RJH writes...

Goldman Sachs and Merill Lynch have the same forecast for the Baltic Dry Index (BDI): softer prices in 2006 lead to increased scrap rates followed by a steady upturn into 2007 and 2008. This is likely too sanguine.

Three interlinked factors mitigate against stronger freight rates:

* Iron ore represents circa 30% (650 million tonnes in 2005) of total global dry bulk trade

* Of this, China imported 275 million tonnes, or about 13% of total global dry bulk trade

* Although a year-over-year increase, the rise in China's iron ore usage was not incremental - it came at the expense of other major steel producers.

Accepting the argument that China's central planners are not capable of slowing down the steel industry implies either other major producers will have to shrink at Chinese expense as in 2005; or that steel prices and margins are headed for falls.

Other things being equal, the first outcome suggests flat dry bulk rates; and the second an initial rise followed by a steel glut and sharply lower freight rates. Until either denouement, shippers and the BDI at best will enjoy a stable environment whilst miners (contrary to current market sentiment) will laugh all the way to the bank.

Sources: Goldman Sachs Global Investment report, March 22 2006

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