The bulk carrier supply-demand balance looks set to gradually find equilibrium in the coming years as vessel deliveries slow. But gains for owners could be quickly wiped out if improving freight rates prompt another newbuilding order rush at shipyards.
It is hard not to feel sympathy for bulk carrier owners sometimes. Every time a new freight rate low is reached and the start of an upward curve predicted, the recovery is holed below the water line before the sector has fully righted itself. Of course, sympathy dissipates because the damage is so often self-inflicted by owners, investors and myriad other speculators splurging yet more money on new ships, or reactivating and speeding up vessels, at the first sign that supply might finally be finding some sort of balance with demand.
This pattern saw last summer’s moderate freight rate gains and the optimism surrounding them both quickly subside – like so many rallies before them – under the weight of excess steel operating on key trades and the market pressure on forward sentiment that comes with mass announcements of new orders.
The Weekly IGC Grain Freight Index (see chart on page 47) has been tumbling since November, a trend also reflected, albeit with a rally in March, in the Baltic indexes by type of bulk carrier (see charts on page 48). The slump was also evident in the first-quarter results of many bulk carrier operators.
Typical was Safebulkers, which runs a medium-sized fleet of bulkers mostly in the size range of 75,000dwt-100,000 dwt and counts grain as one of its main cargoes. The operator’s net income decreased by 30% to $11.2 million in the first quarter of 2014 from $16.1 million in the first quarter of 2013. Safebulkers was hit by a decline in time charter rates in the period which on average totaled $13,921, compared to $18,113 during the same period of 2013. The company also had to manage a 27% hike in vessel operating expenses.
After a year of price unpredictability, as summer 2014 started grain shippers were facing much the same shipping costs as they had done a year earlier on some routes, but much lower costs elsewhere. According to the International Grains Council, U.S. Gulf-E.U. rates were $15 per tonne at the start of June compared to $21 per tonne a year earlier. U.S. Gulf-Japan rates were steady at £43 per tonne, and Brazil-E.U. rates were running at $30 per tonne, down from £33 per tonne a year ago.
Bulked up demand
The historically low rates currently available to charterers and spot shippers are not being caused by weak demand for bulk carriers or an ailing global economy, however. Indeed, the economic black clouds that have been a source of concern to analysts since the financial crisis struck in 2008 have started to at last clear. GDP growth is gradually improving in the U.S. and Europe, and confidence is now rising. Most of Asia and large swathes of Africa are seeing healthy levels of economic growth, while voters in India are hoping a new political broom will bring business friendly reform.
China, which accounts for 45% of global demand for major bulk cargoes such as coal and iron ore, is restructuring its economy as government policy moves away from export-led growth and focuses more sharply on domestic consumption. Yet, there are few signs this is going to diminish its appetite for industrial commodities and its burgeoning middle classes continue to demand more wheat and corn-based products.
This bright economic outlook is reflected in the latest demand forecasts for bulk carriers from Drewry Shipping Consultants, which paints a largely positive picture. Major bulk growth covering coking coal, iron ore and thermal coal increased by a CAGR of 6.2%, 7.3% and 10.7% over 2009-14, respectively. Equivalent figures for 2014-19 are forecast by Drewry to be lower – at 1.2%, 7.3% and 4.9% – but climbing from a wider base and continuing to be driven by Asian consumption which, especially in the case of iron ore, means heavy tonne-mile demand if ordered from Brazil.
Total minor bulks are expected by Drewry to grow by 3.6% CAGR in 2014-19 compared to 2% in the previous five years, although the grain trade will increase by only 2.4% over the latter period compared to 8.2% CAGR in 2008-13.
“Minor bulk is driven by multiple industries which are further governed by GDP, whereas major bulk is primarily driven by the steel and power industries of key consuming economies,” said Arjun Batra, Group Managing Director of Drewry Shipping Consultants. “The minor bulk commodities trade is expected to go up from 1.5 billion tonnes in 2014 to 1.8 billion tonnes in 2019.”
