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Dry bulk shipping weekly analysis (Part 3: Construction rises)

Xun Yao Chen, Industrials Analyst

Continued from Part 2

Ship construction activity

Part 2 of this series explains how ship orders can illustrate managers’ expectations for future supply and demand differentials. But new ship orders don’t always translate into new constructions right away. Sometimes, shipping firms specify a particular date of delivery for the new orders. If the delivery date is farther out, ship construction firms will delay work. So construction activity, on top of ship orders, gives investors further insight into managers’ expectation of future supply and demand differences as well as when and by how much supply will grow in the future.

(Read more: Dry bulk capacity growth slows further, encouraging sign for later half of 2013)

Ships On Order & Under Construction 2013-08-12

Could construction activity be showing some signs of recovery?

On August 9, the number of ships under construction as a percentage of existing vessels reversed a four-week decline, increasing from the prior week’s 4.26% to 4.34%. It’s too early to tell whether construction activity will continue to rise, but it’s a positive sign that higher shipping rates are nearer in sight—especially combined with the sharp declines in ship orders we saw in Part 2.

(Read more: Supramax price rises first time since mid 2010, signs of shipping recovery)

Construction activity started rising in 2009, as shipbuilding firms began work on a large number of orders, which coincided with a peak in the number of ships ordered at ~50%. Activity has fallen since, because managers placed fewer orders post-2009, when they saw how much they’d over-ordered. Orders have continued to slip as ship construction firms worked through the large amount of ship orders. While managers have returned to the shipyard to place new orders, they haven’t needed the new ships immediately. As we’ve said in previous updates, the weakness in construction activity shows that managers are in no rush to receive these new orders and expect shipping rates as well as profitability to remain low for at least the short term. But last week’s data may just be the beginning of higher construction activity in the foreseeable future.

(Read more: Why the Baltic Dry Index has decoupled from the Chinese market)

Inference and outlook

Investors will be concerned that such an increase in construction activity may increase supply more than wanted in the future, which is why low construction activity could still have been positive for shipping companies. While that’s something to look out for (which stresses the importance for investors to look at several key indicators instead of just one) there’s a window of up to two years for that to occur, because of how long it takes to build a dry bulk ship.

At the moment, we could take the recent data as neutral for dry bulk shipping companies such as DryShips Inc. (DRYS), Diana Shipping Inc. (DSX), Knightsbridge Tankers Ltd. (VLCCF), Eagle Bulk Shipping Inc. (EGLE), and Safe Bulkers Inc. (SB). As long as shipping rates continue to turn around, you may see higher construction activity as a positive. But if construction activity continues to rise without improvements in shipping rates, it will be negative.

Learn more about the key performance indicators of the dry bulk shipping industry

Continue to Part 4: Ship capacity, or go back to Part 1 to see the list of key shipping indicators.

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