First International

Shipping economics just get worse

- Tuesday 9 October 2012 -

THREE-quarters of this year have now passed and it is clear that all major sectors of the shipping industry continue to lose money.

Perhaps more worrying are a number of developments that will prolong these depressed markets further.

The principal problem that the industry faces is an enormous shortage of equity and the burden of the huge debts it incurred in ordering and taking delivery of large numbers of expensive ships without any specific employment.

The cargo capacity increase that took place in the second half of the last decade would not have been absorbed even if China’s economy had grown at 10%. Furthermore, the fact that charterers retreated to the spot markets for several years was the strongest indicator that the high rates would not survive.

Recent developments have shown charterers and major owners combining on new construction and long-term contract deals.

Reduced newbuilding prices and very cheap debt supported by long-term charters combine to make these deals attractive.

Oil majors such as Shell and Chevron together with traders such as Valero have ordered new tankers with owners who are getting charters that support their debt on a long-term basis.

BP and Texaco have ordered new ships without charters but the biggest deal so far is a reported order of 30 very large crude carriers in China for Cosco’s tanker company.

Newbuilding prices are way down from the peaks of four years ago, with many newly delivered product tankers, suezmaxes and VLCCs showing a 50% reduction in value.

Spot charter rates are predicted to remain marginally above operating costs and voyage expenses, thus causing banks to face loan to value defaults, coupled with the continuing non-repayment of principal.

This is compounded by reports of some banks selling off their shipping portfolios to private equity firms at deep discounts.

The same situation exists in the dry cargo sector for very large, medium and handysize ships, with too many expensive ships owned by companies with little or no equity and with debt from banks that are themselves in deep financial trouble.

The outlook for any recovery depends on supply and demand levels for raw materials, manufactured goods and energy supplies, all of which are dictated by the national economics of various nations and their regions.

Shipping does not and cannot dictate the demand for its services and to have so grossly over-ordered new ships, mainly with borrowed money, and with little reference to the levels of demand needed to profitably employ them, is the height of commercial stupidity.

As shipping is a global industry with few barriers to entry except money, the effect of this excessive speculation has been felt across the industry and has severely damaged even the most conservative of shipowners.

These effects are not short-term and, given the enormous economic problems faced in all corners of the world, the outlook for shipping has never been bleaker.

Europe has the most obvious problems, given the single currency and the widely different economics of its members. It is today more divided than it was before the European Economic Council was established.

The euro has not only been a failure, but has aggravated the region’s economic differences and hidden them, with massive lending to the weaker governments and their regional banks, which are now incapable of repaying debt.

Making things worse is the proposal to lend the governments more money against proposals to slash state expenditures and raise taxes, putting the burden on the working classes whose own opportunities for recovery are sharply restricted by the global nature of the recession.

The US has massive problems of its own, also driven by unprecedented government borrowing, lack of controls over government spending and a presidential election pitting conservative capitalism against liberal socialism.

Whoever wins will have to introduce huge cuts in government programmes and retirement benefits and raise taxes, which will combine to reduce Americans’ personal expenditure budgets.

China is going through its regular 10-year reorganisation that has always historically been both political and economic.

In this global economy the problems of the other nations mentioned have a multiplying effect on China.

Demand shrinks for its manufactured products, its cheap labour advantage disappears and its energy consumption stalls as it delays modernising the living standards of the majority of its population.

The huge increase in the world fleet’s total container capacity comes at a time of declining world trade, with owners trying to raise rates as few ships trade at full capacity.

Tonne-miles of loaded crude tankers have increased only 5% in the last 10 years; fleet capacity has increased by 50%.

The fleet capacity of the dry cargo sector has doubled while the cargo moved has gone up by 65%.

The only sector where growth and demand have grown together is in liquefied natural gas, but the current orderbook is likely to depress spot rates.

Meanwhile the major stock indices of Dow Jones and the UK FTSE 100 reflect investor confidence in commerce and industry. The Dow has risen from 6,626 to 13,550 and the FTSE 100 is up from 3,530 to 5,900 in the past four years, yet publicly traded shipping stocks have declined on average 75% and in some cases up to 90%.

Why is shipping so disconnected from its customer base?

With the rapid growth of flags of convenience and the related decline in ships and shipping companies based in the major industrial nations, shipping has opened itself up to anonymous, tax-exempt investors who care more about moving money than about the realities of moving cargo.

The failure of most shipping transactions to be registered or even recorded in major or minor industrial nations enables vast sums of money to move around out of sight of any regulatory authority.

Unfortunately this purely speculative activity greatly exaggerated the ordering of new ships during the boom times of the last decade; as the ships have delivered, they have swamped markets and will continue to do so.

Even as numerous shipping companies go bankrupt, the ships themselves do not disappear but move to other owners at deeply discounted prices that keep freight rates depressed.

Shipyard prices continue to decline as yards desperately search for customers and the spectre of lay-ups looms large as banks foreclose on non-performing loans and new buyers are hard to find.

The volume of ship scrapping will probably increase but charterers are becoming increasingly choosy about which ships they use and which owners they can rely on.

While all these developments have been relatively sudden, tonnage rebalancing and other adjustments will take a long time, creating huge additional problems for the shipping industry.

« back to Commentary