With May here, surprisingly the Baltic Dry Bulk Index (BDI) breached 3,000 points. It’s the highest the BDI has reached in over a decade. It’s no surprise that the underpinnings of the BDI surge are the demand in China. Still, the surge has many contributing, and potentially volatile, components. And the question is how long will the upside of the super cycle last?
Going Up.
In May, the Baltic Dry Bulk Index (BDI) compiled by the London-based Baltic Exchange, eclipsed the 3,000 point mark barrier – a threshold that has seemed well out of reach for over a decade.
Optimism, like budding spring flowers, now pervades an industry that until recently exuded a dour pragmatism borne from the hard lessons learned on the slides of the wrong side of the business cycle.
Dry bulk freight rates are driven by the global demand for commodities like iron, coal and bulk agricultural products like grains. Added to these bulk commodity mainstays are minor bulks like salt, bauxite or even breakbulk items such as forestry products and wind power parts. It feels like every commodity is in high demand as the global economy begins to emerge from the chill of the pandemic’s touch.
Jan Dieleman, president of Cargill’s ocean transportation division, said in a Reuters interview, “We are seeing demand continuing to be strong, especially on the main commodities.” This might be an understatement. Some economists are already labeling this run as the upside of an economic “super cycle” like the one experienced in 2006/7.
In most years, the availability of dry bulk ships is sufficient to keep rates low. Adding ships to the existing fleet through newbuilding programs tends to cap any long term runs.
After all, with the exception of two notable runs, July of 2003 and June of 2005 and a spectacular run in May of 2006 to crash in the autumn of 2008 with [the onset of the Great Recession], the BDI has rarely sniffed 3,000 points. That Great Recession plunge in 2008 is legendary, going from an all-time high of 11,793 points in May 2008 to a low of 663 in December of the same year.
Yes, there were a number of good months in 2009 and 2010 during the recovery period when the BDI managed to get over the 3,000 mark but by June 2010 those recovery spikes had ended. And like the decades prior to the remarkable 2006-2008 surge, the BDI has struggled to post much above 2400 points – until now.
So, what’s different?
Super Cycle: Chinese Demand
In a nutshell, China is the big difference.
BIMCO’s Peter Sand commenting on the surge wrote, “The impact of China’s economic stimulus has not only lifted the freight rates for capesize ships. In fact, you currently see earnings across all dry bulk sectors that have not been seen stronger since 2010.”
China’s early recovery from the pandemic has fueled the seemingly insatiable need for the primary commodities necessary to power the economic reboot.
And of those bulk commodities underpinning China’s demand, iron and steel producing commodities are the ones pushing the BDI. China’s dominance of the commodity sector is worth noting: In 2020 China accounted for over 72% of the world’s iron ore imports.
Breakwave Advisors, [which publishes a bi-weekly report] in their April 27th edition of “Dry Bulk Fundamentals” outlined a number of driving forces behind the rise of the BDI.
For example, China’s steel production year-to-date of 271 million tons is up 15.6% while steel inventories are down -20.3%. China’s iron ore of 284 million tons YTD is up 8% while coal imports are 68 million tons down, almost 29%.
And it appears China’s steel production is just heating up. According to the China Iron and Steel Association (CISA), daily crude steel output from member mills averaged 2.32 million tons during April 11-20, up from 2.27 million tons in a ten-day period to post an all-time high. These increases were even more significant given Beijing had mandated production cuts in steel producing plants in the steel-making cities of Tangshan and Handan in the province of Hebei.
However, China’s politburo has emphasized domestic development and sought to tap down steel and steel related exports. A strong indicator was the recent announcement the PRC (People’s Republic of China) will remove export tax rebates for 146 steel products on May 1st – the move administratively squeezes the recent export surge of steel and steel related products. And at the same time, in keeping with the desire to boost domestic growth, Beijing cut the import duties on pig iron, crude steel and ferrous scrap to zero.
Nevertheless, while China’s “centrally planned” economic structure allows Beijing significant control over economic policy, provincial dictates often run counter – especially when it comes to exporting.
