Maritime Strategies’ David Bull reports the rapid increase in rates while record numbers of LNG carriers have been delivered
The US shale gas revolution has changed the dynamics of the LNG shipping market. “The main impact, apart from adding substantial volumes of LNG to the global market, arises from the unusual structure of sales contracts that bring a large degree of flexibility to the trading of LNG,” Maritime Strategies International senior gas analyst David Bull told LNG World Shipping. “We have seen this from Sabine Pass and this will continue at Cove Point and Corpus Christi as they ramp-up. Most of the contracts have no destination clauses – meaning that vessels can trade wherever there is demand. This has added greatly to the diversity of trading patterns, adding to tonne-miles and ship demand.”
Mr Bull said the expanded Panama Canal has enabled LNG carriers from the US to trade with Asia. “Such has been the demand for the new Neo-Panamax locks that the Canal Authority has increased the number of slots to eight per day – for any type of vessel, not just LNG,” he said. “They have also lifted the daylight only restrictions on LNG carriers through the new locks and lifted the restrictions prohibiting LNG vessels passing each other in different directions.”
One likely spot in Asia for US LNG exports is China, but that has been slowed by the trade spate between the two nations.
“Trade hasn’t stopped,” said Mr Bull, “but the ramp-up we saw during 2017 and early 2018 has reversed, falling to just single cargoes per month in the latter part of 2018.” The US Energy Information Administration reported 7,269M ft3 of natural gas exported to China in October 2018, down from 24,588M ft3 in October 2017.
“The cargoes that could have gone to China from the US were able to find alternative destinations in other Asian and European markets,” he said. “Conversely, China increased its imports from the Middle East and southeast Asia, while also being able to tap in to the surge in exports from Australia. Currently, we see the net impact on vessel demand from the trade war to have been largely neutral.”
Mr Bull questioned how long the trade dispute would last. “We have assumed that China will be a major source of demand for US cargoes in the medium term and if this does not materialise then a redrawing of the current pattern of trade will be necessary.”
US-China trade aside, Mr Bull is very upbeat on the LNG shipping market as a whole.
He pointed out that 2018 saw the most rapid appreciation in spot LNG carrier rates since 2011. Spot rates hit a seasonal trough in April at approximately US$40,000/day, rising to an unseasonable US$90,000/day mid-year, before accelerating during September and more than doubling by November. During December 2018, rates fell slightly, but were still reminiscent of the level seen at the last peak in 2012 at close to US$180,000 to US$200,000/day.
As a result of the increased spot charter rates, MSI DFDE one-year time charter rates averaged $108,000/day during Q4 2018 – an increase of 33% compared to Q3 2018, and a 90% increase compared to the same period in Q4 2017.
Mr Bull said the rapid increase in rates has developed while record numbers of LNG carriers have been delivered, which has shown that despite the growth in fleet capacity, this has been barely sufficient to match the expansion of current global LNG production output.
Indeed, MSI’s calculated annual employment rate for the LNG sector – though rising sharply in 2018 – does not fully capture the scale of the rise in spot rates last year.
To attempt to understand this process better MSI has developed a quarterly measure of market balances based on cargo flows and fleet growth by quarter, using the same methodology it uses in its annual analysis.
The surge in trade and employment clearly drove the rates up in the second half of 2017, but the latest surge is not fully captured in the demand trends.
“This may, of course, be due to a lack of timeliness of trade data,” Mr Bull pointed out, “but it also suggests that the spot market has been driven by other temporary demand factors, that have depleted the spot available tonnage during the latter months of the year, resulting in a shortage of prompt and correctly positioned vessels in both the Pacific and Atlantic basins.”
One explanation, according to Mr Bull, is that anticipation of the usual rise in winter demand within the northern hemisphere led charterers to secure vessel capacity forward of this period, adding to the current shortage of vessels and rising freight rates.
Lowering transportation costs
Transportation costs for LNG have been reduced by a number of technological developments
LNG shipping companies have also leveraged new technologies, new vessel designs and economies of scale to dramatically lower transportation costs to about 20% less than two decades ago.
“Transportation costs for LNG have been reduced by a number of technological developments,” said Mr Bull, “including containment system design, with lower boil-off rates, increased efficiency in propulsion systems with the arrival of ME-GI and X-DF dual-fuel engines, continued developments within hull design, and the gradual impact of vessels getting larger. Carrying capacity has grown from 155,000 m3 a decade ago to 177,000 m3 currently. All these improvements have helped reduce transportation costs.”
Mr Bull also pointed out that newbuilding prices “remain on a par with those of 20 years ago: the average price for a DFDE vessel in 1999 was $180M. The development of the shipbuilding industry led some Chinese yards to join the exclusive club of LNG carrier builders, bringing additional competition to the established South Korea and Japanese yards, but the impact has been limited and ultimately prices are driven by trends in the broader shipbuilding industry.”
Pressure on rates sustained
Looking ahead, Mr Bull said near-term pressure on rates is likely to be maintained. Substantial new volumes of LNG continue to enter the market. Estimates suggest that around 22M tonnes of new production capacity has been added to the market this year, with 8.5M tonnes originating from the US, 6.8M tonnes from Russia and 5.9M tonnes from Australia.
During 2019, an additional 28.8M tonnes is scheduled to come on-stream, followed by a further 18.6M tonnes in 2020. In total, approximately 70.0M tonnes of new liquefaction capacity is forecast to come to market through to 2020 – representing a 25% increase in overall global exports of LNG compared to recent volumes. All these projects will require additional tonnage and provide valuable tonne-miles for the LNGC fleet.
The LNGC fleet currently comprises 80.7M m3 (527 vessels) and the orderbook currently stands at 22.2M m3 (132 vessels) with delivery dates up until 2022. This will grow fleet capacity by about 28%, and this will be added to by additional newbuilding orders over the period. Therefore, the fundamentals would suggest that the fleet will ultimately increase at a faster rate compared to the liquefaction capacity.
However, Mr Bull said this will emphatically not be the case in the near term, where the net result is increasing vessel earnings. Utilisation rates for the fleet are forecast to increase to approximately 87% by 2022, resulting in annual average one-year time charter rates for DFDE vessels forecast to peak at over US$102,000/day during 2020.
While it is understood that the spot-market can fluctuate quickly and support rapid rate hikes, the impact on longer-term charters – and in this instance the one-year time charter rate – is more subdued as owners and charterers take a longer view on the market.
However, it is believed there will be a knock-on effect from the spot market to the longer-term charter market over the next two years, raising rates as new tonnage enters the fleet and is utilised for new LNG production facilities.
After this time frame, there is a distinct drop in the number of new liquefaction projects scheduled for construction, resulting in lower demand for large-scale vessel additions and falling charter-rates.
“LNG remains a complex business and volatility in the supply demand balance and spot and short-term charter rates will remain a feature,” said Mr Bull. “In this context, arguably the biggest challenge for shipowners will be rising demand for shorter contracts. The traditional 20- to 25-year contracts are still there, but the question is when they come up for renewal, what will be the duration; will they be 5, 7, or 10 years, or even shorter than this? The past decade has seen the LNG sector constantly develop and adapt to new conditions, but this is one of the most important as long-term charters were considered the back-bone of the sector. The shift to shorter contracts particularly impacts the financing of vessels – this will require new and innovative solutions from owners and financiers and an increased willingness to assess market risk,” he concluded.