Ships, Banks and the Credit Crunch

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Ships, Banks

and the Credit Crunch

Intertanko Intercargo 25th June 2008

Page 2

Contents

1. DVB – A brief introduction 2. The Credit Crunch – a digression… 3. The Ship Finance Market

4. Vessel Values - Optimism and Experience 5. Terms and Conditions in a lender’s market 6. The strange business of LIBOR

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DVB Bank

1923 1988 1995 1997 1998 1999 / 2000 2002

Foundation of Deutsche Verkehrs-Kredit Bank (DVKB) in Berlin

DVKB shares (24.9%) introduced to official trading on the FSE and BSE; Deutsche Bundesbahn retains 75.1%

DG BANK takes a majority share of 50.1% in Deutsche Verkehrs-Bank Strategy of the bank focuses on the transportation industry

Internationalisation through the acquisition of the Global Aviation and Shipping Finance division of the Long-Term Credit Bank of Japan

Change of corporate name: DVB Bank AG

Acquisition and integration of Nedship Bank N.V., closing of all German branches and establishment of four Transport Finance divisions

Page 4

From regional to global coverage

Bergen Bergen Hamburg Hamburg London London Rotterdam Rotterdam Frankfurt Frankfurt Piraeus Piraeus New York New York Cura Curaççaoao Tokyo Tokyo Hong

HongKongKong Singapore Singapore America America Europe Europe Asia/Pacific Asia/Pacific DVB Bank

DVB Bank --GroupGroup

since since20032003 Erfurt München Stuttgart Karlsruhe Basel (Rep. office) Frankfurt Hamburg Hannover Münster Köln Berlin Rostock Magdeburg Leipzig Dresden Deutsche Deutsche VerkehrsBank VerkehrsBankAGAG 1997 1997 Essen Kassel Mainz Nürnberg Saarbrücken

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Page 5

We are the unique asset expert in Transport Finance

DVB at a glance| 1. Key facts

Asset & Market Research Structured Asset Financing Equity Sourcing and Investments Risk Distribution Advisory Services Loan Participations

Shipping Aviation Land Transport

Page 6

Shipping division – 10 global sectors

DVB at a glance| 1. Key facts

Three existing and seven new sectors

Container Box Group

1 1

Cruise & Ferry Group

2 2

Crude Oil & LNG Tanker Group 3

3

Chemical & LPG Tanker Group 4

4

Container Vessel Group 5

5

Dry Bulk Group 6

6

Floating Production Group

7 7

Offshore Drilling Group 8

8

Offshore Support Group 9

9

Product Tanker Group 10

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Mission Statement

We are the leading specialist

We are the leading specialist

in international transport finance

in international transport finance

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Page 9

What is Subprime?

The US Mortgage Market is worth USD10 Trilllion

Of this USD7.2Trillion has been issued in the capital markets as Mortgage Backed Securities.

12% of the Mortgage Market is classified as Subprime. A further 10% is Alt-A. That’s about USD2.2 Trillion in total. Most of this has been “Securitised”, ie: Pooled, Tranched and sold to the capital markets

Subprime borrowers are typically low credit scoring with high gearing and low incomes.

Market forces have made this market more and more aggressive in recent years:

ƒ Interest Only – 37% of new loans

ƒ No deposit – 38%

ƒ No proof of Income – 43%

ƒ ARM - Low introductory interest rate, “exploding” after 2 years – c. 80%

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Who would invest in that?

$40mn 4% Equity $1000mn 100% Total $10mn 1% BB $10mn 1% BBB-$10mn 1% BBB $20mn 2% BBB+ $60mn 6% A $50mn 5% AA $800mn 80% AAA $ %

Mortgage Backed Security Tranches

Originator of Mortgages

Pool of Subprime Mortgages - $1bn, 5000 loans

BBB paper can be still further pooled and re rated up to AAA

Rating Agencies made most of this paper, or up to 95% of the value of the underlying property valuation appear very safe indeed, and it attracted a wide investor base.

“The empires of the future are the empires of the mind” Winston Churchill.

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Housing decline – An accident waiting to happen?

