The Baltic Dry Index (BDI), which measures changes in the cost to transport raw materials, continues to tumble and is now down nearly 44% from its June highs. The Baltic Dry Index is often considered a leading indicator, signaling future economic growth when rising and contraction when falling.
The Baltic Dry Index has historically been a good leading indicator for several reasons. First, the index looks at raw materials so it captures activity at the very beginning of the production process. Raw materials are also typically an area with very low levels of speculation. Second, it paints a picture of international trade activity, which is a critical driver of global growth. Finally, the shipping business depends heavily on credit, so the Baltic Dry Index indicates whether credit is tight or loose.
Because the supply of large carriers tend to remain very tight, with long lead times and high production costs, the index can experience high levels of volatility if global demand increases or drops off suddenly. Today, we are seeing excess capacity distort demand as a record number of new shipping vessels, equal to 14% of the existing fleet according to the Financial Times, are due to be delivered by the end of the year.
In addition, China’s reduction in commodity imports has been another key factor affecting demand. As said above, raw materials are typically an area with very low levels of speculation. However, China began hoarding raw materials in light of global economic malaise and the expectation that the declining U.S. dollar would lead to higher commodity prices in the future. The recent easing suggests that the long campaign by China’s Iron & Steel Association to stop speculative hoarding is finally gaining traction. Thus, a working down of stockpiles and fundamentally lower demand will keep a lid on the Baltic Dry Index.
The question now becomes, will this ultimately keep a lid on global economic growth?
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Peter J. Lazaroff, Investment Analyst
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