Global shipping: On high tide! - Views on News from Equitymaster

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Global shipping: On high tide!

Aug 23, 2004

The year gone by, beginning July 2003, has been particularly rewarding for investors in shipping stocks. As can be seen from the graph below, domestic shipping major, Great Eastern Shipping (GESCO) and global major, Teekay Shipping, have grossly outperformed their respective benchmarks. While the run-up in these stocks started in the second half of 2002, the actual fillip came in middle of 2003, as global trade looked for a promising future ahead.

Going by the way these shipping companies are ramping up capacities (adding to their fleet) in the second half of the calender year 2004, one can safely assume that the future looks highly prospective for the global shipping sector. As far as the tanker freight rates are concerned, in the second quarter (April-June 2004) while they declined marginally from the record levels they had reached in the first quarter (January-March 2004), they still remain at historically high levels.

The dynamics of demand...

The reason for these high tanker rates is the continued strength in global demand for oil, which currently stands at 80.4 million barrels per day (mbpd). While this is a decline of 1.1 mbpd from the levels attained in the first quarter of 2004, it is a rise of around 3.9 mbpd over the second quarter of 2003. Further, the International Energy Agency (IEA) has forecasted oil demand in 2004 to reach 81.4 mbpd, a growth of 2.5 mbpd or 3.2% on a YoY basis. This promises a huge growth opportunity for global shipping companies, especially those operating in the high-end tanker segment. The fact that crude is transported primarily through waterways adds to the buoyancy.

The supply side...

On the supply side, in the second quarter of 2004, global oil supply grew by 0.1 mbpd over the first quarter to reach 81.9 mbpd. This has been a result of the OPEC (Organisation of Petroleum Exporting Countries) raising output by 0.2 mbpd, offset by a 0.1 mbpd output decline in North America And Europe. Now, despite the projected economic slowdown due to rising crude prices, the oil guzzling economies of India and China are likely to be the biggest consumers of this rising supply of crude. This promises a huge potential for the global shipping industry as a large part of revenues is derived from transport of crude and petro products.

Scaling up resources

In anticipation of this rapid growth in global oil trade, most of the shipping companies in the world are not wasting any time in increasing their fleet size. As per Teekay Shipping, the world tanker fleet size grew by 0.8% QoQ in the second quarter of 2004, to 324 million dead weight tonne (mdwt). What's more, the world tanker order book stands at 84.9 mdwt, which is around 26% of the total world tanker fleet. In case of GE Shipping, the company is likely to take its tanker capacity to 2.6 mdwt by FY07, a growth of 6% from the current levels of 2.2 mdwt.

Now, it must be noted here that, apart from anticipation of high demand going forward, the need for shipping companies to order for new ships also stems from the fact that they have to adhere to the stringent safety norms as prescribed by the IMO (International Maritime Organisation). According to the safety norms, around 32 mdwt (or 10%) of the existing world tanker fleet is expected to be banned from worldwide trading by April 2005 and a further 87 mdwt to be excluded by 2010.

Sustainability still in doubt...

Despite the fact that global shipping companies have benefited from high growth in tanker demand in the last year, we believe sustainability is still an issue. Higher crude prices could impact the global economic growth momentum, which in turn could slowdown oil demand. Another factor to watch out for is the performance of the Chinese economy. If China were to slowdown, on the margin, there could be oversupply of fleet in select regions of the shipping market. As a result, freight rates are vulnerable. Also, with the Japanese and Southeast Asian economies still vulnerable to a downturn, tanker freight rates could come under pressure going forward. As such, investors need to tread with caution.

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