With the second quarter coming to an end, dry bulk has already experienced a record start to the year, especially for the smaller, sub-Cape segments that are enjoying some of the strongest rates ever in a non-stop demand frenzy that seems to have now convinced even the most skeptical market observers of its sustainable nature at least for the near term with futures prices remaining well above historical levels for the remainder of 2021. Capesizes also remain elevated, but not to the extend that rates for the smaller vessel classes are pointing to. After all, with freight rates across the board in the low-to-mid 30,000 level, there seem to be little differentiation by charterers as even cargo splits/combinations are occasionally driven by vessel availability for specific dates rather than underlying freight price.
Market participants are pricing a continuation of such impressive strength in freight rates for the rest of the year. For Capesizes, and with the spot market deep into the 30,000 mark, futures are trading at around 37,000 for the second half of the year, a small premium that naturally points to a stronger second half as historically has been the case (the average for the 1st half is around 24,000). For the sub-cape segments, the futures curve is slightly backwardated, yet the spot market is in record territory at levels not even imagined at the beginning of the year, so a degree of cautiousness is perfectly normal, but Supramax rates in the 30s is anything but cautious if one thinks that for the past decade such vessels were earning single digits most of the time.
Volatility naturally has also exploded higher, with daily moves in both the freight futures and spot market expanding considerably. In the futures market, annualized volatility recently reached multi-year highs, touching the 100% mark for the first time ever as measured by the 50-day rolling average moves before declining a bit while still remaining elevated.
Annualized Volatility of freight futures as measured by the Breakwave Dry Bulk Futures Index (BDRYFF)
Capesize rates however have failed to impress to the extend that smaller size vessels have. Although owners are still enjoying a very healthy market, the fact that spot rates have not really managed to maintain the standard historical premiums to Panamax/Supramax rates points to different dynamics for that segment. Indeed, the very specific nature of the main product transported by Capesize vessels, namely iron ore, has limited the segment’s ability to achieve such levels. Iron ore demand is strong and, combining that with coal, that is definitely helping, but such demand is no match for the unprecedented demand for various other commodities as a result of the “post pandemic” world (although this refers to mainly the developed world where restrictions are easing and industrial demand is surging). As a result, excitement for Capesizes is more measured despite the elevated levels of futures, and we share such view as well, with volatility being the name of the game for the months to come. Any imbalance in demand/supply and the move in rates will be considerable either way from where spot rates currently stand.
Capesize Spot Rate Seasonality (2017-2021)
So, what does our crystal ball say?
For Capesizes, we expect weakness in the next few weeks, as the market balance shifts towards a better supplied market in the Pacific, and some seasonal weakness on the demand side in the Atlantic. We expect futures to remain in contango and trade at a premium to spot, as the market still reflects the overall strong fundamental picture for dry bulk, but for now it is difficult to rationalize such premiums, especially for the next few months, without some solid change in the market balance. In addition, the fact that the sub-Cape segment remains strong and thus near-dated futures are solidly tight to the strong spot market, Capesize futures will have a hard time trading below the smaller segments, although we suspect that soon that will be the case, at least near term, as Capesize futures follow the spot market lower.
Yet, as we have stressed many times, turning points are impossible to time in dry bulk. As a result, and given that the market remains of the view that dips are to be bought, we expect any softness to be short lived and be followed by strong upturns in the spot market, an embedded optionality that is reflected in the futures curve. Fundamentally, not a lot has changed, and such fluctuations in spot rates will naturally happen, and for now some consolidation is needed especially after the recent jump in spot from the high teens to the mid-30,000 that happened in less than two weeks’ time. We expect Brazil’s iron ore exports to once again be in full force by late July which should provide the fuel for another upturn in spot rates carrying the market all the way to the end of the year.
Finally, as time progresses, the more important long term favorable factors gradually come into play. A miniscule orderbook, further constrained by ever changing environmental regulations, combined with a steady demand growth for commodities for the years to come, and the ingredients for a tightening market will be with us for the next several years. Twists and turns will be with us during this time, but this is the nature of shipping and will always provide opportunities for investors and owners alike.