If recent history is any indication, America’s killing of the head of Iran’s military, Qassem Suleimani, will drive already strong tanker rates even higher. Fallout could be “like putting a blowtorch to a pile of oily rags,” said Evercore ISI analyst Jon Chappell.
Spot rates for very large crude carriers (VLCCs; tankers that carry 2 million barrels of crude oil) currently average $96,600 per day, more than double the rates of a year ago.
When Middle East incidents occurred in 2019, they came at times when oil-trade volumes were seasonally lower and the supply-demand balance wasn’t as tight.
Chappell emphasized the “timing of this event,” noting that there is currently “a much stronger starting point” for rates compared to prior incidents in the Middle East.
“Following the attack on ships in the Strait of Hormuz in June, spot VLCC rates doubled from seasonal lows of less than $10,000 per day to a bit more than $20,000 per day, and in the aftermath of the mid-September attack on Saudi infrastructure, VLCC rates doubled again from $25,000/day to $50,000/day,” he noted.
Positive rate drivers
Tanker owners are likely to seek higher compensation to transit the Strait of Hormuz in light of Iran’s vow to pursue “harsh retaliation” following Suleimani’s killing on Jan. 2.
Randy Giveans, the shipping analyst at investment bank Jefferies (NYSE: JEF), told FreightWaves, “We expect the most recent attack will lead to further instability in the region, resulting in higher risk premiums and hazard pay for tankers operating in the Middle East.”
Simultaneously, refineries and other oil shippers are likely to accelerate imports to hedge against a future scenario in which traffic through the Strait is restricted and oil prices skyrocket.
According to Giveans, “We expect the increased tensions in the region to spur Asian and India buyers to further diversify their crude purchases, much of which would be from far-away locations such as the U.S., Brazil and the North Sea, further increasing ton-mile demand [tanker demand measured in volume multiplied by distance].”
Another bullish point is that current events directly coincide with the implementation deadline of the IMO 2020 rule, which requires ships not equipped with exhaust-gas scrubbers to switch to more expensive 0.1-0.5% sulfur fuel.
In a recent interview with FreightWaves, International Seaways (NYSE: INSW) CEO Lois Zabrocky reported that IMO 2020-compliant fuel is available, but owners are experiencing refueling delays – an inefficiency that is bolstering rates.
When the crude-tanker market peaked on Oct. 11, 2019, VLCC spot rates “on subjects” exceeded $300,000 per day (when ships are on subjects, they are undergoing an approval process before a final deal is struck). Ultimately, none of those deals were finalized. The highest rates to actually be achieved in the first half of October were around $190,000 per day, according to Trigve Munthe, co-CEO of DHT Holdings (NYSE: DHT).
Munthe explained that the crude-tanker market found a ceiling at that point, above which spot contracts were no longer feasible because transport costs would negate a refiner’s margin.
With that in mind, current VLCC rates theoretically have room to double if the Middle East situation escalates further.
Downside risk
Middle East tensions are a tailwind for tanker rates – unless there’s an actual blockage of oil exports, which transforms the situation into a headwind because it reduces the number of tons in the ton-mile equation.
The downside risks include Iranian retaliation that lowers Iraqi output, or an actual closure of the Strait of Hormuz.
Regarding the Iraq threat, Clarksons Platou Securities analyst Frode Mørkedal commented, “Iraq is the fourth-largest oil producer in the world at 4.6 million barrels per day [b/d], of which roughly 3.8 million b/d is exported. Should there be a disruption to Iraqi production, there is an expected 3.0 million b/d of spare capacity within OPEC ex-Iraq. However, it is difficult to assess whether this capacity could or would reach the markets, depending on the severity of any conflict.”
Military action blocking ship traffic through the Strait of Hormuz would have negative ton-mile consequences to the extent other global sources could not increase exports to compensate, not just for crude and product tankers, but also for liquefied natural gas and liquefied petroleum gas carriers.
Consequences for shipping stocks
As of mid-day Jan. 3, Iran had yet to retaliate. Barring the worst-case scenarios where cargo volumes at sea are actually reduced, current tensions are expected to be positive for tanker stocks.
According to Chappell, “Market reaction could supercharge tanker rates and have a similar impact on equities.” He highlighted potential stock upside for Euronav (NYSE: EURN), DHT and Frontline (NYSE: FRO).
The initial stock market reaction bears this out. In morning trading on Jan. 3, the Dow fell by 200 points, whereas stock of Teekay Tankers (NYSE: TNK), Frontline and DHT rose 3% and Nordic American Tankers (NYSE: NAT) shares rose 5%.
Given expectations for higher fuel cost – Brent initially rose 4% – most transport stocks were down. The Dow Transport index was down in the low single-digits, weighed by airline equities.
A higher crude price would ultimately increase the cost of IMO 2020-compliant marine fuel. In segments where the IMO 2020 compliance costs are proving difficult to pass along to shippers – such as in container shipping and dry bulk shipping – a rise in crude pricing would exacerbate the existing cost risk. Most dry bulk stocks were down in the low single digits in morning trading Jan. 3. In the container segment, Maersk’s Copenhagen-listed stock was down 2%. More FreightWaves/American Shipper articles by Greg Miller
