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Without doubt, the current dry bulk market is Capesize-driven
market. We have seen C5TC has increased to more than USD 30,000 per
day in early July 2020 from USD 3,000 just a month ago, up almost
1,000% over just one month. Also, Panamax and Supramax have
increased significantly with strengthening Capesize rates and
adjusted down again in line with weakening Capesize rates towards
the end of July. Therefore, in our view, regardless of actual
fundamental of smaller size sector, we need to explore the key
reasons behind the remarkable increase in the Capesize freight
first and then analyze how different market conditions would impact
Panamax and Supramax freight rates in the short and
medium-term.
To answer this key question, we believe we need to measure
positional squeeze first to predict the short-term direction of the
Capesize market.
On the 19th May, we reported that laden/ballast balance started
to increase and signaled higher Capesize freight rates in the
following weeks with stronger employments and less ballasters.
Since then, we have seen the demand-and-supply balance in Brazilian
routes continue to increase in line with Capesize 5TC average
movement. This tightness is mainly caused by the coronavirus
disease (COVID-19) impact. Indian buyers of coal and iron ore have
not been actively importing cargo over the last two months with
lockdown, which limited tonnage flow into the Indian ocean. Also,
the Tonnage availability in the north Atlantic has decreased over
the last few months.
Under this circumstance, we observed increasing Capesize iron
ore employment from Brazil, reaching last year's level in Week 26,
and has stayed strong since then. Furthermore, Canadian and
Ukrainian iron ore export volumes picked up and bauxite demand from
Guinea has increased. All of those participants of Atlantic exports
have been fighting for very limited tonnage in the short-term.
Consequently, front-haul driven positional squeeze has been driving
freight rates to increase very strongly.
Moreover, VLOC's market share in Brazil has decreased
substantially. In the first five months of this year, VLOC has more
than 60% market share in Brazilian iron ore exports, but in June,
it became less than 50%. As VLOC is used for dedicated shipments,
Brazilian miners were required to charter in more spot Capesize
vessels, which triggered much tough competition to secure limited
prompt tonnage.
However, we expect VLOCs currently heading to Asia will surely
come back to Brazil in one or two months' time and reduce spot
Capesize requirements. In 2019, there was a substantial delay in
returning of VLOCs owing to the 'scrubber installation impact' with
the increase in dry docking activities. For 2020, as scrubber
installation has been discouraged so far owing to the narrow
differential of LSFO/HSFO, we do not expect artificial supply
tightness to happen again in the second half.
Finally, when we looked at the movements in the Indian Ocean
over weeks 26-28, demand and supply balance was starting to
decrease, and we were seeing more ballasters in early July. In our
view, this will surely put pressure on Capesize freight rates in
ships that arrive in August.
Also, the Australian finance year started in July, many iron ore
and coal traders tried to close deals in June, and this short-term
artificial unbalanced market was intensified with higher congestion
in China as well. This sudden spike in freight by these factors led
many funds to cover their large short positions in FFA,
specifically for nearby contracts in June and July 2020. These
short-covering activities were not all that uncommon in the
commodity future market, and many of short-covering driven prices
rally eventually failed in the medium-term as the fundamental
picture usually comes back and adjusts them down. Fundamentals will
ultimately determine price in the long run.
Meanwhile, when Capesize freight rates spiked, we also observed
the Panamax and Supramax assessment of FFA to increase
substantially with strengthening Capesize rates. However, can the
current contango in FFA on sub-Panamax size sectors (where the
future price/rates of freight are much higher than the spot rates)
can be justified?
Source: IHS Markit
As the dry bulk freight has finally recovered across every size
class. Attention is now beginning to shift from the depth of the
recession to the shape and strength of the recovery. The key story
still centers around the global economy gradually reopening after
COVID-19-related disruptions, and Chinese stimulus package
supporting demand of key dry bulk cargo, therefore, it seems the
dry bulk market has passed the floor and now the focus has turned
to speed and strength of freight rate recovery.
However, when we account for changing trade patterns, energy
competition, and fleet supply development, there are obvious
winners and losers depending on the size segments. Overall, it
seems more favorable to the bigger size segments.
Over the first six months of 2020, bauxite and iron ore
shipments, mainly carried by Capesize, have been quite stable amid
the COVID-19 situation because of strong demand from China.
However, there is substantial downside risk in the coal sector,
impacting more the smaller size segments. Specifically, in India,
the coal import trend has declined significantly over the last few
months. Although Indian coal imports are expected to recover to
some extent, it is not likely to reach beyond last year's level
owing to high coal stockpiles and competition with stable domestic
output. Additionally, exceptional strength in Chinese coal imports
over the first half would result in import controls in the second
half with limited import quotas.
Clearly, there are also positive factors for grain carriers.
With the phase-one deal between the US and China, there is
potential upside risk in Atlantic grain tonnage demand in the early
fourth quarter when the US grain season starts. However, strength
in Brazil soybean exports in the second quarter, also expected is
strength in Black sea grain season in the third quarter would limit
upside potential of US grain season in the fourth quarter.
Moreover, in terms of supply, although we expect supply
normalization in the coming 2-3 years with limited new building
orders, capacity growth of Panamax and Supramax has been very
strong so far, mainly because of limited demolition in sub-panamax
sectors and a large number of scheduled deliveries. Therefore,
global dry bulk freight rates are expected to rise in the second
half of 2020 as the global economy gradually reopens and positive
sentiment from the Capesize market raises expectation of
shipowners, specifically in the period market. However, we expect
Panamax and Supramax freight rates will still end the year well
below its 2019 cyclical peak mainly owing to the risk in coal
demand, and high capacity growth.
Posted 04 August 2020 by Daejin Lee, Lead Shipping Analyst, Associate Director, Maritime & Trade, IHS Markit
