Although the day-to-day drivers of freight rates are usually dominating shipping market discussions, long term fundamentals remain vague in an industry with such a high degree of volatility. And yet, shipping cycles can be longer and stronger versus short term shipping rate fluctuations as investors learned well in the 2000’s shipping cycle.
By now, most people that have looked at shipping investments know that China has and will be the main driver of demand, as the country continues to absorb vast quantities of commodities with much higher growth rates versus the rest of the world. Although China’s economic growth has gradually declined as the absolute size has increased, market pundits have for years called for a peak in commodity demand and a maturing economy, something that partly played out in the last few years.
Yet, shipping demand is mostly concerned with transportation and not outright consumption (though the two are highly correlated during normal times). To that front, an unexpected twist might be in the horizon that could break down such correlation in favor of shipping demand. As Bloomberg reports, China is about to unveil a new stockpiling initiative of critical commodities in their upcoming 5-year plan, something that should support shipping demand for the foreseeable future at above trend rates even if consumption growth slows down. Commodities will include crude oil, strategic metals and farm products, all of which are mainly transported by sea from far away destinations.
Bloomberg writes:
“Beijing is keen to heed the lessons of the coronavirus crisis and deteriorating relations with the U.S. and its allies, according to the officials, who participated in the drafting of the plan. That means ensuring the nation’s secretive stockpiles, almost certainly among the world’s largest, are plentiful enough to withstand supply disruptions that could cripple its economy, the officials said, asking not to be identified because the matter is sensitive.
China’s top leadership will next month lay out its strategy for 2021-2025 that will include ramping up domestic consumption and making more critical technology at home, in a bid to insulate the world’s second-biggest economy from worsening geopolitical tensions and fraying supply chains. Securing food supplies, fuel and materials is a precondition of greater self-reliance for the world’s biggest importer of commodities.”
Obviously, for investors in commodities such a development is good news, as it creates a new, unexpected source of demand. However, what is most levered to such a scenario is shipping. With an orderbook at multi-year lows and with minimal appetite for new ship orders, the industry is currently set for subdued demand growth in the medium term. If indeed such a stockpiling scenario becomes a reality, demand for shipping will be stronger that currently expected, and, with supply growth constrained, the balance will favor a stronger rate plateau versus what is currently priced-in.
If one considers that the Capesize forward curve for the next 3 years is in the 13,000 region, which is in line with the 10-year trailing average (a period of significant oversupply and a few years of flat demand growth), the odds of a tighter market and thus higher realized rates for the next 2-5 years is skewed to the upside.
Finally, the incentives of such a potential move by China are anybody’s guess. Geopolitics might play a role as well as relative currency moves given the recent volatility in CNY. The fresh souring in Australia-China relations and the two-year long trade dispute with the US are prime examples of why Beijing might want to actually initiate such a strategic stockpiling. Whatever China’s motivations end up being, commodities are located far away from China’s shores and thus more ships will be needed, providing some much needed hope for shipowners that could potentially see their earnings potential move higher in another major, China’s driven shipping cycle.