Why this year’s fleet utilization could surpass last year’s high

Earnings reports are important sources for investors and analysts to learn about the past, present, and possible future. Although everyone has access to this information, the market won’t always reflect fundamentals correctly right away, because analysis can vary—and humans do overeact and undereact.
Core profits increase just slightly
Golden Ocean Group, an international dry bulk shipping company controlled by the shipping billionaire John Fredriksen, had reported improved profits of $43.5 million for the second quarter on August 23. Earnings increased by $36.7 million from the first quarter of 2013 and by a similar amount compared to the second quarter in 2012. But most of the gain was due to a $30 million settlement for an old non-performing ten-year charter contract and the increased value of interest rate swaps. So the growth wasn’t because business improved by leaps.
Scrapping activity until late
Earlier this year, scrapping activity contributed to lower capacity growth. During the first seven months of 2013, new deliveries added 39.1 mdwt (million deadweight tonnage) to supply, while scrapping took out 13.8 mdwt. As the chart above shows, scrapping activity has declined since the start of the year. While this decrease may seem negative, it’s likely caused by higher shipping rates, which is a positive sign.
Current year outlook
For this year, dry bulk shipping demand is expected to grow 8.2%, according to data from Pareto Shipping. During the first half of the year, iron ore and coal shipments to China grew just 5.1% and 4.0%, respectively, while steel production in China grew by just 9.3%. Iron ore trade is expected to pick up throughout the later half of this year as new capacity comes online from southern hemisphere countries, and it’s expected to add ~10.0% in total growth. Growth of more than 8.0% in grain trade is also expected to help Panamax vessels.
Supply, on the other hand, is expected to increase 7.2% based on 2013 expected deliveries of 100.1 mdwt, of which 23% won’t be delivered due to delays or cancelations, and scrappage of 32.7 mdwt (million deadweight tonnage). Given that supply growth has increased 4.24% between August 23 and New Years and that weekly growth has averaged ~0.15% over the past few weeks, the estimate sounds reasonable. As demand is expected to catch up with supply this year, we could expect fleet utilization to improve from 2012.
Higher 2014 and 2015 rates
The company’s CEO, Herman Billung, also spoke of higher rates in 2014 and 2015 on the back of new capacity additions and lower supply of new ships. With new iron ore capacity of 300 to 400 mt (metric tonnes) of additional capacity expected to come online by the end of 2013, Capesize vessel demand could increase by 23% from today by 2016. Plus, coal shipments could take over iron ore trade over the next few years as India and China both increase imports to fill domestic needs and replace poor-quality domestic coals.
Supply and demand estimates
In 2014 and 2015, demand is expected to grow by ~5.0%, according to Pareto Shipping, which is pretty conservative. Net fleet additions are expected to add ~3.5% to supply, which means fleet utilization can be expected to increase from 86.8% to 88.1%, close to what it was back in 2011. Investors could use this estimate as a guide for where the BDI (Baltic Dry Index) will be.
The company also noted that most good yards are pretty much booked until 2015, so new capacity will only come online in 2016 or after. Indeed, several shipping companies have lately been placing orders for new builds to be delivered in 2015 or later. So investors need not worry about a large supply growth increase for quite some time. History has also shown that the same problems don’t usually repeat themselves within a short period.
Low forward rates and banks are piling in
Billung also added that the forward freight agreements for 2014 and 2015 are priced low, and “can easily see an upside of 30 percent from what we see today.” With such a recovery expected—although Billung noted it won’t be like 2006 to 2008 again—the company is experiencing some competition among banks to invest in the shipping companies. Granted, KKR & Co., one of the world’s largest private equity firms, recently formed a unit to lend to the shipping industry with a total amount equating $580 million.
Should you listen to the CEO?
Back in November 22, 2012, Billung had expected a weak H1 2013 for the dry bulk market, but he also said that 2013 would be the year to make investments in the dry-bulk market. Both predictions have come true so far, with several dry bulk shipping companies outperforming the U.S. market since the start of this year. With billionaire Fredriksen (who made his success by investing in the shipping industry) sitting on the board, Billung’s words may be worth listening to. The company has also considered purchasing ships in the secondary market to jump right into the market.
Outlook favorable for other dry bulk shippers
Indeed, the company’s share prices—as well as other dry bulk firms like DryShips Inc. (DRYS), Diana Shipping Inc. (DSX), Navios Maritime Partners LP (NMM), Navios Maritime Holdings Inc. (NM), and Safe Bulkers Inc. (SB)—have risen on his comment last Friday. But the upside may still remain, as the shipping recovery is just starting and more and more people will start putting money into several companies.
Source: Market Realist