Event, Venue, Date 2008

Source: Irrational Exuberance (2ndEdition, Robert Shiller)

US Real House Price Index since 1890

Page 12

Housing decline

Event, Venue, Date 2008

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Subprime Lending - …

Event, Venue, Date 2008

Source: Bloomberg - May 2008 Subprime delinquency as % of total subprime loans

0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 Mar-9 8 Se p-98 Ma r-99 Se p-99 Ma r-00 Se p-00 Ma r-01 Se p-01 Ma r-02 Se p-02 Ma r-03 Se p-03 Ma r-04 Sep -04 Ma r-05 Sep-0 5 Ma r-06 Se p-06 Ma r-07 Se p-07 Page 14 0 20 40 60 80 100 120 7/1 9/0 6 8/2 /06 8/1 6/0 6 8/3 0/0 6 9/1 3/0 6 9/2 7/0 6 10 /11 /06 10 /25 /06 11 /8/0 6 11 /22 /06 12 /6/0 6 12 /20 /06 1/3 /07 1/1 7/0 7 1/3 1/0 7 2/1 4/0 7 2/2 8/0 7 3/1 4/0 7 3/2 8/0 7 4/1 1/0 7 4/2 5/0 7 5/9 /07 5/2 3/0 7 6/6 /07 6/2 0/0 7 7/4 /07 7/1 8/0 7 8/1 /07 8/1 5/0 7 8/2 9/0 7 9/1 2/0 7 9/2 6/0 7 10 /10 /07 10 /24 /07 ABX 2006-2 AAA ABX 2006-2 AA ABX 2006-2 A ABX 2006-2 BBB ABX 2006-2

BBB-Financial Turmoil – The Decline of Securitised Products

Event, Venue, Date 2008

Source: ABX, DVB Analysis – May 2008 ABX Index: Implied Value of Asset-backed Bonds Issued July - 06

Its got worse: AAA 72.5c AA 22.48c A 9.47c BBB 5.53c BBB- 5.40c

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Financial Turmoil – Halfway through?

Event, Venue, Date 2008

Source: Bloomberg – May 2008

Loss Capital Loss Capital Loss Capital Loss Capital Loss Capital Loss Capital

Americas 152.9 125.4 0 49 58.7 47.9 68.8 27.7 24.8 0.8 0.7 0 Europe 147.6 105 0 54.7 52 23.4 77.6 16.5 15.2 5.4 2.8 5 Asia 18.2 2.3 0 0 1 2.3 12 0 5.2 0 0 0 Worldwide 318.8 232.6 0 103.7 111.7 73.6 158.4 44.2 45.2 6.2 3.5 5 3Q07 Prior Total 2Q 08 1Q08 4Q07 UBS stated in a report earlier this year that US$ 600bn were to be expected in global writedowns. The worst projection is USD1.3 Trillion…

Writedowns vs. Capital Raisings Q307 – 2Q08

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Financial Turmoil – Banks Writedowns vs. Credit Raisings

Event, Venue, Date 2008

Source: Bloomberg – May 2008 Writedowns vs. Capital Raisings Q307 – 2Q08*

Rank Bank Loss Capital Raise Difference Market Cap

1 Citigroup 40.9 41.7 0.8 140.42

2 UBS 38 26.7 (11.3) 70.02

3 Merrill Lynch 31.7 16.1 (15.6) 50.60

4 Bank of America 14.8 17 2.2 174.73

5 Royal Bank of Scotland 14.8 23.8 9.0 71.40

6 Morgan Stanley 12.6 5.6 (7.0) 54.31 7 HSBC 12.5 2 (10.5) 205.51 8 JPMorgan Chase 9.8 6 (3.8) 163.92 9 Credit Suisse 9.5 1.5 (8.0) 63.24 10 IKB Deutsche 8.9 13.1 4.2 0.66 11 Washington Mutual 8.3 10 1.7 10.15 12 Deutsche Bank 7.6 3.1 (4.5) 63.97 13 Wachovia 7.3 10.5 3.2 64.15 14 Credit Agricole 6.4 0 (6.4) 56.68 15 HBOS Plc 6 7.9 1.9 37.54 …

16 Mizuho Financial Group 5.6 0 (5.6) 60.00

19 Societe Generale 3.8 8.6 4.8 68.29 29 Lehman Brothers 3.3 6 2.7 25.64 30 Barclays 3.2 9.7 6.5 61.20 31 Bear Stearns 3.2 0 (3.2) 2.61 32 West LB 3.2 7.7 4.5 n/a 35 Goldman Sachs 3 0 (3.0) 84.50 38 ABN Amro 2.4 0 (2.4) 111.97 39 Fortis 2.3 0 (2.3) 58.59 40 HSH Nordbank 2.3 0 (2.3) n/a 43 Natixis 1.9 0.8 (1.1) 21.31 44 BNP Paribas 1.6 0 (1.6) 98.66 45 Unicredit 1.5 0 (1.5) 101.24 46 DZ Bank 1.5 0 (1.5) n/a Total: 267.9 217.8 (9.0)

