In the shipping industry, industry capacity has a significant impact on transportation prices. When capacity grows more than demand, rental prices, or day rates, generally fall as shipping companies try to cover fixed expenses by enticing more demand, just like what retailers do for end of season clearances. As firms often need to reduce prices by a significant amount to receive additional customers in a weak economic environment, companies usually suffer. In this case, the affected companies are those that engage in the transportation of oil across the ocean using vessels called tankers.
On February 1st of 2013, IHS GLobal Limited, a research intelligence company, reported a $2.8 billion increase in shipping capacity measured in deadweight (dwt) in January. Deadweight is a measurement of capacity that ships can carry. Although it is only a 0.77% increase from December’s figure of $367.2 billion, it is a 9.2% increase per year if the growth rate follows through for the remaining 2013.
The significant increase in capacity is driven mainly by a large backlog of ships that were ordered before the financial crisis when shipping companies became too optimistic with growth expectations from China (see “Falling tanker orderbook level supports bearish fundamentals” for tanker order trend). As long as the backlog remains elevated, shipping prices will remain pressured by further increase in capacity.
Additionally, capacity utilization (the number of ships or time unused) will remain low for the industry overall, which hurts margins in general. This is negative for the Guggenheim Shipping ETF (SEA), an ETF that provide returns similar to the Dow Jones Global Shipping Index. For individuals who already own or are considering investments in specific tanker firms, this driver will also negatively affect Teekay Corp. (TK) and Frontline, Ltd. (FRO).
© 2013 Market Realist, Inc.