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Baltic Dry Index, will the recent rise continue?

  • Trend and movement in Baltic Dry Index
  • Will Chinese demand play a crucial role in the Index?
  • Is dismantling of ships and low order book leading to limiting of supply?

 

The world economy has seen several ups and downs during the past decade. While the broader economy continues to mend and is backed by a healthy improvement in the major macro and microeconomic factors. The key parameters which need to be closely monitored are the trade data trend.

The international economy survives on the movement of goods and commodities across distinct regions. Likewise, the world relies on the sea trade as it is convenient and cost-effective as compared to other modes of transportation such as air cargo, rail freight, etc. Furthermore, ~ 80% of total traded goods moved through sea shipments, this grew to 10.3 billion metric tons for cargo (2016) from 7.7 billion metric tons (2006) and registered a CAGR of 3%. The dry shipped cargo increased from 5 to 7.2 billion metric tons, registering a CAGR of 3.8% during the above period, this also includes the data for goods shipped in containers. 

Televisory examined the trend and movement in one of the major indices for global trade movement of dry goods and commodities; ‘The Baltic Dry Index’. The exchange provides the data for cost of transporting cargo; dry and wet. The Baltic Dry Index measures the cost of transporting bulk dry cargo largely iron ore, steel, coal, grain and other minerals internationally. It is a weighted index that considers the shipping routes and volume for the four distinct categories of cargo ships namely Handysize, Supramax, Panamax and Capesize in order of increasing size of ships. The index, which is also seen as an indicator of the major economic activity witnessed a roller coaster ride in the past 15 years.

It touched a record high of 11,793 (May 20, 2008), but plummeted to a low of 663 (by December 5, 2008) on account of the global recession. The Baltic Exchange’s history can be divided into 3-time periods: the bullish period (2000-05), the boom period (2005-08) and the consolidation period (2008-17).

In the first period (2000-05) when the world economy was growing at an average rate of 3.2% and the sentiment was bullish on future prospects, the industry saw a large number of orders for shipbuilding. This led to an increase in the Baltic Dry Index from 1,319 (January 2000) to 2,407 (December 2005). The total order book for the vessels was 708 (as on 31 December 2005), out of which 289 vessels were under construction. While the global fleet of dry bulk stands at 5,580 vessels with the capacity of 349,282 thousand DWT ([Deadweight tonnage], [as on 31 December 2005]).

The economy persisted with the momentum backed by a robust growth from China, which averaged 8-10% and a strong growth in the US, Europe and other major Asian nations. Moreover, during the second phase (2005-08), the demand growth outpaced supply and the positive sentiment on the economy further supported the increase in the index, which saw a high of 11,793 (May 20, 2008). This period saw an increase in the order book from 708 vessels to 3,354 vessels, while the total vessels in service increased marginally from 5,580 to 6,292. The DWT capacity also increased at a slower pace from 349,282 thousand DWT to 404,585 thousand DWT. However, there was a dramatical reversal during the latter half of 2008 as the world economy was hit by the recession. The Baltic Dry Exchange registered a sharp decline of ~ 94% in the following 6 months. The excess capacity was a result of orders (2000-05), while there was a reduction in the demand and the actual growth led to an oversupply situation in the market.

Further, the index showed signs of degeneration subsequent to the shock of 2008. It continued to languish and reached an all-time low of 290 (February 2016). But, the index displayed few signs of recovery (2017) and managed to move towards ~1,700 levels (December 2017). This was up from ~950 (January 2017) on the back of lower supply growth rate owing to limiting fleet supply and a modest increase in demand from the Chinese economy.

An evaluation of the broader perspective shows that (after 2008) the demand growth remained constrained, whereas key change was the increase in the size of ships. Hence, in order to achieve economies of scale and reduce costs, the capacity of vessels too increased as companies added more of Capesize ships, which had a capacity of more than 100,000 DWT. The Avg. capacity per vessel increased from 61,0000 DWT to 77,500 DWT in the last few years as seen in the above chart. The excess capacity on the back of increased orders led the market towards a capacity surplus, while a low demand affected it adversely.

The silver lining came in the form of the dismantling of old and inefficient vessels. Ship carriers commenced dismantling old and inefficient vessels as the number of vessels were broken up and this increased from 2011 as shown in the above chart. Shortly, the Baltic Dry Index touched a new low of 663 (December 2008), the next quarter (March 2009) saw 132 vessels being broken up, while a total 278 vessels were broken up (2009). The shipowners continue to dismantle their old/existing vessels wherein on an average 400 vessels were broken annually in last 6 years (2011-16).

Near-term outlook
The Baltic Dry Exchange’s movement is based on several factors such as the supply of vessels and its capacity, demand for cargo mainly from iron ore, steel, coal, grain, commodity prices, bunker prices, and most important the future sentiment on the world economic growth and the trade outlook. Iron ore, coal, steel and grain are the major commodities which are shipped from dry bulk carriers, significantly iron ore is the largest shipped dry bulk commodity. In addition, China is the biggest importer of iron ore in the world, the economic condition of the nation directly affects the global demand and the freight rate. The recent increase in the iron ore import and steel demand from China pushed the demand for commodities as the country invested heavily in the OBOR (One Belt One Road) project, which will support huge demand for iron ore, coal and steel. Chinese demand for iron ore and coal is crucial for the dry bulk market as the nation accounted for more than 75% of the total seaborne iron ore imports. While in the recent quarters the total seaborne imports for coal reduced, although China’s seaborne imports for coal increased. A contraction in iron ore and coal mining in China led to supply constraints, which further boosted the demand for iron ore and coal imports backed by the OBOR project and gradual and consistent revival of the Chinese economy. It is not only iron ore and coal, but other major base metals and steel too saw a healthy increase in prices (2016-17 period). These positive developments drove the Baltic Dry Index higher (2017). Additionally, a decline in bunker fuel prices amid continuous low crude oil rates in last few years and an increase in commodity prices also supported the latest increase in the Baltic Dry Index.

In 2018, the dry bulk trade is expected to outpace supply. According to Clarksons, the dry bulker demand would grow at 2.7%, while the fleet supply is anticipated to increase by 1.2%. The vessels supply is presumed to stabilise soon with the increase in dismantling of old ships due to environmental norms which in a way is an incentive to scrap, and more Capesize ships in under demand. The dry bulk order book, which touched the low of 598 vessels (September 30, 2017) indicate towards the efforts taken by the ship carriers to stabilise the excessive supply in the market through limiting of the fleet size. Televisory is of the view that 2018 will be the year for further improvement for Baltic Dry Index with the commodity prices stabilising and China will see an increase in imports of iron ore, coal along with an expected increase in grain trade by 4% in the same year. Thus, the only risk factor could be a lower than expected economic and demand growth from China. 

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