In recent weeks, shipping stocks have seen huge gains. Since mid-August, the shipping ETF (NYSE: SEA) has climbed more than 30%. In comparison, the S&P 500 (SPY) is up 7.5% over the same time period. This outperformance is really remarkable considering that global growth has been slowing, a trade war is raging, and the shipping stocks have been notorious underperformers since 2008.
The largest marginal driver of shipping stocks are shipping rates. Some of the reasons rates are moving higher include heightened tensions due to recent attacks in the Mideast, sanctions on Chinese shippers, and the imposition of new emissions standards.
Since 2008, the entire shipping sector has been stuck in a brutal bear market. Even as the stock market has been making new highs since 2013, the shipping sector is more than 50% below its 2009 lows. It's been a classic boom and bust story. Prior to the previous bull market from 2002 to 2007, commodities had just endured an almost 20 year period, where prices trended lower and they were outperformed by nearly all other asset classes. The poor returns led to lower investment levels and investors lost interest in the sector.
This created optimal conditions when demand did come back in 2002 to 2007 primarily on faster global growth driven by China. Shipping stocks soared as rates for ships carrying various commodities climbed by many multiples. Stocks in the sector also went up by many multiples. They used their profits to build more ships in response to the higher rates. It resulted in oversupply, and rates also fell as the global economy slowed.
The resulting oversupply resulted in a long bear market, where many shipping capacity has finally worked through some of the excess built up over the last cycle due to bankruptcies and older ships being retired. Thus, the chances of a meaningful, trending rally in the sector is higher now than in the past especially if fundamentals continue to improve.
Although it may be tempting for someone bullish to point to the strength in shipping it wouldn't be accurate. Some of the gains are indicative of the resilience of demand, however the primary factors are unique. Oil tanker stocks have been particularly strong due to an increase in oil inventory building by countries across the world. Some smaller contributing reasons are sanctions against a large Chinese shipper and Exxon refusing to charter Venezuelan ships.
The new emission standards to lower use of high-sulfur fuel will be imposed in 2020. This is forcing many older ships to be retired or upgraded also cutting into capacity with the shortfall expected to persist for the next 12 to 18 months. This trend is affecting all types of shipping stocks.
Overall, the combination of favorable supply and demand and the potential for an upturn in the business cycle and resolution of the trade war could indicate the beginning of a bull market in the sector for the first time 11 years.