After another year of extremely difficult market conditions, many would forgive liner sector players for an air of resignation. However, despite a challenging freight market, charter rates remaining firmly in the doldrums and a major corporate casualty, looking back 2016 may well be seen as the year in which the container shipping sector really started to tackle its problems head on.SIW1255

Sustained Struggles

The container shipping sector has spent much of the post-financial crisis era under severe pressure and, as many expected, 2016 proved no real exception. Box freight rates in general remained weak, and the SCFI Composite Index averaged 18% lower in 2016 than in 2015. However, by late in the year it did appear that spot freight rates might be bottoming out on some trade lanes.

Against this backdrop, charter market vessel earnings remained extremely challenged, at bottom of the cycle levels. The one year rate for a 2750 TEU ship averaged $6,000/day in 2016, 37% lower than in 2015. ‘Old Panamax’ types fared even worse, averaging $4,979/day in 2016, 58% down on 2015, with the opening of the new locks at the Panama Canal impacting vessel deployment patterns.

Fundamental Traction?

Nevertheless, sector fundamentals did appear a little more positive in 2016. Demand conditions improved, with global volumes expanding by an estimated 3% in the full year to 181m TEU. Volumes on the key Far East-Europe trade returned to positive growth and the rate of expansion on intra-Asian trades accelerated back to more robust levels. However North-South volumes and trade into the Middle East remained under severe pressure from the impact of diminished commodity prices, though volumes into the Indian Sub-Continent grew strongly.

Meanwhile, containership capacity growth slowed significantly in 2016, reaching just 1.2% in the full year. Deliveries fell dramatically to 0.9m TEU (from 1.7m in 2015) and demolition accelerated rapidly to a new record of 0.7m TEU.

Still A Surplus

However, given the level of surplus built up in the post-Lehman years, and in particular the impact of the delivery of substantial capacity, much of it in the form of new ‘megaships’, the improved supply-demand balance seen last year was not enough to generate any significant improvement in market conditions. At the end of 2016, around 7% of total fleet capacity stood idle. The financial collapse of major Korean operator Hanjin was a further illustration of the acute distress facing both operators and owners.

Getting To Grips?

So, further recalibration still appears to be necessary to generate better markets. However, 2016 might also be seen as the year in which the sector finally started to lay real foundations for a better future. Demolition hit a new record, and financial distress and regulatory requirements are expected to drive further recycling. The ordering of newbuild capacity dropped to just 0.2m TEU in 2016, a dramatic halt.

Meanwhile, further significant steps in the consolidation of the sector were taken in the form of merger and acquisition activity involving major operators; the top 10 now deploy 70% of all boxship capacity, a figure set to rise to around 80%. Building blocks only these factors may be, but many will hope that at last container shipping is starting to build towards something more positive than the gloomy conditions that perpetuated in 2016.

In 2016 the shipping industry saw significant supply side adjustments in reaction to continued market pressures. For shipbuilders this meant a historically low level of newbuild demand with fewer than 500 orders reported in 2016, and the volume of tonnage on order declined sharply. Meanwhile, higher levels of delivery slippage and strong demolition saw fleet growth fall to its lowest level in over a decade.SIW1256

Pressure Building Up

2016 was an extremely challenging year for the shipbuilding industry. Contracting activity fell to its lowest level in over 20 years with just 480 orders reported, down 71% year-on-year. Domestic ordering proved important for many builder nations and 68% of orders in dwt terms reported at the top three shipbuilding nations were placed by domestic owners last year. Despite a 6% decline in newbuild price levels over 2016, few owners were tempted to order new ships, especially with the secondhand market offering ‘attractive’ opportunities. Only 48 bulkers and 46 offshore units were reported contracted globally last year, both record lows, and tanker and boxship ordering was limited. As a result, just 126 yards were reported to have won an order (1,000+ GT) in 2016, over 100 yards fewer than in 2015.

