FINANCE

Autumn 2013   21

Since late Autumn this year, the shipping markets have shown small, but much-needed signs of mar-ket recovery, with the Baltic dry Index (BdI), the presumed proxy for the overall market, surpassing the “psychological” mark of 1,000 points.

There has been rate betterment in a few market sectors based on seasonality, particular trade or geography, but the head wave behind the improvement has been China’s increased steel production and partial restocking of iron ore inventories, which resulted in a rally in the com-modities market (iron ore pricing climbed by about 15% from late May till the middle of August) and an associated rally for capesize rates, the market bearing the direct impact of China’s trading patterns.

Based on such trade, the Baltic Capesize Index climbed by an equitable percentage level in the same period, which lifted the whole BdI with it, as per graph 1. In terms of freight rates, however, the extent of improvement has been rather small ‘to move the needle’ in a meaningful way as average capesize earnings increased from approximately $12,000 per diem (pd) to just below $15,000 pd, rates that are well below levels required to cover vessel operating expenses and also service debt.

In a market accustomed to bad news and negative cash flows for some years now, any improvement in rates was well received and there have been a ripple effect in many market segments in terms of momentum, in terms of vessel asset pricing, in terms of elevated future expectations – and why not – a full market recovery. However, one has to wonder though whether any improve-ments, their goodwill notwithstanding, are transient or worse just wishful thinking.

From data compiled by Karatzas Marine Advisors approximately 2,000 vessels in major, mainstream shipping asset classes were transacted in the first eight months of 2013 in the form of newbuilding orders, second-hand assets or demo-lition candidates. A quick glance at graph 2 clearly indicates that newbuilding activity has been riding high and dominating all market segments with the exception of containerships and crude tankers. While the total volume of business is more or less comparable to that from the same period of the year before, newbuilding orders are approximately 50% higher year on year while demolition activity has decreased by 50% in the same interval.

In the first eight months of 2012, about an equal number of demolitions and newbuilding contracts took place for a net zero impact on

the world fleet, as per graph 3; however, for the whole calendar year 2012, on a net basis 300 vessels were removed from the world fleet (1,100 vessels were removed from the world fleet through scrapping with fewer than 800 addi-tions through newbuilding orders.) However, in an ever-rebounding market recovery and opti-mism, so far this year about more 200 vessels have been contractually added to the world fleet than removed.

To a certain extent, there have been smaller micro-themes within the larger market trend that partially explain the activities in transacting vessels in 2013. First, there has been structural changes in the tanker market trade due to shale oil production in the US that has made product,

chemical and gas carriers tankers a growth busi-ness with potential tonnage “undersupply”, and a great deal of the newbuilding orders have been concentrated in these markets.

Second so-called “eco design” vessels with flexible yard payments – potentially including export credit, made newbuildings economically and commercially more attractive than second-hand tonnage.

Third, a sizeable amount of tonnage avail-able for sale in the second-hand market has been “vintage” or “below expectations” in terms of specs or maintenance. Fourth, institutional investors, the newcomers to the market, assign lower risk and higher investment prospects to newbuildings through established publicly-traded

graph 2

graph 1

TiMe To jusT ‘order, Trade or sCrap’ in shipping?

Analysis by Basil M Karatzas, CEO of Karatzas Marine Advisors & Co.

22  Autumn 2013

FINANCE

companies, from where numerous newbuilding orders have originated.

Finally, the demolition market has been as idle as painted sea for several months in 2013, partially due to bearable freight rates and market prospects, but mainly due to the “de-coupling” of emerging markets from developed economies and the steep depreciation of local currencies, such as the Indian rupee that is trading at a decade’s low level (India, of course, being the biggest market for demolition.)

Based on representative data compiled by Karatzas Marine Advisors since the beginning of 2012 for newbuilding contracts and second-hand vessel prices for modern tonnage (younger than 10 years old) in the dry bulk, containership (up to panamax size) and product and crude tanker mar-kets, as per graph 4, asset prices have gotten more competitive whether for newbuildings or second-hand tonnage. Based on this re-based scale, asset prices had declined between 15% and almost 20% by the end of 2012, with newbuildings on a weaker trend. However, since then, there has been a con-stant improvement in pricing momentum, again, with modern second-hand tonnage performing better. It has to be noted that the improvements

in asset pricing have overall underperformed improvements in freight rate increase on a percent-age basis. In our opinion, the fact that asset pricing has underperformed increases in freight rates does not necessarily translate into a ‘buying opportunity’: improvement of indexed freight rates is heav-ily skewed due to the cape market and also one has to take into consideration the high probability of a tonnage oversupplied market.

World economic growth is expected to be positive for the foreseeable future, subdued but positive nevertheless. There have been pockets of concern like Europe’s chronic economic malaise and China’s ‘shadow banking’ and ‘credit bubble’ that may burst with catastrophic ripple effects, but an average scenario of improved trade prospects bodes well for shipping. On the other hand, one cannot ignore that shipping has been through a “tsunami effect” since 2008 and

many of the excesses of the market and their ensuing ‘shipwrecks’ have not been accounted for yet. There are many more vessels floating around than the trade can absorb. There has been exces-sive shipbuilding capacity that, although idle at the moment, can keep building many more vessels. There has been too much attention on shipping (and some of its related industries such as ship-ping banks) that has attracted deep pockets such as institutional investors that evaluate the industry under different standards than traditional ship-owners and can make the market set sail under their preferred course (such as financing more “eco-design” vessels in an attempt to crowd out older and less efficient tonnage.)

Possibly things are different this time indeed, as the market variables are less predictable and more impactful than previous cycles (who really can predict China’s trajectory or can quantify the impact of institutional investors piling money on shipping?) On the other hand, the market will always be in need of quality vessels operated by quality and efficient managers. Given the lack of clear course of market direction and until the excesses of the super-cycle get absorbed, possibly the focus will have to be back on the basics with emphasis on quality rather than quantity and care for the busi-ness fundamentals. Instead of chasing the next best thing and hot sector, possibly focusing on acquiring quality tonnage at today’s prices in segments that are always engaged (like smaller dry bulk vessels) and improving operational efficiencies may be the best course of action. Whatever the freight or asset improvements in shipping so far this year, we are still a long way from reaching port. n

Basil M Karatzas is the CEO of Karatzas Marine Advisors & Co., a shipping finance advisory and ship brokerage firm based in Manhattan. The firm represents financial owners, institutional investors, lenders and ship owners and managers worldwide. Email: Info@BMKaratzas.com Tel: at +1 713 545 5990.

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basil M karaTZas, Ceo of karaTZas Marine advisors & Co