Yesterday the Baltic Dry Index hit 11,067 defying, it seems, the relationship it has long had with 10 year Treasurys.


Exhibit 1: BDI vs 10 Year US Treasurys


In part this may be due to bond yields being extra low for fear of the credit crisis. There are also the infrastructure bottlenecks at ports to factor in – ships are waiting weeks to load. Or it may indicate, as such divergences have in the past, that the global economy laughs in the face of leveraged debt irresponsibility, has Range Rovered at pace over the speed bumps, and is now set to resume growth. If it ever slowed down.

As posted here in December ships still fetch handsome prices with spot freight rates and future assumptions of such rates continuing to underpin the market. But bunker (fuel) costs, also touched on in that article, are now so high that it is notable, in spite of stunning freight rates levels, that some shippers have actually begun to record losses, or losses on some routes. Eitzen Chemical, for example, this week recorded a net Q1 loss due (in part) to sharply increased bunker costs.

Bunker costs have moved from being a typical 15% of freight costs to, on some routes, 50%. One consequence is that shippers may begin en masse to operate at lower speeds to save fuel, which in turn effectively reduces ship supply and (probably) supports the prevailing high rates. Indeed, this appears to already be happening.

Last October bunker rates were about US$400 a tonne. They have increased US$100 since and even the least impacted trade routes have generally seen profitability hit by 15% to 20% if not the aforementioned half. Moreover, bunker prices are nearly perfectly correlated to crude prices; and were crude to rise to US$150 per barrel then bunker would sit at US$650 a tonne. This math is deeply unattractive for shippers.

Ship owners can try to pass these costs on. But judging from the Forward Freight Agreement market where nearly all route prices are in backwardation – a marked change from the early April data – even they seem to expect the good times to roll up against some sort of inflationary limit.

Exhibit 2: Bunker Prices vs. Newbuilding Orders - 2007 (from McQuilling Svcs data)



Data sources: Clarksons; and McQuilling.

Bookmark and Share

3 comments

  1. "Cassandra" // 5/16/2008 09:49:00 PM

    Hey RJ -

    I wonder where Baltic Freight Rates change hands when full-blown, thermonuclear trade war ensues following the giant bowel-movements CBs and their political sovereigns are heaving upon the communal BWII dinner platter?

    p.s. - did I spell 'bowel' correctly?

  2. Anonymous // 6/21/2008 03:18:00 AM

    What is your twelve month forecast for Baltic Freight rates and the dry-bulk shipping stocks?

    Thank you,

    "Just a bit worried"

  3. RJH Adams // 6/23/2008 03:02:00 PM

    C,

    it will be great viewing.

    Anon,

    sorry, can't provide a 12 month forecast (or even a three month one). Too many variables for precision. But in directional terms it would surprise me if the BDI is above 9400 at the end of the year.

    I'd suggest that shipping since 2000-2001 has been mostly about easy financing/asset appreciation not economic fundamentals/rates. Accepting that premise, observers might justifiably wonder if the real key to rates is simple sentiment about future ship prices (and of course how rate levels might affect those feelings). I think it probably is. And if that sours the level rates settle at is surely below the 9400 odd level it sits at now as the allure of flipping (if that can be applied to ships) is compelled to defer - eventually - to fundamentals.

    Seen it in housing - why should shipping be entirely different?

Related Posts with Thumbnails