A Spot Of Relief

However, a record level of cruise ship and ferry ordering provided some positivity in 2016. Combined, these ship sectors accounted for 52% of last year’s $33.5bn estimated contract investment. European shipyards were clear beneficiaries, taking 3.4m CGT of orders in 2016, the second largest volume of orders behind Chinese shipbuilders’ 4.0m CGT. Year-on-year, contracting at European yards increased 31% in 2016 in terms of CGT while yards in China, Korea and Japan saw contract volumes fall by up to 90% year-on-year.

Further Down The Chain

In light of such weak ordering activity, the global orderbook declined by 29% over the course of 2016, reaching a 12 year low of 223.3m dwt at the start of January 2017. This is equivalent to 12% of the current world fleet. The number of yards reported to have a vessel of 1,000 GT or above on order has fallen from 931 yards back at the start of 2009 to a current total of 372 shipbuilders.

Final Link In The Chain

Adjustments to the supply side in response to challenging market conditions in 2016 have also been reflected in a slower pace of fleet growth. The world fleet currently totals 1,861.9m dwt, over 50% larger than at the start of 2009, but its growth rate slowed to 3.1% year-on-year in 2016. This compares to a CAGR of 5.9% between 2007 and 2016 and is the lowest pace of fleet expansion in over a decade. A significant uptick in the ‘non-delivery’ of the scheduled start year orderbook in 2016, rising to 41% in dwt terms, saw shipyard deliveries remain steady year-on-year at a reported 100.0m dwt. Further, strong demolition activity helped curb fleet growth in 2016 with 44.2m dwt reported sold for recycling, an increase of 14% year-on-year.

End Of The Chain?

So it seems that the ‘market mechanism’ has finally been kicking into action. A more modest pace of supply growth might be welcome news to the shipping industry but further down the chain shipbuilders are suffering. Contracting levels plummeted in 2016 and the orderbook is now significantly smaller. Even with the ongoing reductions in yard capacity, shipbuilders worldwide remain under severe pressure and will certainly be hoping for a more helpful reaction in 2017.

To much fanfare and accompanied by voluminous industry coverage, Mexico recently concluded Round 1.4, the country’s first ever deepwater licensing round. However, Mexico’s shallow waters may yet have a future too: Bay of Campeche reserves remain considerable and indeed, the country’s third shallow water bid round is ongoing. It is therefore worth reviewing the current state of shallow water E&P in Mexico.

Veering Off Course

Mexican offshore oil is currently produced entirely from shallow water fields, as has always been the case. The key sources of Mexican offshore oil have been several large field complexes such as Cantarell and Ku-Maloob-Zaap. As these fields and others came online, the country’s offshore oil output grew with a robust CAGR of 6.6% from 1980 to 2004, reaching a peak of 2.83m bpd in 2004. As the graph implies, four complexes accounted for 93% of this production. Decline set in thereafter at ageing fields (production at Cantarell began at the Akal field in 1979). Pemex – the sole operator of Mexican offshore fields prior to 2014 – tried to halt production decline, but with little success, given budget and technical constraints. Thus by 2013, offshore oil production at the four key field complexes had fallen to 1.31m bpd, accounting for 69% of Mexico’s offshore oil production of 1.90m bpd.

Getting Back On Track

This situation prompted President Peña Nieto’s government to initiate energy sector reforms in 2013, opening up the country’s upstream sector to foreign companies for the first time since 1938. Pemex was granted 83% of Mexican 2P reserves in “Round Zero” in 2014. The first shallow water round, Round 1.1, followed in December 2014. Only two of 14 blocks were awarded though, reportedly due to unfavourable fiscal terms inhibiting bidding by oil companies. The authorities then improved terms before launching Round 1.2 (shallow water), Round 1.3 (onshore) and Round 1.4 in 2015. Round 1.2 was better received than 1.1: as per the inset, 60% of blocks were awarded (75% of the km2 area on offer). One of the round’s victors, Eni, has already been granted permission to drill four appraisal wells on Block 1.

Turning Things Around?

