Ship out of tankers while the going is good
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“The sharp slide in shipping rates this year has been widely attributed to a slowing Chinese economy,” writes Kevin Morrison in the Financial Times. “But it may have more to do with the arrival of new ships as owners expand their fleet.” The Baltic Dry freight index, which charts the rates charged for shipping bulky dry goods, such as grain, timber, iron ore, coal and steel, has fallen 70% since its December peak. More significantly, its uptrend broke irredeemably in April, since when it has all been downhill. Meanwhile, oil tanker rates, though very volatile, have also been falling like a stone. The Tanarata tanker rate (Middle Eastern Gulf to the East) has fallen nearly 80% since its November peak and the 100-day moving average broke its uptrend as far back as April.
“The fall [in rates] is more supply driven than demand driven,” agrees Peter Norfolk, analyst at shipping broker Simpson, Spence & Young, “because the volume of freight carried is still rising.” The rise in supply is down to two factors. First, recent high shipping rates have encouraged owners to hold off from scrapping old tonnage. Only one capsize vessel (the largest of the dry bulk ships) has been scrapped in the last year and a half, “compared with six in 2003 and ten in 2002”, writes Morrison.
Second, and much more significant than the slower scrapping of old ships, is the new tonnage on order and soon to be delivered from shipyards around the world. The world tanker fleet is likely to grow by 8% in 2005, a rate three and a half times faster than the International Energy Agency’s forecast 2.2% increase in world demand. The numbers are even bigger in container shipping, where new tonnage already on order to 2009 exceeds the size of the entire global fleet in 2000. Shipbroker Howe Robinson sees container ship leasing rates falling as much as 30% next year as a result.
Apart from rates (prices) falling, rising interest rates and oil prices are squeezing margins from the other side too, by pushing up costs. Citigroup analyst John Kartsonas estimates ship financing costs are up nearly 50% from a year ago. Meanwhile, Very Large Crude Carrier (VLCC) fuel oil costs, known as bunker costs in the industry, have risen above 40% of gross-freight revenue, up from just 6% in the halcyon days of last November, according to New York shipbrokers Poten & Partners. Since 2000, bunker costs have averaged 21% of revenue, and the peak was 51% in April and August 2002, when industry profits were perhaps a quarter of what they have been recently.
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So with all these headwinds pointing to sharp drops in future industry earnings, you might think that shares in the shipping sector would have sold off quite heavily. Well, you’d be wrong. Frontline, the largest tanker company in the world, although it broke its uptrend back in April, has subsequently hung around at these high levels, waiting for its second-quarter earnings, which are due out at the end of the month. But some stocks, like the much smaller UK-listed tanker stock James Fisher & Sons are, amazingly, still hitting new highs.
And it’s the same story with the shipping brokers and service companies. While Clarkson, the world’s largest shipbroker, has seen its share price lose momentum and its uptrend end in June, it has hardly sold off heavily and is still six times its September 2002 low. Meanwhile, smaller players, such as Braemar Seascope, are still firmly within the uptrend channel, seemingly oblivious to the stark deterioration of the industry’s environment.
This is completely contrary to what is happening on the ground or at sea. Falling rates, rising costs, collapsing margins and enormous new capacity on the horizon are all impacting on a deeply cyclical sector and should be ringing the warning bell loud and clear. Perhaps the markets feel they have to wait for bad earnings figures actually to be announced before they sell, but there’s no reason why we should wait. If you are still holding shares in the sector, ship out while share prices are high and sentiment is still good
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