The product tanker sector is eagerly anticipating the trade potential of IMO 2020, but have investors now missed their chance to exploit this opportunity?
Clarkson Research Services (CRS) estimates the product tanker fleet (inclusive of all sectors) grew by 1.6% in 2018, to 157.8M dwt. Future fleet growth is expected to double in 2019 to 3.6% (162.9M dwt) falling to 1.6% (165.5M dwt) in 2020.
The age profile of the product tanker sector is a tale of two sizes: in the less than 10,000 dwt sector the average tanker age is 17 years, and over 69% of the fleet is over the age of 15 years with very little replacement growth. By any standards, this is a hugely under-invested sector; but these small product tankers are vital for the hinterland movement of clean and dirty products. With only 26 tankers of less than 10,000 dwt on order (24 for delivery in 2019, just two in 2020), coupled with the relative speed of building these small tankers and an abundance of hungry shipyards, this sector of the product tanker fleet has strong potential for the brave investor.
Strange then that nearly all recent investment activity has been in the long-range product tanker sectors, where the LR1 sector average age has fallen to 10 years and only 12% of the LR2 sector is over the age of 15 years.
Compared to other shipping sectors (liners, dry bulk carriers) the investment in new tonnage is reasonably in line with demand. After the recent spurt of growth in 2016 (4.5%), overall product tanker demand growth in 2018 is estimated to have been 1.8%, to 127.8M dwt, according to CRS. The forecast for 2019 is a firm 3.6%, rising to 6.2% in 2020 when total product tanker demand is forecast at 140.6M-equivalent dwt demand.
Effectively, in 2018 supply and demand growth cancelled each other out. The forecast for 2019 is for a similar situation, where rising demand is adequately catered for by an increase in supply. It is in 2020 when the fun starts, with CRS (and Torm) forecasting an IMO 2020-driven boost in seaborne trades resulting in a 3% growth in product tanker demand (to 6%), compared to an expected fleet growth of just 2%.
The sulphur cap is expected to boost clean product trades, with a supplementary volume increase in gasoil trades. The decline in the fuel oil trade is expected to be felt most heavily by the crude oil and dirty products sectors. CRS warns the known unknown in these forecasts is the number of product tankers that may be out of service having scrubbers and ballast water retrofits.
Uncertainty over 2020 oil
Still, the CRS view is relatively benign. Discussing the post-2020 product tanker landscape during a recent webinar, Bloomberg Intelligence sector head & senior analyst transportation and logistics Lee Klaskow and Torm’s chief executive Jacob Meldgaard painted a less certain picture.
Mr Klaskow has the full weight of Bloomberg Intelligence’s data to draw on, and access to its 280 independent analysts covering 113 industrial sectors. The shipping data is provided by familiar names including SSY, IHF, Drewrys, Baltic Exchange, World Container Index, Poten & Partners, VesselsValue, and AIS ship movements data.
“An IMO 2020-driven boost in seaborne trades will result in a 3% growth in product tanker demand (to 6%), compared to expected fleet growth of just 2%”
Taking a top down approach, Mr Klaskow expects global demand for shipping services in 2019 could reach 3.6% growth, led by the US and China. This is threatened however by the current trade tensions and the unknown outcome of Brexit. “There is a great deal of uncertainty that the oil industry can meet the demands of IMO 2020,” he warned.
Shipping is going to compete with trucking, automotive and rail for global gas oil, he explained. Those refineries that wish to produce low sulphur fuel for the shipping industries will require sweeter crude oil, leading to some fundamental changes in crude oil shipping patterns. It is the view of Bloomberg Intelligence that there will be a surge in gas oil demand, which will tail-off post-2020.
“We believe that Q1 2020 will mark a successful completion of the transfer of most of the world’s fleet to the new fuel regulations,” said Mr Klaskow.
Mr Klaskow also analysed the equity side of the shipping market, noting that the Bloomberg Intelligence shipping index was being dragged down by the poor performance of the dry bulk companies. Conversely, tanker operators have returned a good performance, with the share price index climbing by 23% in the second half of 2018 for this sector.
During the same webinar, Torm’s Mr Meldgaard presented the view of a company that is at the heart of the product tanker sector. Torm is a global pure product tanker play, covering all the key sectors and is listed on Nasdaq and the Copenhagen stock exchange.