In light of these positives, there are high hopes for Round 2.1, a shallow water round launched in July 2016. Indeed, 10 out of the 15 Round 2.1 blocks are in the prolific Sureste Basin, home to the Cantarell complex. Eight of these ten areas are unexplored, so there is sizeable upside potential, and have been mapped with 3D seismic, so operators could begin drilling promptly. Moreover, the surface area of the blocks in Round 2.1 are twice that of Round 1.1. It should also be noted that according to a 2016 IEA study, Mexico’s shallow waters still account for 29% of the country’s remaining technically recoverable oil resources. Finally, with rates for a high spec jack-up in the GoM assessed at about $85-90,000/day in January 2017, down 45% on three years ago, some oil companies might be tempted to make a move on a round that could offer a relatively low cost means to grow oil reserves and production.

So arguably, Mexican shallow water E&P is on the road again. There are potential hazards of course, such as oil price volatility or Mexico’s relationship with the US. But it is not implausible to think that Mexican shallow water oil production might speed up again in the coming years.

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With the ClarkSea Index around $9,000/day, and many if not most of the major shipping markets under severe pressure, it’s hard to escape the conclusion that the shipping markets are a tough place right now, with limited pickings to share between owners. However, everything’s relative, and from one angle the size of the ‘pie’ might just be bigger than it seems…

How Big’s The Pie?

Last week the ClarkSea Index stood at $8,743/day, and during 2016 as a whole the index averaged $9,441/day, taking into account earnings in the tanker, bulkcarrier, gas carrier and containership sectors, across a selection of over 21,000 units at the start of the year. Estimating the aggregate annual earnings for the basket of vessels in question, that works out at $72.5 billion in full year 2016. To put this in context against the boom years of the 2000s, in 2007 the ClarkSea Index averaged $33,061/day across a basket of over 15,000 ships, generating aggregate earnings of $189.1bn, over two and half times more than in 2016.

In terms of average earnings levels, 2016 actually compares more equally to 1992, 25 years ago, when the ClarkSea Index averaged $9,786/day, or 1999 when it averaged $9,855/day. But of course the fleet has grown since those days and, in dwt terms, the basket of ships in the index in 2016 was 159% bigger than in 1999 and 219% larger than in 1992. Aggregate earnings in 1999 reached $43.6bn and in 1992 were $36.1bn. 2016’s total was 66% and 101% larger respectively. In today’s challenging markets it is food for thought that the earnings stream is still that much bigger than at similar earnings levels in the past.

A Bigger Bake

And furthermore, there’s a wider world of shipping outside the scope of the ClarkSea Index basket which is (hopefully) generating income too. If, for instance, the 2016 earnings of the ClarkSea Index basket were extrapolated on a $/dwt basis (it stood at $48/dwt) across the whole of the 1.7bn dwt world cargo fleet, the overall earnings of that wider fleet would have come to $85bn. That’s roughly the size of the economy of Ukraine!

Rising Cost Of Ingredients

However, having said all this, it’s not just about earnings. Costs need to be taken into account too. Using a weighted index of OPEX across the ClarkSea Index basket and subtracting it from aggregate earnings would imply an overall net cash flow in of $23.4bn in 2016 (this compares to around $150bn in 2007 and 2008). Helpfully, in recent decades fleet expansion has outweighed growth in OPEX so the net cash flow pie has grown compared to previous downturns too.

A Slice Of The Action

So, whilst market conditions are as challenging as any seen in the last few decades, the revenue ‘pie’, though hardly tasty yet, is at least significantly larger than it was last time that earnings were at a similar level. For the industry that means a larger pie to be shared around. In today’s difficult markets that could be helpful, but of course you have to get a big enough slice. Have a nice day.

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In the first film in the Bridget Jones series, 32 year old single Bridget soon ends up in the middle of a love triangle with the sensible Mark Darcy and charming Daniel Cleaver. The second sequel, released last year, sees Bridget finding herself unexpectedly expecting a baby. But Bridget Jones hasn’t been the only one battling tricky relationships and a rising headcount, as tanker owners will attest.

