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Must-know: What bulls and bears say about industrial output and shipping demand

Xun Yao Chen, Industrials Analyst

Imports and shipping rates

China’s industrial output—crude steel and electricity outputs, to be specific—are bellwethers of demand for raw material shipments. When industrial production rises quickly, so does demand for raw materials, such as iron ore and coal, which is often accommodated by higher domestic production and imports. Since dry bulk ships take one to two years to construct, supply is quite inelastic. So changes in imports have large impacts on shipping rates, and vice versa.

Steel and electricity output

The year-over-year change in China’s steel output rose in May to 7.3% from 6.8% in April, while electricity output fell to 4.1% from 6.2% in April. Investors have worried since a few months ago about whether the government’s move to cool the property market down would hurt industrial output. While the bulls will say industrial output continues to grow positively and hasn’t fallen off a cliff, the bears will point out that output growth isn’t as high as it was before. They’re both right. Compared to before the financial crisis, in 2010 to 2011, industrial output has consistently stayed above 10% for steel and electricity output. This time around, however, growth reports have been lower, as the government’s not so eager to energize the economy by pumping more stimulus into it like it did before, because China’s transitioning to a consumption- and private enterprise–led economy. Just like how a job switch can be time-consuming and take some ramp-up time, the switch will take a while.

Implication for shipping

Because share prices reflect the future outlook of a company’s earnings potential, lower output growth will hurt shipping rates, which is a negative for share prices of shipping companies such as DryShips Inc. (DRYS), Diana Shipping Inc. (DSX), Eagle Bulk Shipping Inc. (EGLE), Safe Bulkers Inc. (SB), and Navios Maritime Partners LP (NMM) in the short term. While China’s economic growth is unlikely to expand as fast as it once did, the market will eventually come to realize this change, knowing that the world isn’t going to collapse, which will be positive for long-term share price movements driven more by long-term fundamentals.

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