Tanked | FT Alphaville


Most people will have heard about the dramatic collapse in dry bulk shipping rates that occurred in October/November following the paralysis that hit global trade in the weeks after the Lehman Brothers collapse. However, tanker rates didn’t respond quite as dramatically at the time.

Now, a good six months on, there is no denying tanker rates have finally responded with the same calamitous descent downwards.  The fall may have been more haphazard than that of Baltic Dry — most likely due to the contango in the oil market which saw demand come in for vessels as storage — but the decline is no less serious, and is consequently creating some unusual dynamics in the energy market.

As shipping news provider Lloyd’s list wrote on Friday:

TANKERS are being chartered for voyages at spot rates that fail to cover bunker and port costs, as earnings dramatically plunge across all tanker types in both dirty and clean trades.   Worldscale rates for clean tankers operating on some major routes are now translating to dollar-per-day earnings of less than zero, according to derivatives broker, Imarex.   The rates decline has sharply accelerated this month, pushing rates below $10,000 per day for aframax, suezmax and very large crude carriers on all but a handful of world’s key tanker journeys, and well below operating costs for most owners. 

The case is particularly worrisome for the world’s VLCC routes (very large crude carrier). As Lloyd’s List explains:

On the world’s largest VLCC trading route, from the Middle East to Japan, rates have fallen to under $8,000 per day, just over 10% of the $70,000 per day seen at the beginning of 2009.   “There’s no reason why the market should be where it is,” said Frontline acting chief executive Jens Martin Jensen.   “It doesn’t make any sense. If [a crude oil trader] pays $50 a barrel and you have 2m barrels on board [a tanker] worth $100m, who cares if you are paying $10,000 or $20,000 per day? It doesn’t make any difference. It’s weakness in certain owners minds.”

Here, for comparison, are charts of the Baltic Dry index (which provides an average rate for the cost of moving raw dry materials like metals) and the Baltic Dirty Tanker index (which provides a measure of tanker rates for transporting unrefined crude oil).

The Baltic Dry (click to enlarge):

Baltic Dry Index - Bloomberg

The Baltic Dirty Tanker Index (click to enlarge):

Baltic Dirty Tanker Index - Bloomberg

The same decline is also true of clean tanker rates, which measure the price of transporting refined products like gasoline, gasoil, naphtha and jet fuel:

BAltic Clean Tanker Index - Bloomberg

As Lloyd’s List sums up, the drop in VLCC tanker rates has much to do with the fallback in Opec production. This can be clearly seen in the marked and sustained fall in the TD3 route particularly, which marks rates from the Arab Gulf to Japan. (Click to enlarge.)

TD3 route

So what are the implications for the market, including oil and products prices? Well, it could be argued that had it not been for the market drop in tanker prices this month the contango in crude prices may have abated. As it is, rates are so low that traders who would normally have unwound their Q4 contango trades, have had every reason to keep them on.

If low tanker rates are indeed responsible for suspending the natural flattening of the contango that would have occurred when traders repositioned themselves, it is this area arguably that must be watched most closely for hints of future price direction. The theory being: any dramatic recovery in tanker rates in the weeks, months to come could be enough to backtrack the contango once and for all. That said,  currently, that looks an unlikely possibility.

Meanwhile, in the products arena – low clean rates have led to the unusual development of tankers being used for gasoline storage. This is because with inventories running high across many prominent markets, and traditional onshore storage full, it has become cost-effective to overcome the usual problems that come along with storing gasoline for long periods of time on vessels (the fact that gasoline is much more unstable than unrefined crude and can evaporate).  Amongst the first to initiate this gasoline ‘contango’ trade on a large level have been the Iranians. As Reuters reported last week:

DUBAI, April 7 (Reuters) – Iran is storing 7.7 million barrels of gasoline on ships as part of efforts to secure supplies ahead of its presidential election in June, industry sources said on Tuesday.

An Iranian official told Reuters Iran was storing the gasoline, but declined to say why.

“We will continue to store gasoline to make sure we are always in a comfortable position,” an official from the National Iranian Oil Company (NIOC) said, but declined to offer more details. “We want to make sure we have no supply shorts.”

Tehran was expected to lift imports of gasoline for May and June by up to 25 percent from April as it looked to guarantee plentiful supply before the presidential vote, traders said.

The pricing structure for gasoline was encouraging storage, traders said, as prices for prompt delivery were lower than those for buying the fuel later.

The fuel is being kept on 12 oil tankers anchored off Kharg Island, Iran’s largest crude oil terminal, the NIOC official said.    OPEC-member Iran was set to import around 128,000 barrels per day (bpd) of gasoline in April, traders said.

While the Iranians may give the impression the trade has been initiated to create some sort of supply security ahead of elections, there are reports of other parties doing the same thing. In which case, the expectation in the market could be that gasoline prices are bound to go up — perhaps on the view that as the world’s less complex refineries become increasingly punished on account of ineffective margins, they will be forced out of business. As Olivier Jakob at Petromatrix points out, US demand for products, for example, is 1.8m barrels per day lower than a year ago, while refinery runs are almost unchanged. As he writes:

…this imbalance can not be maintained and refiners still have to adjust refinery production lower to match the much lower demand.

If lower production comes at the expense of small non-complex refineries going out of business completely (with sites actually being mothballed), the consequence would be much less refining capacity for the world’s disposal. Ironically, this rebalancing could be supportive for gasoline prices — making the gasoline storage trade very profitable.

Distillate prices, however, are another story. The overhang here is simply so much larger than in gasoline — which may seem curious considering the exact opposite was true last year when  gasoline demand fell much faster than demand for distillates. This led some to suggest the US motor market had become more diesel-oriented because of the fuel’s greater efficiency.

While that may have been the case initially, it’s becoming increasingly clear the overhang now tells a completely different US recession story. Distillate demand has come crashing down (lagging demand destruction in gasoline) because it is only now that industrial production — the key driver of distillate consumption — has fallen.  As Bloomberg reports, the latest US industrial production figures have been dire:

Industrial production in the U.S. fell for the 14th time in the last 15 months as factories trimmed unwanted stockpiles. Output at factories, mines and utilities dropped 1.5 percent last month, more than anticipated and matching the prior month’s decrease, according to a report from the Federal Reserve today in Washington. The amount of industrial capacity in use fell to 69.3 percent, the lowest level since records began in 1967.

All of which suggests the future for distillate prices (and small non-complex refineries for that matter) is anything but bright. Even a suspension in the rate of  industrial production decline (which doesn’t look hopeful yet) would be hard-pressed to rebalance the supply overhang that currently exists.

Related links:
Crude inventories still a problem
– FT Alphaville
The crude inventory problem, pictorial edition
– FT Alphaville
Contango smashing
– FT Alphaville