Long-term trend remains positive for dry bulk shipping firms (Part 3 of 11)
The significance of scrapping level and shipping rates
For a short-to-medium-term assessment of supply and demand dynamics, investors can look towards ship scrappage (retirement) activity. The rate at which companies scrap ships often reveals whether the dry bulk shipping industry is facing excess capacity. When excess capacity pressures the shipping industry, firms will often retire older ships to relieve pressure on shipping rates and maintenance costs.
Scrapping activity rises, but remains in down-trend
On September 27, the total number of ships retired since IHS Global Limited began collecting the data in 2005 rose to 2,187 ships—a significant jump of 14 vessels from 2,173 on September 20. So far, shipping companies have broken up 343 ships since the beginning of this year, which represents 3.9% of the 8,428 available ships reported at the beginning of the year. The eight-week rolling average number of ships being scrapped rose 0.63 point to 7.13 vessels. While last week’s data was negative, and could reflect some weakness in the dry bulk sector, scrapping activity has remained in a downtrend since June 2012. As long as rates continue to rise, we should see scrapping activity fall to levels seen during 2009 and 2010.
Falling scrappage is actually positive, not negative
At the start of the year, 6% of existing vessels were above 25 years old—the age that companies estimate to be the average useful life of each ship. Although companies often report the number of ships available to scrap as evidence of limited supply concerns, the reality is that several ships do celebrate birthdays beyond 25. Companies are also unlikely to scrap ships just because they’re old and will often try to hold on to old vessels as long as they can find customers to use them. So although the industry can scrap another 200 ships, investors should see falling scrappage as a positive sign that shipping rates are rising.
Current trend positive for dry bulk shipping companies
As long as scrappage activity continues to fall over the medium term, it’s a positive indication that fleet utilization (supply and demand dynamics) is tightening, and that shipping rates will rise in the future. Higher shipping rates will translate to higher earnings, cash flows, and share prices. The current trend is positive for dry bulk shipping companies such as DryShips Inc. (DRYS), Diana Shipping Inc. (DSX), Safe Bulkers Inc. (SB), Navios Maritime Partners LP (NMM), and Navios Maritime Holdings Inc. (NM).
Browse this series on Market Realist:
- Part 1 - Idea: Do dry bulk stocks actually follow the Baltic Dry Index?
- Part 2 - New purchase orders suggest bright outlook for dry bulk shipping
- Part 4 - Stable construction: Why managers expect medium-term higher rates
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