Happy Couple

The tanker market has certainly had some tumultuous times of late. Crude tanker earnings picked up in 2014, averaging nearly $27,000/day, and surged to an annual average of around $50,000/day in 2015. Things started to cool off into 2016, but in the full year average earnings were still fairly healthy at just under $30,000/day. They say two’s company; and these positive conditions did seem to have been brought about by the fortuitous lining up of two key factors.

Firstly, limited tanker ordering in the years after the global economic recession led to a spell of very muted growth in the tanker fleet. By the start of 2015, tanker fleet capacity was just 3% larger than at the start of 2013 (in the same period, the bulkcarrier fleet grew 10%). Secondly, the oil price crash in mid-2014 kick-started a period of unusually firm growth in seaborne oil trade. The ensuing low oil price environment supported healthy refinery margins and a build-up in oil inventories in key regions, whilst price pressures also dampened US oil production and boosted US crude imports. Overall, seaborne crude oil trade grew on average by a healthy 3.5% p.a. in 2015-16.

Delivery Record

However, a resurgence in contracting (1,278 tankers were ordered in 2013-15, up from 577 in 2010-12) has seen tanker fleet growth accelerate, to around 6% in 2016. The tanker supply surge has continued, with deliveries in January 2017 reaching an all-time monthly record of 6.7m dwt. With these new additions, tanker fleet capacity has already grown by 1.1% since the start of 2017, a similar rate of growth to that seen in full year 2014, with more tonnage delivered last month than in some whole years in the 1980s. In full year 2017, tanker fleet growth looks set to reach around 5%.

Troubling Trio

Another tricky element could also now be materialising on the demand side. Compliance by major oil exporters with agreed production cuts seems to have been high so far. The wider impact of these cuts on the tanker market is certainly far from clear, but there is the potential for improved oil price levels to support US oil output and undermine crude imports. At the same time, oil inventory drawdowns in some regions remain a key risk

Finding Mr Right

So, they say three’s a crowd, and the tanker market could be facing up to some real tests if the three factors of fast supply growth, changes in oil production and inventory drawdowns come together. Bridget Jones would be the first to tell you that finding the right way forward when the future’s uncertain and numbers are multiplying is tricky at the best of times, but rarely have shipowners not been up for a challenge. Have a nice day.

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Expectations at the start of the year that 2016 would be a tough one for the oil industry, and in particular for offshore, were on the whole fulfilled. Overall upstream E&P spending globally fell for the second successive year, and was down by in the region of 27% year-on-year in 2016. Cost-cutting has been a key focus, whether that be through pressure on the supply chain, M&A activity, job cuts or other means. OIMT201701

Lower Spending

Offshore spending has been particularly reined back on exploration activity such as seismic survey and exploration drilling, although 2016 saw weakness spread further to areas such as the subsea or mobile production sectors which had initially shown some degree of protection from the downturn. This was not helped by a 32% year-on-year decline in sanctioned offshore project CAPEX in 2016, despite a small number of encouraging project FIDs, such as that for Mad Dog Phase 2 in the Gulf of Mexico in Q4.

Dayrate Weakness

Dayrates and asset values in those offshore sectors with liquid markets showed further signs of weakening in 2016. Clarksons Research’s index of global OSV termcharter rates declined by 27% in 2016, whilst that for drilling rigs was down by 25% year-on-year. Potential for further falls are, in general, limited, given that rates levels in many regions are close to operating expenses. Owners are doing what they can to control the supply side: just 81 offshore orders were recorded in 2016: for context, more than 1,000 offshore vessels were ordered at the height of the 2007 boom. Slippage has also remained evident, either due to mutually agreed delays with shipyards, or owing to owners cancelling orders. Offshore deliveries were 34% lower y-o-y in 2016.

Despite the severe industry downturn, the oil price actually firmed during the year. Brent crude began 2016 at $37/bbl, before briefly dipping below $30/bbl. However, the price ended 2016 at $55/bbl, helped by a slow firming in mid-year, and then more rapid gains after the 30th November announcement of a concerted oil production cut by OPEC countries.

