China’s steel output doesn’t just affect the seaborne iron ore trade

Market Realist

Dry bulk shipping investors' must-know mid-2014 overview (Part 4 of 8)

(Continued from Part 3)

Steel production

Since iron ore is primarily used to manufacture steel, and China is the largest producer and consumer of the two commodities, China’s crude steel production is a key indicator that dry bulk shipping investors should watch.

As cheaper seaborne iron ore is expected to displace China’s domestic iron ore up until 2016, investors might think China’s crude steel production may not have as much influence over dry bulk shipping companies such as Safe Bulkers Inc. (SB), Knightsbridge Tankers Ltd. (VLCCF), Navios Maritime Holdings Inc. (NM), DryShips Inc. (DRYS), and the Guggenheim Shipping ETF (SEA) as before.

However, note that China’s steel production growth also affects the seaborne coal trade that accounts for ~30% of total dry bulk shipments. First, metallurgical coal is used to manufacture steel. Second, steel production also reflects growth in China’s manufacturing and construction activity, which consumes a lot of power, and would consequently affect seaborne steam coal imports.

A rebalancing point

The first four months of 2014 saw deterioration in steel production growth. As the chart above shows, year-over-year growth, which stood near 10% during the second half of 2013, fell to just 4.1% for the first four months of this year. This coincided with a slowdown in China’s manufacturing and real estate activity, as the government moved to improve excess capacity in the steel manufacturing business, and further tightened credit to soak capital from shadow banking and reminded people that investments come with risks.

But the Chinese government understands that growth can’t fall too fast, or it would risk economic collapse. So, as growth slowed, the government has unveiled targeted measures to counter the slowdown. Do keep in mind, however, that while the manufacturing PMI (purchasing managers’ index, a leading indicator of China’s manufacturing sector) has shown improvements, these small stimuli aren’t as large as past stimuli. Indicators such as industrial output, real estate sales, the real estate climate index, loan growth, and automobile sales are additional indicators that can give investors insight.

Continue to Part 5

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