The precipitous decline of the Baltic Dry Index (BDI) and the multiple readings of all-time lows earlier this year have brought the state of the abysmally low freight market to the front pages of the international business press. Effectively, earlier in 2016, all dry bulk vessels afloat, irrespective of age, size and trade, were making $3,000 pd, if and when they could manage to find a cargo. $3,000 pd is below operating breakeven for all types of dry bulk vessels, well before taking into consideration the financial cost and drydocking provisions. For any business covering only variable cost, the future cannot be too effulgent.
While indeed low freight rates will prove too painful for many shipowners owners and shipping lenders, regrettably, we are of the opinion that the miserable state of the market is actually its greatest hope as well. Indeed.
The market collapse in 2008 was too fast and condensed to leave any survival agony; and, coming after the good years of the super-boom cycle with many owners were still in a very very good mood and with piles of cash in the bank, the impact and the lessons the collapse in 2008 were fast ignored. Shipowners and institutional investors alike, failing at sourcing cheap ships from the banks, went to the shipyards and ordered massive numbers of vessels in almost every segment. While the world fleet was fairly young in 2010 (slightly over ten years of age, on average), buyers of new orders were aiming at building fleets with a lower cost basis (lower shipbuilding prices than boom years, often also subsidized with export credit) and better fuel consumption (think ‘eco design’). As a result, at the end of 2013, the outstanding dry bulk orderbook ballooned to 22% of the world fleet, with certain asset classes (35,000+ dwt handies, 80,000 dwt panamaxes and Newcastlemax / capes topping 50% of the outstanding orderbook of same asset class). Given the required couple of years lead-time for the delivery of a vessel, the present implosion of the BDI is partially the result of the newbuilding wave in 2012-2014. However, in the present crisis, new orders for dry bulk vessels placed in 2015 dropped to appr. 18 mil deadweight from apprx. 67 mil in 2014, an almost a 75% decline. We see this as a silver lining in the world of the dry bulk market.
Covering only variable cost entails hard management and trading decisions, and none is costlier than dry-docking a vessel and having soon to see them on a beaching yard. The low dry freight environment saw a largely expanded demolition schedule in 2015, with close to 31 mil deadweight tons scrapped vs appr. 16 mil scrapped in 2014, an almost doubling of demolitions, courtesy of the continuously weak freight market. Checking the flip side of the coin, appr. 49 mil deadweight was delivered in 2015 vs. appr. 48 mil deliveries in 2014, a miniscule increase; again, courtesy of the weak freight market, cancellations, slippage and other market retardants. Taking a combined look for deliveries and scrapping, in 2015 actually the rate of increase of the world dry bulk fleet decreased actually in 2015, an always encouraging sign when supply declines. Just another silver line in a cloudy sky.
Taking a longer look on the tonnage supply picture, there has been a shipyard consolidation in China in the last year, with many yards, admittedly many greenfield yards, going out of business. Accurate data out of China are always precious to find, but we estimate that the dry bulk shipbuilding capacity in China has shrunk by a third in 2015; there is always the danger that these simplistic shipbuilders can easily come back to the market, but we are encouraged in the silver lining of decreasing shipbuilding capacity.
A great deal of the outstanding orderbook has been fueled by China’s credit boom of the last years, including subsidies and export credit for newbuildings orders placed in China. Again, news about China has to be taken with a grain of salt, but it seems that easy credit and/or export credit will not be available any time soon for those ordering more newbuilding vessels; besides, it’s difficult to extend credit in a cash flow negative market. Just another welcome silver lining on the horizon!
The collapse of the market in 2008 attracted for the first time many institutional investors to shipping, who invested in second hand vessels, shipping equities and bonds, but mostly ordered vessels for all their heart could content. Opportunistic money bear partially the blame for the present state of the market, but such blame has been very expensive too: in general, most investments by institutional investors in shipping are under water at present, figuratively speaking; it’s hard to quantify the losses for the overall market, but for publicly listed companies, calculations can me made with certain degree of accuracy: Lloyd’s List recently published that Scorpio Bulk, backed by institutional investors, realized a $400 mil loss from the ordering and disposal of 28 capesize vessels, an approximate 30% value destruction on the original investment. Anecdotal evidence suggests that 30% is the present losses across the industry, realized or not by institutional investors in shipping. Based on the estimate that $30 billion were invested in shipping post-2008, $10 billion are now in the bottom of the ocean. One can be sure that after such losses, no many institutional investors want to hear about newbuildings, which in our opinion is the silver-est of linings in this bad market: keeping opportunistic investors away from expanding market capacity.
The present cycle is really painful and it’s unavoidable that many shipowners will file for projection or bankruptcy; many investors and lenders stand to realize more losses in shipping in the coming year. It’s a pity, really, but that’s life. We are of the opinion that a protracted and extremely bad market is actually a good thing for the market in the long term; owners will default, banks will get aggressive with owners, ships will be forced to be scrapped sooner or later, and hopefully sooner than later, investments will start taking place on fundamentals and not on gut feelings and investment themes (‘eco design’ has to be one for the ages). Fewer people will be around in shipping when the bloodbath is over, but they will be bigger, better capitalized, better organized and managed, and better positioned for a changing future.
We want to view the present pain in the market as growing pains that needed to make one strong. BDI is bad, but no despair is needed. There is good to come out of this ugly mess.
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