Should You Beware of "Tourist" Investors in DryShips, Diana Shipping, and Other Dry Bulk Shippers?

A crowded trade often means trouble when reality hits.

Mar 14, 2014 at 6:31PM

The number one thing it seems that dry shippers such as DryShips (NASDAQ:DRYS), Diana Shipping (NYSE:DSX), Safe Bulkers (NYSE:SB), Baltic Trading Limited (NYSE:BALT), and Star Bulk Carriers (NASDAQ:SBLK) need to worry about is the global supply of ships. According to Diana Shipping, volumes of commodities should ship in increasing numbers and market rates will continue to escalate as long as "newbuilding orders do not flood the markets with vessels." According to one expert, that's exactly what is happening... and if he's right, the consequences could be devastating.

Here comes the order book
It makes intuitive sense. It seems like every dry shipping company, analyst, and expert expects rates to increase to highly profitable levels. Given that, why wouldn't each and every dry shipping company that has the means not want to order more ships and take advantage of the profits? As with most things in this world, whenever there is a opportunity for profit, the supply side naturally rises are companies rush to get a piece of it.

According to hedge fund manager and shipping expert Jay Goodgal, both the global fleet and order book are growing at a fast pace. For the month of January alone, the world fleet grew by 8 million deadweight tons or 1.1%, an increase of 116 vessels of varying size.

Meanwhile, the ships on order grew from 133.3 million deadweight tons to 139 million deadweight tons, a 4.3% increase in that single month. This represents a total of 1,707 vessels, a growth rate of 3.1%. The larger increase in deadweight tons versus the number of vessels is due to the shift toward ordering of larger and larger vessels.

Contrarian warnings
It's always a good idea to pay attention to contrarians, when evaluating your investment thesis. Goodgal refers to this order book growth as "a harbinger of challenges to come for the shipping market." He believes that analysts, ship owners, and investors are all ignoring this vital reality. The Chinese economy is slowing and will lead to lower shipping rates, according to Goodgal.

The Chinese economy has been propped up by loose monetary policies, and Goodgal insists that this cannot continue. Between the state of the Chinese economy and a huge order book to be unloaded over the next three years, he expects the rate environment to be under pressure through 2017 at least.

Goodgal asks rhetorically, "The question is, at what point do analysts and shipowners/investors come to this realization that the market will languish for years to come? And finally, what will be the action taken by those investors who entered the shipping markets, but who are really 'tourists'?" According to Goodgal, the market is voting positively for dry shipping, but the market is wrong. At some point the market will wake up, and the answer to his second rhetorical question should become obvious: Those "tourist" investors will sell relentlessly, possibly even overshooting to the downside.

Foolish final thoughts
Watch rates. Watch the order book. Watch ship deliveries. Watch the Chinese economy. Goodgal may be right, or he might not be. Armed with his information, though, you can look ahead for these warning signs. If Goodgal proves to be correct and the "tourist" investors do in fact punish various dry shipping stocks, it could make for some excellent buying opportunities for Fools on the sidelines with a long-term and patient horizon.

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Nickey Friedman has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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