*Table shows the 15 biggest losers and selected others. Major Shipping lenders are highlighted in blue

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Financial Turmoil – Writedowns vs. Credit Raisings

Event, Venue, Date 2008

Source: Bloomberg – May 2008 Writedowns vs. Capital Raisings Q307 – 2Q08

US$bn % 0 5 10 15 20 25 30 35 40 45 50 Citi group UB S Mer rill Ly nch HSB C IKB Deu tsch e RBS Bank of A mer ica Mor gan Sta nley JPM orga n C has e Cred it Su isse Was hing ton Mut ual Cre dit A gric ole Lehm an Br othe rs Deut sche Ban k HBO S Pl c Forti s Lehm an Br othe rs Barc lays Soci ete Gen eral e Miz uho Wes t LB Gol dman Sach s Nat ixis Bear Ste arns HSH Nor dbank BN P P arib as ABN Am ro DZ Bank Uni cred it

Writedowns/Losses Capital Raisings

Page 18

Pricing - US Commercial Mortgage Backed Securities

…when prices fall, yields rise…

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Page 19

Bank Pricing (Credit Default Swaps)

Page 20

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Page 21

Shipping Finance

Page 22

Financial Turmoil – Impact on Shipping Banks

Event, Venue, Date 2008

Source: Bloomberg – May 2008 Writedowns vs. Capital Raisings Q307 – 2Q08*

0 5 10 15 20 25 RB S HS BC JPM orga n C hase Deu tsch e B ank Cre dit A gric ole HB OS Plc Miz uho Soc iete Gen eral e Bar clay s Wes t LB AB N A mro For tis HS H N ordb ank Nat ixis BN P P arib as

Writedowns/Losses Capital Raisings

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Page 23

Bank Portfolios

0 5 10 15 20 25 30 35 40 45 H S H No rd b a n k R o y a l B a nk of S c ot la nd No rd e a KF W I P Ba n k D eut s c h e S c h if fs b a n k Dn B N o r Ca y lo n Ll o y d s T S B Mi z u h o B a nk of S c o tl a n d DV B C o mme rz b a n k D ani s h S h ip F ina nc e SM BC Fo rt is B rem er La nd es b a n k HV B AB N Am ro D ans k e B ank B N P Pa ri b a s 9 of the top 20 shipping lenders directly impacted by sub prime. Page 24

The Implications in the Syndicated Debt Market

Syndicated Shipping Loans

37 40 39 43 56 57 60 71 53 56 77 83 82 89 74 91 57 34 0 5000 10000 15000 20000 25000 30000 2004 Q1 2004 Q2 2004 Q3 2004 Q4 2005 Q1 2005 Q2 2005 Q3 2005 Q4 2006 Q1 2006 Q2 2006 Q3 2006 Q4 2007 Q1 2007 Q2 2007 Q3 2007 Q4 2008 Q1 2008 Q2 US D m ln 0 10 20 30 40 50 60 70 80 90 100 Volumes $mln Number

Syndicated Shipping Loans: Total Volume and Number of Deals Q1 2004:Q2 2008

Sudden drop off in syndication business – banks’ liquidity squeeze, pricing confusion.

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Page 25 0.00 50.00 100.00 150.00 200.00 250.00 300.00 350.00 400.00 450.00 198 0 198019811982198 3 198419851986198 7 19881989199 0 199119921993199 4 199519961997199 8 199920002001200 2 20022003200 4 200520062007 Ma rg in in B P

Ship Finance

Price Development – Reported Deals (to May 2008)

Source Dealogic

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Borrower’s Objectives, Lender’s Objectives

Borrower: High Leverage

Back ended Repayment (Profile) Long Term

Low Price

Freedom to pay dividends Free movement of cash

Limited Recourse (walk away option) Payment Default only

High Certainty of drawdown Underwritten or “Bought” deal

Lender: Low Leverage Rapid repayment Short Term

High Price/Market Flex Dividend restrictions Ring fenced cash Full Recourse

Financial and VMC Covenant Triggers Conditionality on drawdown (CPs) Book Building or Club Deal

Flash Points are related to RoE, Cash and Covenant

Controls, and Recourse

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Page 27

Libor and the Cost of Debt

Libor and the Cost of Debt

6 Month USD Libor

0% 2% 4% 6% 8% 10% 12% 14% 16% 18% 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008

Cheap in historical terms, but margins are up by 40-60 bp

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The strange story of LIBOR

•British Banker’s Association sets interbank interest rates for 10 currencies.

