Poten: VLCC Rates Hit Unprecedented Levels Amidst Mideast Conflict
Tanker owners should take advantage of the current market, which may never happen again, says Poten & Partners
Participants in the tanker industry are no strangers to market cycles combined with extreme volatility. However, even seasoned veterans are looking at current developments in the market and scratching their heads. What is happening is truly unprecedented. It begs the question: What is driving this market and, more importantly, how sustainable is it? In this Tanker Opinion we will focus on the market for Very Large Crude Carriers (VLCCs), the most volatile and visible tanker segment.
Just to provide a little context, VLCCs are large crude oil tankers, with a carrying capacity of two million barrels, They are the main vehicle for long-haul seaborne crude oil transportation. As per September 1st, the global VLCC fleet consisted of 928 vessels, with an average age of 13 years. VLCC earnings are notoriously volatile, driven by supply and demand dynamics in a highly competitive market.
Chart 1 shows VLCC Time Charter Equivalent earnings over the last 15+ years (monthly averages in $/day). In July 2008, at the tail-end of the shipping “super cycle”, VLCC rates hit almost $200,000/day. On the back of China's extraordinary growth, shipping markets were exuberant, and owners had lined up at Asian shipyards to order more capacity. The orderbook ballooned. In late 2008, the global financial crisis hit, sending the world economy into a tailspin, taking the shipping markets with it. By mid-2009, tanker rates had dropped below $20,000/day.
The market has gone through a few more cycles since then. The next time the market closed in on $200,000/day was in April 2020, at the onset of the Covid-19 pandemic. Saudi Arabia flooded the oil markets after Russia refused to make the deep production cuts needed to address the demand destruction resulting from the pandemic lockdowns. The oil glut that followed quicky filled onshore tanks and raised demand for floating storage, boosting VLCC rates. This rate boom was also followed by a long period of depressed earnings. A recovery was triggered by Russia’s war on Ukraine, but that benefited Aframaxes/Suezmaxes more than VLCCs.
This brings us to the current rate spike. The war in the Middle East and the subsequent closure of the Strait of Hormuz, recently followed by significant restrictions transiting the Bab el-Mandeb Strait, have pushed VLCC rates to levels that we have never seen before. Earnings on the benchmark AG-Far East route averaged $600,000/day in August and reached more than $800,000/day in September to date.
It should be noted that these rates are for voyages originating within the Arabian Gulf. Due to the hazards associated with traversing the Strait of Hormuz, only a few owners are willing to take that risk, leading to sky-high rates. However, VLCC rates on other key routes are very high as well. Vessels loading in the Gulf of Oman, just outside the Strait of Hormuz, can earn $450,000/day. Even VLCCs that stay far way from the conflict zone can earn exceptional returns: $380,000/day for West Africa – Far East and $275,000/day for U.S. Gulf to Asia.
Not surprisingly, the exceptional spot rate environment has had an impact on time-charter rates and vessel values as well. Values for modern secondhand vessels are much higher than prices for newbuildings. A 5-year-old VLCC (if you can find one) will set you back $158 million, while you can order a new vessel for $129 million. The reason for the discrepancy is simple: You can employ a newly acquired vessel immediately in the red-hot spot market, while you have to wait several years before a newbuilding is delivered from the shipyard. And while you know what a vessel can earn in the market today, the future rate environment is much more uncertain. If history tells us anything, it is that periods of exceptional rates are usually followed by periods of low earnings, especially if the high earnings have spurred an ordering bonanza (Chart 2).
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So, what’s next for the VLCC market? Opinions differ. Some people look at the unusual set of circumstances that triggered the current rate bonanza and with an eye toward the high orderbook (40% of the current fleet), they see another bust following this boom within a few years. Others are more sanguine considering the age profile of the fleet and the large contingent of sanctioned vessels that could be sidelined once the geopolitical conflicts are resolved. On top of that, restocking and a diversification trend away from the Middle East could create a higher ton-mile demand baseline. In the meantime, owners should take advantage of the current market. This may never happen again!
This post appears courtesy of Poten & Partners.
The opinions expressed herein are the author's and not necessarily those of The Maritime Executive.
