In early September, stocks in the long-beleaguered maritime shipping industry started to do something few observers expected them to do anytime soon -- they started to rise in a meaningful way.
The rally from names like DryShips (Nasdaq: DRYS) and Eagle Bulk Shipping (Nasdaq: EGLE) was driven by a meteoric rise in the Baltic Dry Index, which reflects the change in the daily charter rate for dry bulk vessels. The index nearly doubled in value between mid-August and this month, providing a glimmer of hope of decent profits for maritime shippers.
But as is often the case with huge moves from stocks and indices, doubts started to set in about the sustainability of the Baltic Dry Index's new price levels, and these stocks started to wane just as quickly as they'd heated up.
However, the rise from the Baltic Dry Index wasn't the result of a little volatility. A handful of other data indicate the supply/demand balance in the dry bulk shipping sector has finally found a happy medium, making DryShips, Eagle Bulk, FreeSeas (Nasdaq: FREE), Diana Shipping (NYSE: DSX) and a few other names in the group worth a closer long-term look.
The Perfect Storm
To put things in perspective, the Baltic Dry Index advanced from a low of 996 in mid-August to a peak of 2,146 in early October, meaning the going rate to hire a bulk-transport boat more than doubled in a little over a month. It's also the strongest price since around this time in 2011. And those rates were being quoted because that's what shippers were getting -- not just what they were hoping to get.
Doubts about the legitimacy of rising chart rates were understandable. After all, the industry had been plagued for years by too much capacity and not enough demand, and it seems unlikely that all those woes could be wiped away in a month. However, it appears the worst of the lull is behind maritime shippers. Specifically:
1. The number of ships being scrapped by the industry every week has now fallen from an average of more than 16 in mid-2012 to less than seven per week. The implication is shippers have more demand to satisfy, meaning they can utilize those vessels rather than retire them.
2. Shipping capacity is growing at its lowest rate in years. Capesize vessel capacity growth was a mere 4% annualized as of last month, while Supramax capacity growth is now at a multi-year annualized low of 9%. Meanwhile, AMC Shipping Group says demand for dry bulk shipping services is expected to grow by 10% next year, based on current growth trends. It's the first time in a long time that demand has been projected to outpace capacity growth.
3. Although China's economic growth has slowed, it hasn't stopped growing. Last month, the country imported 74 million tonnes of iron ore and an average of 6.25 million barrels of oil a day. These record-setting figures officially made China the world's biggest resource importer, finally topping the United States. None of these trends are expected to reverse anytime soon, either, which should keep dry bulk shippers busy for years to come.
Point is, the spike in the Baltic Dry Index's value isn't an errant one. It's built to last.
Pick Of The Litter
FreeSeas, DryShips and Eagle Bulk Shipping are all decent ways to invest in the rebound in dry bulk shipping, but the most attractive company in the space right now may be Diana Shipping.
|Capesize boats are the category of vessel that's been driving the bulk of the rise in the Baltic Dry Index since late August.|
While all dry bulk shipping companies are in the same business, no two companies are identical. With four different sizes of vessels -- each commanding different (and not uniformly changing) daily charter rates -- the makeup of a fleet can directly affect the profitability of the owner.
Capesize boats are the category of vessel that's been driving the bulk of the rise in the Baltic Dry Index since late August. The daily charter rate for a Capesize boat had been less than $10,000 for the better part of this year, but it soared to more than $40,000 a day in late September. Though the rate has since fallen back to the low $30,000s, that's still well above the average break-even point of $15,400, and it's expected to stay firm indefinitely.
That's great news for Diana Shipping, which owns more than its fair share of Capesize vessels. All told, it owns nine Capesize boats in its 34-boat fleet, meaning it's poised for strong profits in the foreseeable future -- sort of.
One of the criticisms of Diana Shipping is that many of its Capesize vessels are locked into subpar charter rates through mid- to late 2014, leaving it out of the immediate upside of the recent run-up in shipping prices. However, Diana has an underappreciated balance sheet and is currently sitting on $446 million in cash that could be used to buy new Capesize vessels. In fact, it's already started to do so, spending $52 million recently on a Capesize boat due to be delivered in November.
That cash-driven financial flexibility will let the company buy smaller vessels as well -- and lock in strong charter rates on them -- when their daily rates move up as firmly. And when its current Capesize contracts expire, that portion of its fleet could be locking in stronger daily revenue, too.
Risks to consider: While the long-term rebound in maritime charter rates is the real deal, shipping industry stocks are notoriously volatile, and corporate profits are still not assured despite higher charter rates.
Action to take --> Even when the industry is firing on all cylinders, shipping stocks should still be left to the small speculative sliver of a portfolio. But, this is still an opportunity with a lot of potential upside to accompany that risk. A triple-digit return isn't out of the question for patient speculators, and Diana Shipping is the best bet in the bunch for investors willing to hold it for a year or more.