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Dry bulk shippers in second stage recovery

Part 4
Dry bulk shippers in second stage recovery (Part 4 of 9)

Panamax and Supramax supply growth slides more, supporting rates

Why is capacity important?

Although ship orders and construction activity are useful to get the insiders’ perspective, analysts also look at capacity growth to see whether it meets demand, so that they don’t rely totally on managers, who can get caught up in day-to-day operations without seeing the bigger picture. When capacity grows faster than demand, competition rises among individual shipping firms as they try to use idle ships and cover fixed costs. This lowers day rates, which negatively affects bottom-line earnings, free cash flows, and share prices for companies—or vice versa.

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Annual capacity growth remains in downtrend

From August 23 to 30, year-over-year growth in dry bulk capacity, measured in deadweight tonnage (DWT, the weight a ship can safely carry across the ocean) and published weekly by IHS Global Limited, for Capesize vessels rose from 5.25% to 5.31%. Panamax and Supramax vessels, on the other hand, fell from 10.23% to 9.98% and 9.68% to 9.08%, respectively. It looks like capacity growth for Capesize vessels will remain above 5.0% this year.

Driven by large placements of new ship orders, shipping capacity had ballooned over the past two years, as companies expected global trade growth to continue at a record. The recent decline in year-over-year capacity growth shows development. With construction levels falling, it’s just a matter of time until capacity growth falls even further, especially for Panamax and Supramax ships.

Weekly growth has fallen

Last year, several dry bulk shipping companies had pushed back deliveries—Capesize vessels in particular—as China’s economic growth fell and rates fell to a record low. This year, delays may not be that significant, as rates have risen above the lows. On August 30, the eight-week moving average weekly growth rate stood at 0.14% for Capesize vessels, 0.17% for Panamax vessels, and 0.09% for Supramax vessels.

Since the start of this year, Capesize vessel capacity grew 4.54%, Panamax by 7.50%, and Supramax by 5.69%. If an average of 0.15% weekly growth holds throughout the end of the year, we can expect an additional capacity of ~2.25%. There’s much debate over whether capacity will grow faster than demand this year. It’s difficult to say, since it depends on a variety of ever-changing factors—like number of ships scrapped, demand of ships, and order cancelations.

Near-term capacity growth not so worrisome

Last year, dry bulk trade grew 7%. It’s more likely than not that demand will just meet or exceed supply this year, given the increase in iron ore capacity in Australia and Brazil, which is expected to add 10% in iron ore trade and benefit Capesize vessels. August’s rate increase (a historically weak month) is a sign to be optimistic. Plus, higher grain shipments from a record crop production in the United States this year and poor harvests in China will likely support Panamax vessel demand and rates later this year.

There’s also a wide consensus that shipping rates will recover in 2014. So while investors fudge over whether it’s this year or next year that fundamentals will improve, the market could continue to support share prices of companies like DryShips Inc. (DRYS), Diana Shipping Inc. (DSX), Navios Maritime Partners LP (NMM), Navios Maritime Holdings Inc. (NM), and Safe Bulkers Inc. (SB) with little downside in the near term.

Disclosure: I own shares in Diana Shipping Inc.

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