My Notes on Dry Bulk Shipping
As I learn more about the dry bulk shipping industry, I thought I'd post my thoughts so that others may learn with me. I figure there's still very little interest in dry bulk shippers, but I figure anyone who owns GNK with me or any of the other shippers would be interested in reading and maybe sharing their thoughts and suggestions.
As of now, I'm concentrating on dry bulk shipping. I may look into containerships and tankers later on, but I figure I should learn all I can about dry bulk shipping before moving onto a completely different set of shippers.
Dry Bulk Vessel Types
There are standard types of ships.
Capesize: These are large vessels that cannot pass through canals and must travel around capes. These are typically around 175,000 dwt (dead weight tons). These are the big kahunas. There are larger vessels, but the Capesize is the common large vessel.
Panamax: These are vessels designed to pass through the Panama Canal. The dimensions of the ships are modified accordingly. These are typically around 75,000 dwt.
Kamsarmax: Kamsarmax ships are about as big as Panamax ships, but they're a bit longer and designed for Port Kamsar. These are typically around 82,000 dwt. As you can see, ship types are often named after the ports or canals through which they travel.
Handymax (or Supramax): These are roughly 40,000 to 60,000 dwt.
Handysize: These are roughly 10,000 to 40,000 dwt.
The bulk of ships seem to belong to the Panamax, Handymax, and Handysize designations. There are other special types besides the Kamsarmax, but you really only need to know Capesize, Panamax, Handymax, and Handysize.
The Baltic Dry Index
This index tracks the price of moving dry bulk goods by sea. The major goods seem to be coal, iron ore, and grain. The relevance of the BDI as a forward-looking indicator is debatable, as the fluctuations are sometimes off the charts and not very predictive of future economic conditions. Ship supply is a major factor in the swings, among other factors. It seems to me that shipping rates remain fairly subdued except in times of major commodity demand, as in 2007 and 2008.
Warren Buffett once stated in one of his annual letters to shareholders that capital-intensive companies are likely to earn only a small amount above cost except in times of extreme demand. He was obviously talking about the now discontinued textile mills of Berkshire Hathaway, but it seems to me that the dry bulk shipping industry isn't much different.
The BDI started to gain steam in 2007 and stayed very high for 2H 2007 and 1H 2008 before starting to crash down in 2H 2008. 4Q 2008 saw an immense drop in the BDI to extremely low levels. The index improved some in 2009 and has remained relatively flat since 4Q 2009, up until the recent collapse.
The Demand Side
As I stated above, the major dry bulk shipping goods seem to be grains, coal, and iron ore.
Grains: Obviously, this is the agricultural component. I don't really follow agriculture stocks very much, but I'm guessing the consumption across the world is relatively stable, since we must always eat. Events such as fires in Russia disrupt the supply side, which may lead to higher grain prices over the world.
Coal: I suspect that most electric utilities over the world still use coal-fired plants. Much of the electicity usage is most likely stable. Besides the steady state component, the unstable component is tied to economic production. When factories ramp up and fully utilize production capacity, utilities actually benefit quite nicely. This leads to higher consumption of coal. I work at a steel plant and I can tell you that steel capacity at least in the US is far from being fully utilized.
There is also metallurgical coal, or coke. For steel companies that utilize blast furnaces, coke is one of the ingredients used to make molten iron, which is then oxidized into molten steel. Steel is used in construction, automobiles, and appliances the most. Any major economic recovery would see a recovery in steel as well.
Iron Ore: Like with metallurgical coal, I believe the major use of iron ore is to make steel. Steel companies with electric arc furnaces (think Nucor) actually melt down scrap steel, but I'd bet the majority of steel companies still use blast furnaces. Again, iron ore consumption will ramp up in the face of economic recovery. Cars, buildings, bridges, etc. would contribute to iron ore consumption.
As you can see, coal and iron ore demand are heavily dependent on economic growth. How does this affect dry bulk shipping? With growth likely to be slow, dry bulk rates probably aren't going to spike anytime soon.
The Supply Side
Much of this information was taken from Genco's Q1 Earnings Call Presentation here.
Whenever people mention dry bulk shippers, oversupply is mentioned. It's even mentioned by many of the shipping companies in their interactions with the press and investors. Taken from GNK's annual report, the average ship age is 15 years. I also see in their presentation that 27% of the dry bulk ships are 20+ years old. Before 2009, the rate of scrapping vessels remained very low. When you're making money hand over fist, you tend to utilize your vessels and wait till later to scrap them.
With the BDI slumping terribly in 2009, almost 260 vessels were scrapped last year. In Q1 2010, just under 40 vessels were scrapped. I've yet to see Q2 numbers myself. Before 2009, vessels were scrapped at a much slower rate. With the overall old age of the fleet, I expect more vessels to be scrapped over the next few years. It simply costs more to maintain older equipment and I've heard on several occasions that newer vessels obtain more profitable charter rates. It's also true that the accident rate of dry bulk ships increases tremendously as a ship's age advances past 20 years.
So there's an oversupply of ships and a lot of them are probably going to be scrapped. That sounds good, but we've yet to consider the new ships that will be delivered over the next few years. I read in EGLE's 2007 10-K that new ships being built at the time would increase supply by 57% over the next 3 years. Since the 10-K likely came out in February 2008 or March 2008, it's safe to say that delivery of new ships is not over. Almost all across the industry, long-term debt or shares outstanding have ballooned as companies figure out ways to pay for their new ships.
Despite the number of ships that seem to need scrapping, it seems that the oversupply condition will not go away anytime soon. I liken this to the steel industry. The steel industry seems to be in a longtime condition of oversupply, with utilized capacity almost always below 100%. Referring back to Warren Buffett's quote about the textile industry, the steel industry is not so different. It's extremely capital-intensive and profits generally won't be outrageous except in times of extreme demand. Dry bulk shippers seem to be in a similar situation as the steel companies of the world.
Dry bulk shippers rely on the overall economy as many other companies do. Steel companies will dictate a large portion of that growth, along with other manufacturers. Anyone serious about dry bulk shippers would have to consider macroeconomic factors that spill over into many other industries.
With rising debt levels and an oversupply of ships, I'd stick to companies with newer fleets and good control of debt. Last but not least, I'd look for companies that are making money consistently. Companies making money quarter after quarter and year after year are likely to have newer fleets, good management, or a combination of both.