Baltic Dry Index – sell-off overdone?

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The Baltic Dry Index crashed by 50.4% to 893 on Friday from a high of 1,799 in the last week of 2011 and is 58.2% lower than October’s high of 2,136.

Source: StockCharts.com

The Baltic Dry Index is generally viewed as a leading indicator of global economic activity as dry bulk primarily consists of commodities such as building materials, coal, metallic ores and grain. The massive growth in demand for commodities from 2005 to 2008 led to a surge in shipping rates as measured by the Baltic Dry Index. The demand and surging shipping rates subsequently resulted in a significant increase in capacity as the number of ships built increased sharply. Even during the great 2008/2009 crisis capacity continued to be increased as it takes two years to build a ship. Historically the capacity was generally tight and the supply seen as inelastic, resulting in marginal changes in demand causing rapid changes in shipping rates. The current significant surplus capacity in the industry means that supply exceeds potential demand to such an extent that supply elasticity has increased, resulting in rapid changes occurring in what is essentially a downtrend – yes, fundamentally the Baltic Dry Index is in a bear market as shown by the long-term chart below.

Source: StockCharts.com

But what causes the rapid changes in demand and therefore the Baltic Dry Index? My research indicates that global manufacturing demand has very little to do with it. The answer is Chinese manufacturing demand but not the actual level of manufacturing measured by the CFLP Manufacturing PMI. In previous articles I referred to the CFLP Manufacturing PMI that is supposed to be seasonally adjusted. Despite the seasonal adjustment, a seasonal trend is clearly evident and I therefore seasonally adjusted the series further. I was amazed to find that the monthly seasonal factors and the Baltic Dry Index track each other. The reason why is not hard to find, as China is by far the world’s biggest consumer and importer of commodities and therefore the biggest player in dry bulk. Seasonally weak periods in the economy will lead to low physical demand for commodities and therefore low freight demand. On the other hand, strong periods in the economy will lead to high freight demand.

In the graph below I depicted my calculated PMI seasonal factor against the Baltic Dry Index. I have also indicated China’s New Year’s Golden Week holiday on the chart as it coincides with and explains the reasons for the weak seasonal pattern in January/February. The impact on China’s manufacturing sector is massive as the New Year’s Golden Week lasts for 15 days and includes three public holidays, while factory workers are allowed to take Sundays off. This year New Year will be celebrated on January 23, and the festival will last until February 6. The onset of the festive season/weak seasonal patch is therefore the reason behind the tumble in the Baltic Dry Index.

Sources: CFLP; Li & Fung; I-Net Bridge; Plexus Asset Management,

January/February could also mean a seasonal low for the Baltic Dry Index as from a seasonal perspective March and April are the strongest months in China’s manufacturing sector. In March and April last year the Baltic Dry Index failed to rise rapidly due to Japan’s twin disasters in March that severely restricted trade between China and Japan.

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6 comments to Baltic Dry Index – sell-off overdone?

  • […] post? If so, click here to subscribe to updates to Investment Postcards from Cape Town by e-mail. Baltic Dry Index – sell-off overdone? was first posted on January 23, 2012 at 10:00 am.©2011 “Investment Postcards from Cape […]

  • ANDRE BOEHLEN

    Prieur, I believe you are taking your dreams (wishfull thinking) for realities.
    A little more restraint and coming back to a more sober view of things would help you greatly shedding that ‘broker’s cap’ you still seem to be wearing.
    Otherwise you’re having a great website.

  • […] but not the actual level of manufacturing as measured by the CFLP Manufacturing PMI. [Let me explain.] So says Prieur du Plessis (www.investmentpostcards.com) in edited excerpts from his […]

  • @Andre Boehlen: I’m not too sure what “broker’s cap” you’re referring to. I’ve argued my point based on analysis and not for any other reason.

  • Arne

    There are a lot of taxi cars, (overcapacity) but the bill you pay when you take a cab isn’t going down.

    There is no way BDI goes down due to over capacity. Waiting to see what
    the experts will say when BDI goes down to 500 from todays 750.

    Let’s face it. World economy is in recessesion and printing dolares haven’t helped.

  • dude

    The Baltic Dry index is based on shipping contracts, which, unlike many commodities, are often locked into terms of a year or more. I think what we are seeing is the gradual expiration of high dollar long-term contracts, rather than seasonal volatility.

    http://en.wikipedia.org/wiki/Baltic_Dry_Index

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