•Quotes are provided by 16 banks based on their own cost of funds and the average

of 8 median quotes is used.

•The question is – are they telling the truth?

•The suspicion is that the panel is keeping rates artificially low:

• to suggest they are less desperate for liquidity than they are

• to reduce their borrowing costs on existing LIBOR based deals

•BBA is investigated, but many banks are still unsatisfied by its remedies

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Page 29

Optimism or Experience? …and where will the money come from?

Page 30

Shipping Finance’s biggest challenge: Optimism or Experience?

VLCC Resale Project

Cost: USD180mn

Debt Cost: 4.50% + 1.25% = 5.75% Opex USD10,000

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Page 31

Interactive

0 10,000 20,000 30,000 40,000 50,000 60,000 70,000 80,000 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 US D pe r day VLCC I year TC Average 1 year VLCC Time charter rates

(Clarksons). Range of possible TC

Rate Projections

Page 32

Interactive

VLCC 5 year old Value

0 20 40 60 80 100 120 140 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 US D M n

VLCC 5 year old Value

Range of 5 yr

Loan Oustandings

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Page 33

Interactive – Project Resale

VLCC Resale Project

Purchase Price 180,000,000 IRR (Base Case) 14% Debt 126,000,000

% Finance 70%

Opex $ 10,000

Swap 4.50%

Margin 1.25% Day Rates (USD)

Interest Cost 5.75% Historic Average 1 yr TC $ 30,233 Current 1 yr TC Rate $ 80,000 Repayment Profile (years) 16.15 Spot YTD $ 102,325 Book Value Year 5 144,000,000 Spot Rate $ 57,374 Balloon o/s Year 5 78,000,000

Adjusted Repayments

Breakeven Base Case Low Case Repayment as % Yr 1 14,000,000 68,205 80,000 45,000 11.111% Yr 2 12,000,000 60,771 65,000 40,000 9.524% Yr 3 10,000,000 53,657 50,000 30,233 7.937% Yr 4-10 6,000,000 41,385 45,000 30,233 4.762% Page 34

The perennial question - where will

the money come from?

•USD600bn newbuilding book, of this perhaps USD200bn debt finance still to be

arranged

•Some banks still “slow steaming” or reserving capital for top clients, but even they

are paying higher margins

•Top clients are generally those flush with cash

•But what about their s&p buyers?

• IPO candidates, new entrants, financial entities

•Will they get the leverage and terms they need to make buying a USD180mn VLCC

resale viable?

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Page 35

Conclusions

1. All banks are in some way affected by the credit crunch and have significantly increased funding costs

2. All borrowers are experiencing this through increased margins, more conservative terms etc

3. Shipping needs to compete with other industries for capital, so pricing will always be comparable

4. The loan syndication market has been difficult, forcing club and book build deals

5. In general it looks like bankers are being more conservative But…

6. At the right price the newbuilding book will find the USD200bn finance it needs, but perhaps not the leverage they are hoping for

7. Some contracts will be cancelled

8. This will pass, but few are gambling on that happening soon…

Thank you for your attention

Peter Illingworth

Peter Illingworth

peter.illingworth@dvbbank.com

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Page 37

Basel 2

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They said it would never happen…

The new BIS Rules - Basel II

New Basel Capital Accord (Basel II)

Pillar 1 Mi ni mu m C a p ita l R e q u ir em e n ts

Pillar 2 Supervisory Review

P rocess P ill ar 3 Mar k et Disc ip line Credit Ris k is p art of t his:

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Basel II – Advanced approach

Three step calculation of Expected Loss and Capital Requirement

LGD

Likely loss

after realising

security

Calculated using Monte Carlo simulation

EAD

Principal and

Interest

over next

12 months

Calculation favours amortising facilities

PD

Financial Ratios:

Solvency

Liquidity

Profitability

Scale

Rating Class determines default rate Page 40

LGD: Future Market Value Method

95%

Monte Carlo Scenarios

Lower boundary of the 95 % confidence interval Upper boundary of the 95 %

confidence interval

Expected value

Time horizon of 1 year

Distribution of the results from the 10.000 scenarios

drift

2 out of approx. 10.000 simulation scenarios (simulated paths)

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How will Basel 2 Influence Pricing?

Today – fixed 8% Capital (Simplified) 1% Margin = 12.5% RoE

Basel 2 – changed capital could dramatically change pricing: 4% Capital 50 bp Margin = 12.5% RoE

12% Capital 1.5% margin = 12.5% RoE

Figure

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References

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