It has a fleet of 73 tankers with nine on order. A distinguishing feature of Torm’s offering is that performs all the technical and commercial management (including sale and purchase) of the fleet in-house. “We have a long history in creating value for all our stakeholders,” said Mr Meldgaard.
Jacob Meldgaard (Torm): “In the period 2019 to 2021 we estimate the product tanker ton-mile demand will grow at an annual rate of about 5%”
Torm is mainly a spot market operator, with no off-balance sheet chartering commitments. It relies on its access to all levels of the product tanker market, without being ‘polluted’ by other shipping sectors. Mr Meldgaard believes that with these attributes, Torm is the reference company in the product tanker sector, which makes it a useful company by which to judge the health (or lack thereof) of the product tanker sector.
Torm reports a gradual decrease in its operating costs (opex) by 17% over the past five years. In 2018, Torm’s opex was below US$6,300/day in the MR sector.
“The cyclical nature of shipping might tempt owners and operators towards either the Atlantic or Pacific Basins, but in the long run this is not a commercially sensible option”
Mr Meldgaard noted that there will be further savings to come. Currently, to switch between the carriage of residual fuel to clean products requires the vessel’s tanks to be cleaned and inspected, which is an expansive and potentially dangerous operation. The decline in the movement of residual fuel post-IMO 2020 will actually save fuel and emissions.
When it comes to product tanker trading strategy, Torm is careful to balance the fleet between the Atlantic and Pacific Basins. Mr Meldgaard warned that the cyclical nature of shipping might tempt owners and operators towards one Basin, but in the long run it is not a commercially sensible option.
Looking ahead to 2020, Mr Meldgaard believes that Torm’s spot rate strategy will literally pay dividends. “At the end of 2018, every US$1,000/day increase in rates translates into a US$25M per year increase in revenue [for Torm],” said Mr Meldgaard.
Torm’s forecast for the future product tanker supply/demand balance is similar to that of CRS: “In the period 2019 to 2021 we estimate the product tanker ton-mile demand will grow at an annual rate of about 5% and at the same time we estimate the net growth of the fleet (newbuilding net of scrapping) to be 3%,” said Mr Meldgaard.
He is of the opinion that the level of refinery expansion in 2019 would be similar to 2016. Most would be coming onstream in the Middle East for export, justifying forecasts for increases in ton-mile demand.
Two-year ROI on scrubbers
The product tanker fleet is going to be one of the beneficiaries of IMO 2020. “We expect a large-scale shift from high sulphur fuel oil … and it will be necessary to build and compile stocks of low sulphur fuel in bunker ports spread out all over the globe,” said Mr Meldgaard. “This will create new and considerable trades for product tankers,” he added. Mr Meldgaard also expects the impact of IMO 2020 will be felt at the start of the second half of 2019, leading to a boost of around 5% in product tanker trades (CRS suggests a more conservative 3%).
So as a reference pure product tanker play company, what is Torm’s strategy for IMO 2020? According to Mr Meldgaard, by 2020 half the Torm fleet will be equipped with scrubbers; the other half will burn compliant fuels. Two Torm vessels are currently operating with scrubbers to give the fleet the feedback needed to understand the operational requirements.
In Mr Meldgaard’s opinion, the business case for scrubbers has not changed, even if the nominal price of the fuel mix has crept up. He currently expects the payback period to be less than two years for product tankers. Torm had established a partnership with ME Production in China to manufacturer scrubbers. Torm has a 25% stake in the partnership and has delivery/fitted scrubbers at a cost of US$2M, according to Mr Meldgaard.
The projections given by Torm have not gone unnoticed by shipping investors. The relatively low fleet growth over coming years is making modern product tanker tonnage more attractive. Second-hand tonnage values are beginning to rise, with VesselsValue reporting a 7% increase in the value of five-year old generic MR2 tankers since the start of 2019 and 12% since the start of 2018.
Mangish Kakodkar (AG Shipping & Energy): The performance of the product tanker market is a direct result of supply and demand
According to AG Shipping & Energy’s founding director and global head Mangish Kakodkar, speaking at the Asian Tanker Conference in Singapore in February 2019, the moment to invest in product tankers has already past. His company invested in product tankers specifically to capitalise on IMO 2020 and his reasoning was that product tanker market performance is a direct result of supply and demand.
As a trader, his organisation has the best access to the complete downstream/upstream information flow, which paints a picture of the demand curve for product tankers. In his opinion: “Owners who are into predictive analysis are no less than casino gamblers,” he told delegates.