday 18 th September, 2017. Key words and phrases. Freight rates, autoregressive models in continuous time, cointegration, Forward freight agreements. We are grateful to Clarkson Research for provding us with data. The authors acknowledge financial support from the research project "Green shipping under uncertainty" partly financed by the Research Council of Norway under grant number 233985. We thank three referees for their valuable and constructive criticism on an earlier version of the paper.

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“…Chen et al [18] applied the ARIMA and the VAR approaches to predict the spot rates of several dry bulk routes and found out that the VAR approach performed better than the ARIMA approach in test-sample forecasts. Adland et al [19] showed a cointegration-based method for analyzing regional ocean freight rates' dynamic properties.…”