This is clearly positive news for oil companies’ cashflow, and marks the abandoning of Saudi Arabia’s policy of targeting market share by accepting low prices as a means to hinder shale oil production in the US. However, US onshore companies were already feeling more comfortable with slightly improved prices in Q3 2016. Early surveys of intentions for E&P spending suggest that onshore spending in the US could increase by more than 20% in 2017. It is likely that offshore spending will decline further in 2017.

Some Way To Go

Nonetheless, it is important to stress that the offshore sector is far from dead. The expected multi-year downturn is occurring. However, important cost-control and consolidation has taken place. IOCs continue to consider strategic investments such as Coral FLNG or Bonga Lite. This shows that these companies are planning for better times. Decline at legacy fields will help to correct the supply/demand balance. Meanwhile, optimism is building in the renewables and decommissioning markets, with for example, announcements even in the first few days of 2017 that China is to make an RMB2.5 trillion investment in renewables over five years, whilst another North Sea decommissioning project plan has been submitted.

Nevertheless, the supply/demand imbalance in many offshore vessel sectors will take time to recalibrate. However, the weakness of 2016 also put in place many longer term trends which could lay the groundwork for an eventual change in market fortunes.

Last year saw a huge amount of change in the under pressure container shipping sector. In particular, the ongoing consolidation of the sector in one form or another grabbed the headlines. To put this into context, it’s interesting to see how the level of consolidation relates to other parts of shipping, how it has developed over time and how it might progress looking forward.

Solid In A Fragmented Field

It’s quite clear that the shipping industry is a fairly fragmented business. On the basis of start 2017 Clarksons Research data, 88,892 ships in the world fleet were spread across 24,267 owners. That works out at less than 4 vessels per owner. Although 145 owners with more than 50 ships accounted for almost 12,000 of the vessels (and 29% of the GT), it’s still not that consolidated. The liner shipping business however is one the more consolidated parts of shipping, as well as being home to some of the industry’s larger corporates. At the start of the year, the 5,154 containerships in the fleet were owned by 622 owner groups, about 8 ships per owner, but, perhaps more pertinently, were operated by 326 carriers, about 16 ships per operator. Each of the top 8 operators deployed more than 100 ships. But despite the less fragmented nature of the sector, recent market conditions have led to another round of consolidation in the box business.

All Change At The Big End

The three largest operators (by deployed capacity) at the start of 2017 were European: Maersk Line (647 vessels deployed) followed by MSC (453) and CMA-CGM (454). Of the remaining carriers in the top 20 all but three were based in Asia or the Middle East. However, what’s really interesting is that out of the 20 largest carriers back in late 2014, 4 are now gone. CSAV was acquired by Hapag-Lloyd, NOL/APL by CMA-CGM and the two major Chinese lines merged. And of course in late summer 2016, the financial collapse of Hanjin Shipping marked the sector’s biggest casualty in 30 years.

Long-Term Liner Trends

Against this backdrop, the graph shows  that the latest wave of box sector consolidation is actually part of a long-term trend. Back in 1996 the top 10 carriers deployed 45% of capacity and at the start of 2017 that figure stood at 70%. The coming year is set to see Hapag-Lloyd complete its merger with UASC, and Maersk Line’s planned acquisition of Hamburg-Sud is also awaiting necessary approvals. The second half of last year also saw the three major Japanese operators declare their intention to merge containership operations in a joint venture due to be established this year and start operations in 2018. The ‘scenario’ based on these changes would see the top 10’s share at 79%, nearly twice as much as 20 years ago.

Tracking The Top Table

So, the container sector is one of the more consolidated parts of shipping, and both the long-term trend and recent developments point towards ongoing consolidation. Many hope this will help the recalibration of market fundamentals and eventually support improved conditions. In the meantime, we’ll be publishing the ranking of the top containership operators every month, so watch this space.

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