China manufacturing activity and shipping demand
Because China is the largest importer of raw material in the world, manufacturing activity in China is one of the most influential factors of shipping demand. When manufacturing activity rises, China will often import more dry bulk raw materials, such as iron ore, coal, and grain. This will support shipping rates, which positively affects dry bulk shipping companies’ revenues, earnings, and share prices. But when activity falls, it’s considered negative.
Official PMI at 16-month high
For August, China’s official manufacturing PMI (purchasing managers’ index) unexpectedly rose to 51 from 50.3. The PMI is a measure of economic activity that analysts and traders often follow. Figures above 50 indicate solid expansion, while those between 42 and 50 show possible growth, and levels under 42 signal a potential recession.
Since hitting growth of 7.5% for the second quarter, Beijing has stepped up efforts to accelerate spending on public projects such as railway construction, energy-saving technology and equipment, and public housing. It also introduced measures that will help smaller companies. Analysts have also noted that one of the reasons manufacturing activity accelerated was the lagging effect of credit growth earlier in the year.
Business expectation improves again
The composite PMI index is made up of five sub-indexes—new orders (30%), production (25%), employment (20%), suppliers’ delivery time (15%), and raw-material inventory (10%). All these sub-indexes rose in August. The quickening or increase of suppliers’ delivery time is often seen as a negative, as it means there’s less traffic, which was the only negative for August. Business expectation, which reflects managers’ sentiment of business activity, continued to rise, following the first increase in four months this year.
How the PMI is formed
It’s important to know that the PMI is like a “sentiment” index. The index asks managers whether the sub-indexes were better, unchanged, or worse compared to the previous month. Answers with “better” get a score of 1, while “no change” get 0.5, and “worse” get 0. So if a business manager had expected growth to be 8% and now expects 7.5%, his or her data could add a zero to the index. On the other hand, some managers could still consider 7.5% as a positive, which may lead to circle “improving.” In this way, managers’ answers anchor to a recent past, and they’re a mix of objective and subjective answers.
Subjective answers raise a question
Given that China is entering a period focused on reform, we can expect the PMI to hover around 50 for a while. This means manufacturing growth is unlikely to be as robust as it once was. But how much growth is “not robust”? Investors may consider relying more on hard numbers, like car sales, construction activity, and iron ore imports, to get a better sense of China’s fundamentals and how they may affect bulk shipping companies such as DryShips Inc. (DRYS), Diana Shipping Inc. (DSX), Safe Bulkers Inc. (SB), Navios Maritime Partners LP (NMM), and Navios Maritime Holdings Inc. (NM). If the PMI does increase further to ~52 and above, you can expect China to show strong growth, which will be positive for the companies mentioned above.
© 2013 Market Realist, Inc.