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Ever since the very first wave of destruction that tossed a buoyant dry bulk shipping industry to its tipping point back in 2008, always-opportunistic Foolish investors have maintained a disciplined vigil for signs of calmer seas on the horizon.
In no uncertain terms, unfortunately, Diana Shipping (NYSE: DSX ) resurrected a troubling, two-year-old warning during its first-quarter conference call last week. Fools may recall that Diana's president, Anastasios Margaronis, issued an alert to investors in May of 2009 that stated "the challenge for most shipping companies will be to survive over the next two years or so."
According to Mr. Margaronis' seasoned perspective, it seems, surprisingly strong business conditions in 2010 forestalled some of the more frightful market scenarios that nonetheless remained on the company's long-term radar screen. Citing newly revised global economic forecasts and shipping industry projections -- and a persistently excessive slate of new vessel construction overhanging the battered industry -- he offers the somber reminder that "the inevitable cannot be indefinitely postponed".
Dry bulk's unavoidable days of reckoning
Indeed, atop the already acutely oversupplied condition of the dry bulk industry today -- which is reflected in the 38% sequential decline in the average daily charter rate realized by spot-market tracker Baltic Trading (NYSE: BALT ) -- new vessels presently on order would add an astounding 47.3% to the size of the current global fleet. Even accounting for projections of delayed and canceled orders, the Capesize fleet is expected to expand by 14% in 2011, and the Panamax fleet may grow by 12%. The corresponding forecast for only 5% growth in global demand for dry bulk haulage, meanwhile, is nowhere near sufficient to absorb the projected capacity increase in an orderly manner.
I have been concerned about the long-term survival prospects of heavily indebted dry bulk shippers for some time; though admittedly, as time passed, and none of the U.S.-traded shippers that I follow sank to the ocean floor, I grew increasingly complacent about those failure risks. Sure, a pair of defaults by major Korean shipping lines sent shockwaves through the industry, but they caused no semblance of the "wave of destruction for banks to rival the subprime crisis" that Margaronis warned of in 2009.
Following Mr. Margaronis' pointed reminder, however, this Fool's complacency has been abruptly obliterated, and replaced by reactivated scrutiny of the sector's leading failure risks. Within that context, Navios Maritime's (NYSE: NM ) practice of mitigating counterparty risk -- by insuring charter contracts -- becomes an important factor for Fools to consider. When Korea Line entered receivership last February, that insurance spared Navios from the lasting damage that competitor Eagle Bulk Shipping (Nasdaq: EGLE ) has suffered. Eagle turned in a $5.8 million net loss for the first quarter of 2011.
A rate collapse takes its toll
Under the intensifying strain of painfully weak charter rates, Eagle was not the sole carrier to post a loss for the first quarter. Excel Maritime Carriers (NYSE: EXM ) lost a million bucks as its realized average daily charter rate slipped 20% from the prior-year period. The aforementioned Baltic Trading lost $1.7 million. Genco Shipping & Trading (NYSE: GNK ) managed to eke a $13.4 million profit, but only because the company added 13 new vessels the fleet. Without that substantial expansion of scale, the 37% decline in Genco's average charter rate would have decimated profitability.
Diana Shipping benefited from some counter-cyclical fleet expansion of its own, but the savvy operator experienced only a 1% decline in its average daily charter rate. At $31,592, that average stands among the best in the industry, and the vast majority of Diana's fleet remains locked into long-term contracts at rates well above the prevailing spot market. In addition, Diana achieved an 11% drop in vessel operating expenses for the first quarter. Not only did Diana record a profit during a quarter marked by crumbling market fundamentals, but the company managed to improve upon the prior-year mark by 15% to take home $33.1 million.
Diana Shipping continues to shine as the ultimate relative safe haven amid a sea of dry bulk uncertainty, due to a solid relative profitability profile, an astute executive team with its finger correctly on the pulse of the ongoing dry bulk industry crisis, and a pristine balance sheet that positions the company for transformative, opportunistic growth near the eventual bottom of the business cycle. As a long-term investor, patiently awaiting the inevitable reversal of this extended downward spiral, I routinely feel as though I am catching a falling knife. With steadfast positions in Diana Shipping and Baltic Trading, however -- plus a miniscule, ultra-high-risk, and ultra-speculative bet on a miraculous turnaround for DryShips (Nasdaq: DRYS ) -- I trust the resulting wounds will prove limited in both scale and duration.