COVID-19, Oil, & Ships

The shipping industry is not immune to a pandemic. The past weeks have carried a plethora of news that shifted the industry into a new detrimental direction. This is accompanied by the trade war, historic oil crash, port controls and demand shocks.

To start off, a notable illustration by Chappatte depicts the complete cancellation of the world economy from efforts to eradicate the virus. The restriction and containment measures set out by governments, known as "the great lockdown", has rapidly cast a significant economic downturn. The economic shock brought global markets to sink despite central banks around the world collectively working to ease the effects of the pandemic.

Brief Global Outlook

In the United States, weekly unemployment claims have reached 6.9 million with anecdotal evidence stating that the reported amount would have been higher had computer systems not break down during the claiming process. The $2 trillion stimulus package injected from the federal government is argued to not be adequate enough to satisfy the economy. Taking into account the large $21.44 trillion American GDP, the package may only provide a sense of security to the economy for a couple of months before a new package is eventually needed. Only time will tell if the stimulus will suffice for the rapid developments of the outbreak. Additionally, with increased stimulus, public debt will rise and potential discharges and bankruptcies would only exacerbate the situation.

When it comes to global GDP, it is evident from the current negative growth that the world is heading into a recession. Taking world seaborne trade into account, a multiplier that incorporates both global trade and GDP trends downwards since before the financial crisis of 2008. The IMF tweeted that the recession is at least as bad as the 2008 crisis or worse, but we expect recovery in 2021.

As many investment banks, analysts and shipbrokers revised their outlook for the current year, it is concluded that preventing globalization is not the solution to the crisis. Historically, governments have a higher tendency to lean towards protectionism rather than globalization, preventing the flow of goods across borders. The shipping industry is assisting to relax this.

Shipping and Trade Insights

As Chinese shipyards are responsible for the construction of most ships in the world, there are adverse effects from the decline in production primarily due to the virus. In the months of February and March, the industry has witnessed lower levels of vessel deliveries from Chinese shipyards and reduced fleet growth. Besides the reduction of ships supplied into the market, more ships are being scrapped. The demand for vessels is consequently impacted from the supply of ships on a global scale. Capesize ships, the largest dry cargo ships, are hit the hardest as these vessels are not producing more than $4,000 a day whilst needing $15,000 to break-even in the current market. In order to boost freight rates up to make profits, support is needed from the demand side.

The enormity of dry bulk and container shipping will be making losses this current year, whilst oil tankers are expected to float just above break-even levels - that is depending on how the severity of the crisis develops. Crude oil tankers are experiencing strong returns due to current geopolitical conditions, but this entirely depends on how long political issues will continuously benefit the industry.

Delving into the manufacturing and services industry, the virus has impacted PMI growth negatively.

In shipping, manufacturing weighs heavier than services as the driving force of the industry. In February, the manufacturing PMI of China has drastically declined and the same pattern is forecasted to take into effect for both the Eurozone and the United States. In the upper right chart, it is apparent that the services industry was hit hard by the pandemic as the amount of service output declined globally. For instance, the Eurozone PMI has plummeted from 52.6 to 28.4 index points, more or less a standstill on the services sector.

Closure of Ports and Terminals

Keeping ports, terminals and cargo entry points open is imperative to ensure the flow of goods across borders. Looking at the chart below, China has allowed trade to flow even through the global crisis. There is visible import growth in commodities such as iron ore, coal and soya beans in the past three years.

South America is currently experiencing the grain harvest and crop production season. There was uncertainty whether grain harvest would fully stop before it has even started, this was reinforced through the closure of the port of Timbúes, the grain port of Argentina. Fortunately enough, latest trade news from the nation reported that exports of grain will not be halted and that the Timbúes port and ports along the Paraná river are now once opened again through government decree. From both the maritime and global perspectives, it is indispensable to keep goods flowing, as both food and animal feed are needed around the globe.

More Affected Markets

The container shipping sector has encountered declining levels of demand. The trade war between China and the United States has induced container demand to fall significantly in January 2020, as the inbound containers in the United States West Coast declined by 5%. Incorporating the effects of both the trade war and COVID-19, the market has been seriously struggling. The United States West Coast inbound loaded containers dropped by 13% in February alone.

The demolition market, on the other hand, experienced positive development. In an industry that is backed by too much shipping capacity with too little cargoes, it is beneficial that fleet and vessel demolition activity has spurred upwards. The Indian subcontinent holds 80 to 90% of global ship demolition. Recently however, both India and Pakistan followed Bangladesh in suspending all forms of ship demolition activity for weeks. This has produced an excess of vessels in the market whilst impacting freight market conditions.

Crude Oil Tankers and Bunkering

Besides every other player in the industry, the crude oil tanker market is thriving. Earlier in the months of October and September, the market was mostly driven by United States sanctions on Iran which brought a rapid spike in the daily rate for crude oil tankers. With the amalgamation of recent effects from the historic crude oil price crash, COVID-19 and the OPEC plus alliance, another spike for crude oil rates is certain. Crude oil tanker rates are currently selling at a high $200,000 per day, with the majority of buyers located in either India or the Red Sea.

Although the crude oil tanker market is enjoying the quick influx of demand, it is inevitable for freight rates to eventually fall. The crude oil tanker market is under pressure from the high freight growth of the previous year and the current effects from geopolitics, but gravity will prevail at some point in the future for the tanker market.

Besides crude oil, bunker prices have significantly decreased for the wider shipping industry. Singapore, the largest hub for bunkering, faced a significant reduction in very-low sulphur fuel oil (VLSFO) prices. In the chart above, VLSFO price has plummeted from $710 in January 1 to just $277 USD in March 26 per metric ton.

The IMO has implemented a new regulation to limit the sulphur content in fuel oil used by vessels. These ships should only use fuel oil which is inherently low in sulphur content to comply with changes in the regulation. More data revealed a price differential of just $56 between high sulphur and low sulphur fuel oil, a stark decline from the spread of $367.50 at the start of 2020. This puts heavy pressure on the economics and investments of scrubber-equipped vessels.

Although bunker fuel oil prices are continuously dropping due to the slump in demand from the pandemic, it is forecasted for the market to normalize. As long as there is a spread between the prices of high sulphur and low sulphur fuel oil, there are still benefits from having a scrubber onboard a vessel. Previously in 2019 before fuel oil prices hiked, the spread between the two oils remained relatively stable at $200 per metric ton. Only time will indicate if this will be the spread in the future as well.