The cost of shipping is sinking, and shippers are struggling to stay afloat. The Baltic Dry Index, which measures the spot price for chartering ships that carry dry bulk goods such as iron ore, is down 93% from its May peak.
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At current prices, shippers can’t cover their costs. Many are breaching bank covenants and a few have been forced into administration. In a move of sheer desperation, the notoriously secretive London shipping community convened on Wednesday to try to cut their losses. The meeting focused on reducing the counterparty risk involved in the shipping business’ complex chain of long-term agreements, which stretch from shipowners through traders to the operators, known as charters.
The goal is worthy, since these agreements are creating unexpected losses for shipowners. That’s because ships are chartered and sublet, often several times as traders juggle long-term contracts to match supply and demand. But with spot prices at rock-bottom levels, long-terms contracts are being broken. The creation of charter clearing house could reduce the default risk up and down the chain.
But even the most efficient clearing house can do little to address the underlying issues plaguing the sector. The industry always suffers when world growth slows—spot rates often drop by more than 60% over a year—but 93% in just six months is shocking, even by shipping standards.
The boom was exacerbated by cheap credit, which made foreign trade less costly. That led to overestimations of the growth rate of world trade, and especially ambitious orders for new ships. The credit bust is now amplifying the downturn. Trade finance, which smoothes the waters for world trade, has become expensive and scarce.
The demand for shipping has fallen dramatically. The hard times could get still worse if banks start calling in loans. That would flood the already glutted market with a wave of foreclosed ships. The only remedy is the breaking yard. Until capacity is cut or trading conditions improve, shippers will be at the mercy of markets and bankers.