Given the uncertainty of the domestic economy, one industry worth considering investing in is commercial shipping. Shipping is the primary means of international transportation of any essential raw material or finished good. Approximately 80% of the cargo and almost 100% of hydrocarbons moved today is by water. The global commercial shipping industry can be classified into the following categories:
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When selecting companies to invest in, one needs to be conscious of both demand and supply drivers. Demand drivers look at the availability and need for the cargo being transported while supply drivers look at the ability of ship builders to construct ships for commercial use.
The two primary drivers of demand are trade growth and trade patterns.
Trade Growth (Demand Driver)
- World GDP growth – the higher the level of economic activity the greater the demand for raw materials to trade
- Oil demand and supply – the higher the demand and supply of oil, the greater the need for tankers to transport
- Oil inventory levels – the amount of oil held in storage to meet future requirements has an impact on the demand for oil tankers in the future; seasonality often plays a critical role
- Steel production – Since iron ore and coal represent about 42% of global dry bulk trade, steel production is a significant factor in determining the demand for dry bulk carriers
Trade Pattern (Demand Driver)
- Refinery locations – varying levels of capacity and the sophistication of refineries’ processing capabilities affect the oil markets
- Sourcing – The distance between the place of origin and place of destination affects tonnage-mile demand for vessels
- Regional grain production – global grain trade depends on harvest of a particular year which, can significantly affect supply of cargo to transport
The two primary drivers of supply are ordering and scrapping
Ordering (Supply Driver)
- Ship building capacity – ship builders generally cannot cope with sudden increases in demand due to a time constraint to making ships; the current backlog of global shipyards reach out as far as the mid 2010’s
- Ship building prices – Lower prices can lead to increased orders thereby increasing the total tonnage available in the market
Scrapping (Supply Driver)
- Economic life – The higher the age of the fleet the higher the expected scrapping and lower the net fleet growth; the current average age of global shipping fleet is 19 years
- Regulations – Regulations on age and safety set by the International Maritime Organization and the EU can place restrictions on the particular kinds of vessels and fleets
Current Outlook Attractive
The demand for shipping capacity has been soaring for years thanks to places like China, India and the Middle East for their increasing needs and participation in global trade; this has pushed freight rates and operator profits up significantly. Luckily, supply of raw materials has kept in pace with demand, and thus has not constrained shipping activity. In addition, fuel costs are promoting a growing number of shippers to consider ocean versus other forms of transport.
A particularly attractive feature of shipping companies is that dividends are generally high and can range anywhere from 5-15% depending on the company; this can add significant bottom-line returns for your portfolio, even if the stock or market underperforms.
Disclosure: the author has a long position in DRYS.