Posted on 24 Feb 2016
Now, an oversupply of both ships and steel has turned that relationship toxic. Both industries need to eradicate overcapacity quickly - or risk repercussions far beyond their respective shareholders, bondholders and lenders.
Surplus capacity also threatens to undermine central bank efforts to prop up the global economy.
Until it’s eradicated, companies in the crucial industries like steel and shipping won’t feel the need to invest because they won’t see a possibility to generate a return; and near-zero interest rates therefore won’t have the desired stimulus effect.
So, like their peers in the oil and mining industries, shipping companies and steelmakers need to cut capacity, and fast. But the chances of that happening look slim. Instead, signs of stress abound.
Global steel prices remain weak, and the Baltic dry shipping index - a measure of the cost of shipping bulk commodities - is at the lowest level since it was first compiled in 1985.
Steel and shipping stocks have been crushed and companies have been forced to bolster their balance sheets. ArcelorMittal, the world’s largest steelmaker, announced a US$3bil fundraising this month. In dry bulk shipping, Norway’s Golden Ocean Group on Friday raised US$200mil in a share sale to meet lenders’ demands.
What’s gone wrong? Steel and shipping companies were both guilty of over-investment in the boom years, spurred on by near- insatiable demand from China, which accounts for two-thirds of global iron ore imports.
Now, Chinese demand is stalling.
The government has ordered steel companies to shutter capacity, a painful process that could take years to complete. In the meantime, Chinese steel companies are boosting exports.
Those steel shipments aren’t enough to offset freight carriers’ lost profits - but they are enough to crush the margins of steel companies outside China.
Companies like Tata Steel have announced some plant closures in Europe, but the industry’s main seems to be on lobbying Brussels to impose tariffs on imported Chinese steel rather than pursuing consolidation that would help remove capacity.
According to UBS, Europe’s steel industry is still quite fragmented - the top five companies control 53% of the market compared with two-thirds in the United States, Canada and Mexico.
Similarly, with only 75% of the dry bulk shipping industry’s total capacity in use, according to dry bulk ship owner Golden Ocean, there is also an urgent need to remove ships from service.
But there’s a catch: scrapping ships for their recycled metal content makes little financial sense right now because steel prices are so low - yet another sign of steel and shipping’s toxic relationship.
