I’ve written before about the Baltic Dry Freight Index as a leading indicator of commodity prices. I’ve updated the chart of the BDI (dashed line) versus the CRB Commodity Index (solid bars) for the last six months:
The BDI has become the “darling” of many market forecasters. However, it is one thing to argue the narrow case of a relationship between the index and commodity prices (which are increasingly determined by Chinese activity), and quite another to conclude, as many forecasters do, that the BDI is a good early indicator of broad economic acitivity.
One of the problems with all that chatter about the BDI is that most of the commentators are financial markets professionals who can run a regression. In other words, people like me. That is, people who know very little about actual shipping. Fortunately, I have a friend, Jim Grubbs, who knows a lot about shipping, and kindly agreed to let me share his thoughts as a guest post. Jim Grubbs is President of JLG Associates, a firm providing strategic consulting services to shipowners and shipping financiers. He was formerly a Managing Director and Head of Corporate Finance for Citigroup’s Global Shipping Division. In total he has 35 years of experience in the shipping industry. His comments and response to my questions:
I know a fair amount about the supply side of the BDI – the fleet of dry bulk ships. I know much less about the demand side. My impression is that there probably is a fair case to be made for corrolation between global GDP and the BDI in the long run, but that market dislocations can screw up this relationship for discrete periods of time, and I believe we are in one of those periods now. For instance, at present there is an over-supply of dry bulk ships brought about by the excesses of the past several years. (Think floating real estate). There is also a large orderbook, most of which will be delivered over the next two years. Thus I think it is fair to say that the supply side sucks.
Notwithstanding, the BDI has more than doubled in the past few months from a very low level. In my view, the three main reasons are China, China and China. The Chinese are locked into a negotiating war on iron ore pricing from their two major suppliers – Brazil and Australia. Because of this, they have been playing one off against the other and are also ordering from non-traditional suppliers, causing a shift in trading patterns that results in a temporarily greater tonne-mile demand for ships. In addition, they appear to be buying physical commodities as a hedge against the dollar, again creating short term demand for ships. The combination of these two factors has overtaxed China’s port capacity, resulting in long periods of demurrage with ships anchoring offshore for days or weeks until there is a berth where they can unload.
If you believe, as I do, that a) the Chinese will eventually hammer the Brazilians into a price they can live with and will resume their normal purchasing patterns; b) there is a finite amount of storage capacity in Chinese ports for iron ore and other commodities and, in any case, there are better ways to hedge against the dollar; and c) once these two things sort themselves out the port congestion will clear up, then you might expect the BDI to head south rather dramatically over the next 6 months or so.
I would like to think that the recent rise in commodity prices concurrent with the rise in the BDI is a sign of green shoots in emerging nations that might lead to a global recovery, but I can’t wrap my mind around the developing world (with the exception of China) having enough domestic demand to make this happen. If they can’t export their finished goods, I don’t know that they can sustain their demand for commodities and keep the prices up. At this point, there are few signs that export recovery is underway – as evidenced by the fact that container shipments to the OECD continue to plummet. Sorry to be gloomy, but I think we have still not turned the corner economically, although things seem to be getting worse at a slower pace. — Jim Grubbs
Many thanks to Jim for lending his expertise and experience to this blog! — Jeff K.