Ten reasons why dry bulk will fly

We have become more confident that the dry bulk rally has legs for the rest ofthe year. As freight rates rise, asset values will rise and help lift the valuations of drybulk shares. Investors should take advantage of the current summer drift in the Baltic Dry Index to accumulate dry bulk stocks.

Here are 10 reasons.

• Reason 1: Crude steel production in China is expected to rise 8.2% to hit 540m tonnes as the economic stimulus measures take effect.

• Reason 2: China is expected to continue relying on imported iron ore for the majority of its consumption because the current price premium of imported iron ore over domestic sources is not excessive given the higher quality.

• Reason 3: China’s iron ore inventories at ports are low relative to its increased consumption of imported ore, despite testing previous highs on an absolute basis.

• Reason 4: Brazilian iron ore exports may take off in 2H09 and increase tonne mile demand. With Australian production already at close to full capacity, any further increase in global iron ore demand could draw additional shipments from Brazil and increase tonne-mile demand, thereby boosting dry bulk shipping rates.

• Reason 5: Europe, Russia, Japan and the US will restart blast furnaces as apparent steel demand is higher than the current level of production.

• Reason 6: Growth of property starts in China has finally gone into positive territory, suggesting that demand for construction steel is set to expand.

• Reason 7: China’s demand for and production of flat steel products should also be boosted by continuing expansion of automobile sales and the recent positive trend observed for sales of white goods.

• Reason 8: Steel inventories have declined across the globe while steel prices are rising. These are powerful incentives for steel mills to restart production.

• Reason 9: China and Japan may see higher coal imports in 2H since Chinese electricity production growth is back in the black while Japan’s coal imports should start to recover with the expected expansion of industrial production in 2H.

• Reason 10: The idle fleet of bulkers currently stands at just 5% of the total fleet,with the vast majority being ships more than 20 years old. This means that the idle fleet of modern tonnage is just 1%.

• Maintain OVERWEIGHT on dry bulk shipping. We expect this current half year to be very strong for dry bulk shipping for the above reasons. The BDI recently closed at 2,623 points. We expect it to average 4,000 points in 2H09, implying at least 50%upside to the current level and almost double the 1H average of 2,084 points.

• We have OUTPERFORM calls on STXPO, Pacific Basin, PSL and TTA, as valuations remain attractive with upside to the sum-of-parts market value of theirfleets. However, Maybulk remains an UNDERPERFORM on valuation grounds. With the exception of Maybulk, we have raised target prices for all the stocks as we factor in the recovery of second-hand vessel values.