Short Thoughts on the Dry Bulk Market

capesize dry bulk iron ore
Image (c) Teun van den Dries/shutterstock.com

The last couple of weeks have brought the slimmest hope that springtime may be forthcoming for the much beleaguered dry bulk market; we are not talking about signs of an impending great recovery, but at least the dry bulk indices have stopped dropping and have shown marginal improvement; the widely-observed Baltic Dry Index (BDI) established an all-time low point on February 18th at 509 and closed at 591 on Friday March 20th; on percentage terms the improvement seems impressive (close to 20%), but again one has to keep in mind that the low of 509 was a thirty-year low – almost, and despite the improvement, dry bulk vessels are earnings below cash break even rates – thus, the improvement is not financially meaningful; it only bears psychological significance that hopefully the worst is behind us, for now.

As one would expect, publicly listed dry bulk companies continue to report abysmal earnings (actually losses), and earnings conference calls tend to range from confessionary litanies to Christmas lists on what would turn the market around. There have been the occasional corporate bankruptcy here and there and some ship arrests on a limited basis but nothing of a Korea Line Company (KLC) magnitude shockwave. Likely another blowup the size and significance of KLC will not materialize in the dry bulk market as KLC had taken shiploads on vessels at sky-high rates prior to 2008 while most of the traders / charter-in operators today have established their cost floors and rates at substantially lower rates in 2012 to 2014. Still, there is bleeding since the market is lower, but nothing of a precipitous nature. Case in point, Norden has recently prepaid charter obligations for nine of their vessels for the next four years at $50.5 mil, a $10.5 mil discount over the face value of the freight hire of $62 mil, implying that Norden obtained a $900 per diem per vessel freight rate discount for the prepayment.

Lots of hope has been placed on scrapping that could bring forward a balance in dry bulk tonnage supply and demand, and already in 2015 so far, more capesize vessels have been scrapped than in total in 2014 (27 in 2015 ytd vs 25 in the whole 2014); however, one has to be reminded that despite the weakness of the dry bulk market, scrapping in other asset classes is not reflecting market conditions and doesn’t keep pace with low freight rates; and, as always, the minute the freight market pops above operating breakeven, demolitions will nosedive again; it has been happening all the time, and one has to see that tankers selling for scrap have become a rarity now that rates are decent in the sector. And the promise of accelerating scrapping doesn’t not have too much to go since more than 50% of the world’s dry bulk fleet is newer than five years old; ‘old dogs’ will be going for scrap as long as the market is terrible, but most of the world fleet is too new to be considered scrapping candidates; the world’s fleet is new is the ultimate truth and scrappings will have marginal impact.

More hope has been placed on the declining rate of newbuildings for dry bulk vessels, and it’s admirable that year-to-date fewer than twenty dry bulk newbuilding orders have been placed. But again, declining newbuilding orders and conversions to tankers cannot be considered panacea for the market; there is plenty of money on the sidelines to be invested, most of the institutional investors looking to invest in shipping have not acted yet, there is excess shipbuilding capacity, commodity prices like iron ore and steel plate are ever competitive, and as the backlog for the shipyards gets thinner later in the year, shipbuilders can become aggressive with generating new orders. As most of the institutional investors looking to invest in shipping have not done so yet, this may be their chance to invest at lower prices than their competition who so far has caught a ‘falling knife’.

While the dry bulk handysize, supramax and to a lesser extent panamaxes were slowly improving for a couple of weeks now, capesize vessels are kept on a freight declining route; only this week capes bounced from a low of 357 points to 423 points in a matter of two days, generating suspense for the coming week whether the freight rates will keep moving higher. It may be so, and it will be most welcome news; however, over the longer term, capesize tonnage likely will have a tough ride: the Chinese economy has both been slowing down and also getting shifted from industrial production to consumption which does not bode well for iron ore imports and the cape market; further, China has been producing (and storing) much more steel that it can use and recently there have been talks of China dumping below cost steel to the international markets raising the prospects that the World Trade Organization (WTO) may be asked to look into the complaints; the fact that mining companies have been building up their own captive fleets and that Vale managed to find a resolution with China and Cosco for their so-called Valemax fleet is not boding well for the overall capesize market and the independent owners. A boost to the capesize market is much needed and hoped for, but on the long term, one has to be skeptical of too rosy prospects.

It used to be an easy model to wait for the market to collapse and buy ‘cheap ships’ and trade them till the market would turn when one could hit the jackpot by selling then the ships at a multiple of the acquisition price. This cycle proves to be too complicated to figure out and project – proof that many institutional investors moved in too early and caught ‘falling knives’ and bet too much on newbuildings; looking forward, one has to wonder whether the model of the past cycles is still valid in our days… and how best to benefit from the present weakness in the market; is it time to buy in this weak market indeed?