Indeed, overall billion-tonne mile (btm) demand for bulk carriers grew from 15.7 btm in 2008 to 20.4 btm in 2013, representing growth of 5.4%, said Batra. During 2014-19, it is estimated to go up from 21.4 btm to 28.7 btm, a CAGR of 6%.
“Increasing growth is attributable to commodities being sourced from further away,” he said. “China has been the most important driver for over a decade. It is expected to continue to play a key role in the dry bulk market.”
Excess supply causing volatility
But while the demand outlook, at least for bulk carrier owners and operators, looks rather sprightly, the same cannot be said on the supply front, and this could lead to yet more pricing uncertainty for grain shippers both in the short and long-term. But exactly how and when this will all play out varies significantly depending on who is answering the question.
DNB Markets suggests that rates have now bottomed out, at least for larger sized vessels. “All in all we believe the dry bulk spot rates, in particular for the larger sizes, should increase from here,” said the bank in a note. “We have a spot rate forecast for full year 2014 of $26,000 a day for capesizes, $15,000 a day for panamaxes and supramaxes, and $12,000 a day for handysizes.”
HSBC, another bank, believes any recovery will be weak and thinks a mid-summer pick-up as witnessed in 2013 unlikely, although the BDI could spike seasonally in the second half of the year.
“Unlike the fourth quarter of 2013, this year dry bulk rates have little momentum despite strong iron ore imports by China,” said HSBC in its latest transport report. “Dry bulk rates remain better behaved so far in 2014 than in first-half 2013, but the talk about the sector’s recovery has definitely cooled down.
“Most industry participants have turned cautious and note that the sharp rally in asset prices over the last 18 months has not followed through in freight rates so far.”
HSBC argues that in the past the expectation of a strong recovery was probably too optimistic for two reasons. “Firstly, the move up in freight rates in second-half 2013 appeared more due to a sharp re-stocking – after an equally sharp de-stocking earlier – than due to an improvement in structural supply and demand of the sector,” said the report. “Secondly, any move up in rates faced headwinds from the unwinding of slow-steaming and a surge in new orders.
“It is difficult to identify exactly why the rates have disappointed so far in 2014 but demand doesn’t appear to be the softer spot. In fact, the recent inability of seemingly strong demand to give a nudge up to the freight rates is a sign that oversupply is bearing down on the sector again. In our view, the increase in freight rates in 2014-15 will be limited.”
Divergence of thought
Unlike many of his peers, George Economou, one of the stalwarts of the sector and Chairman and Chief Executive Officer of Dry Ships, is defiantly bullish in his forward outlook. He believes that charter rates for larger dry bulk carriers under-performed during the first quarter of 2014, and “forward charter rates and asset prices are holding up resiliently, underscoring the bullish market sentiment.”
He predicts “a sustainable recovery in charter rates during the second half of 2014 and beyond.”
According to Batra, there was a rush of new orders in 2013 based upon low prices, early deliveries, “eco ships” and a flood of private equity into shipping. But newbuilding prices are now rising and are not supported by current freight rates, a dynamic he believes will dampen speculative orders. A significant number of vessels are still on the order book and due to be delivered through 2016, but Batra expects order levels to be “moderate” unless there is a sustained freight rate recovery and this will see fleet growth gradually return to more normal levels over 2014-19.
Over the next few years he expects demand to grow marginally faster than supply.
“We, therefore, expect that freight markets will gradually improve over the next few years,” he said.
However, Batra raises an additional point about vessel speeds. Drewry says the average speed of the dry bulk fleet has fallen from about 14 knots to about 11 knots as freight markets have declined in recent years, a strategic change which has absorbed about 15% of capacity.
“Speed acts as a bellows which absorbs/releases supply into the market as freight levels increase/decrease,” said Batra. “This latent capacity will act as a ‘cap’ to how high freight markets can rise.
“We do not expect sustained large increases in freight rates as this would bring in additional supply in the form of ships increasing speed. We expect volatility to continue or increase as we get closer to equilibrium. The volatility will be amplified by seasonality, weather and external events.”