Impacts of Sino-Australian Riff
However, the strained relations between China and Australia are reshaping trade partners and patterns for a number of bulk and neo-bulk commodities.
Australia has long been a key source of raw materials for Chinese producers, ranging from metallic ores to grains, beef and even hay. In turn, China has made large investments in developing key resources in Australia in extraction and energy sectors.
While relations were already rocky, in April last year they nose-dived when Australian Foreign Minister Marise Payne called for a global inquiry into the origins of COVID-19.
As relations deteriorated, Beijing began an informal trade war by pressuring Chinese traders to halt imports of Australian coal, copper, timber, sugar, cotton, hay, wine and even lobsters (notably resisting cutting iron ore shipments).
Since the beginning of the year, a tit-for-tat exchange of tariffs and trade obstructionism has exacerbated the tension between two trade partners.
As a result, China began buying more raw materials from alternative sources like Brazil, the U.S. and Canada.
For example, the U.S. exported around 663,000 tonnes of coal to China in March, more than doubling the estimated 300,000 tonnes in February. This total is a continuation of a trend started in the fourth quarter of 2020, when coal exports to China soared to 1 million tonnes, over 250% increase on a quarter-to-quarter basis. The U.S. has coking coal of similar quality to Australia and is a suitable replacement – although even with the export increase the U.S. coal exports are far short of the 3 million tonnes a month Australia was exporting to China. Aside from the void that the U.S. coal imports fulfill, it also helps the PRC meet its $52.4 billion commitment to purchases of energy products [crude oil and LNG being major export products] which China made under the Phase 1 of the Trump Administration’s 2020-21 deal signed last January.
Of course, the trickle down impacts of the rift is felt in other commodities besides coal.
Take for example, barley. China imposed anti-dumping duties of 80.5% on Australian barley last May. While Australia’s barley exports have dipped, Canada’s barley exports have strengthened. Canada’s exports of barley for the 2020/21 crop already have passed a million tons – a normal annual tally. And with the ban, Australia has increased shipments of barley (used for feed) to Saudi Arabia, and Mexico (beer). Besides pumping up purchases in Canada, China has also been purchasing more French grain.
Quite aside from the Sino-Australian rift, the impact of China’s commodity grab is being felt far and wide. An April 20th S&P report, citing Brazil’s foreign trade department, noted the South American giant had exported 10.6 million tonnes in April, compared to 9.16 million tonnes in 2020. According to the report, 90% of Brazil’s soy shipments are destined to China.
Super Cycle Spin – Running with the Bulls
Analysts at financial institutions like J.P. Morgan and Goldman Sachs are bullish on the commodity run and believe it could be a Super Cycle event. It has happened before in the early 2000s (coinciding with the BDI surge of 2006) when China economic growth impacted global commodity demand. During that same period, China’s exports from the “factory-to-the-world” production also heated up. Could this be a new “Roaring 20s” or a bubble like the Dot Com bust in the1990s or something else altogether.
For the moment, dry bulk ships (the surge hasn’t expanded to tankers) of all classes are making money. Stranger still is the fact publicly traded dry bulk operators like Danaos Corporation, Safe Bulkers and Stas Bulk Carriers are all seeing their stocks rise and are – for the time being – business media darlings.
But the continued success of the dry bulk sector is predicated on several primary factors: A hot Chinese economy; a continued recovery (without COVID-19 relapse) in consuming markets like the U.S., Europe, and Japan; and a conservative dry bulk orderbook.
For now, there are reasons for being cautiously optimistic of the recovery of the global economy, but India shows just how fragile the recovery can be and Latin America and Africa still lag far behind. As for ships, the orderbook for bulkers is small, as owners have been hesitant to risk long term investments in power plants that could be environmentally obsolete at a stroke of a pen. But the supply side of the equation could easily change – we are already seeing an uptick in containership orders – should shipowners feel the time is ripe for investment.
Super cycle or not it is difficult to shake the uneasiness in these capricious times. That what goes up quickly, has tendency to come down even faster.
