Sunday, August 23, 2009

Signal from the Baltic Dry Index

Mark to Market | Manas Chakravarty and Mobis Philipose

Among all the optimism about a global recovery and higher liquidity, one negative indicator that has been highlighted by analysts recently is the Baltic Dry

Index (BDI), which tracks the international shipping rates of various dry bulk cargoes. BDI is often taken as a proxy for commodity demand and has a close relationship with the Reuters/Jefferies CRB Index, a commodity index. It is also usually correlated with stock market indicators such as the US Standard and Poor’s 500 Index.

The chart shows the recent trends in BDI, the RJ/CRB Index and the MSCI Asia ex-Japan Index, all of them rebased from 1 June 2008. Notice the close correlation between BDI and the MSCI Asia ex-Japan Index, although that has not always held true. For instance, there was a huge rally in BDI in the first half of 2008. On the other hand, it did forecast the slump in equities during the second half of last year.

Interestingly, BDI also started moving up in February this year, presaging the subsequent rally in the MSCI Asia ex-Japan Index. As the chart shows, BDI went up sharply between April and June, but has been falling steadily since then, although the MSCI Asia ex-Japan Index has rallied. It’s this divergence that analysts are worried about.

From its peak of 4,291 on 3 June, BDI fell to 2,752 on 14 August, a drop of 36%, while the MSCI Asia ex-Japan Index went up 10% over the same period. BDI went up sharply in the first half of 2009 primarily on demand from China, with some reports alleging that the country was taking the opportunity to import and stockpile cheap commodities. But with loan growth falling off sharply in July and with exports not picking up, there’s a limit to the amount of commodities China can stockpile.

The fear that the Chinese stimulus package may be tapering off has hit not just BDI, but also the Chinese stock market, with the Shanghai Composite Index falling 5.8% on Monday. That hit commodity prices, leading to a 6.15% drop in the Bombay Stock Exchange Metals Index.

At least for metal stocks, this could be the writing on the wall.