By David Prattent

MarketWatch moved his attention away from his glass of Rioja and turned his mind to the Baltic Dry Index.  Well don’t you?  The index measures the cost of shipping raw materials over a number of different routes around the world.  Why is called the Baltic Dry Index when it has no association with the Baltic Sea?  It’s named after the Baltic Exchange, located in London, which provides shipping and freight information for the international shipping market.

Unlike lettuces, which can be conveniently flown around the world and allows people to agonise about air miles and food, raw materials such as oil, iron ore and agricultural produce still require a ship, and usually a large one at that, to do the heavy lifting.

The world’s shipping fleet is, at any point in time, largely fixed in capacity terms.  I mean, you can’t just nip into your local dealer and come away with a supertanker.  When demand for goods is high, prices to ship them also tend to be high.  It’s the old supply demand thing.  Conversely, when demand is low, shipping prices reduce as companies compete to carry and at least earn some money.

I can hear you by now, sighing sadly.  The old boy has lost it at last and has started raving about ships and a weird index.  Except it’s not so strange.  The index is not important just for shipping information.  It also tells us something about the way the global economy is likely to behave in the future.  These sort of indicators, which can help us to understand the direction of events, are called lead indicators because they point the way.

This is because the world is dependent on raw materials to provide energy, steel, food and a range of other products.  If economies are slowing, demand for raw materials starts to decrease.  So consider this chart of the index over the last twelve months:

Pic Vba Marketwatch Article Image Ab15 7 2020

This is monthly summary and some days were higher than the monthly trend.  Note the peak in August.  You have to go back six years to match that performance.  But then it’s been downhill all the way and the index is now around the lowest it’s been for five years.

So is this caused by the coronavirus?  No.  This index pointed the way down when the United States started its tariff campaign against China.  The virus turned up only a couple of months ago and has made an emerging bad situation even worse.

Over the past few days, world stock markets have seen some pretty savage movements both down and up.  The “up” bit may have more to do with the prospect of interest rate cuts than reality.  Many experts have been flagging a global slowdown but the markets have been ignoring it and powering on.  Why?  Well, part of it is because there is so much money available thanks to loose monetary policy it really doesn’t have anywhere else to go.  It’s also part of a pack mentality; we all wait to see who makes the first move and then dive in like crazy to follow.  Honestly, it’s really quite alarming that the fate of so much money, trillions and trillions of the stuff, are governed either by algorithms written by humans, or by panic caused by humans.  MarketWatch is reminded of the overview of technology; better machines developed by humans to avoid the mistakes of idiots while the universe is focussed on producing better idiots.

Last year, we witnessed a classic slowdown; as demand slowed, the supply of raw materials followed suit.  Not pleasant, possibly (not probably) recessionary, and definitely needing some sort of response, as we discussed in our monetary versus fiscal policy articles.  And that’s why the Australian dollar has dropped in value pretty much across the board.  Investors prefer safer havens, and we do not fit the bill.

But what the virus has done, from an economic standpoint, is something highly unusual.  It has attacked both the supply-side and the demand-side of economies at the same time.  Given that demand was weak already, it has thrown the ultimate wild card into the mix at precisely the wrong moment.

Plenty of experts are giving dire forecasts of what happens next.  For us in Australia, it’s going to be all about Asia, particularly China.  Recently the shipping price of iron ore, which held up quite well last year, has started to slide downwards, pointing to a reduction of demand in China where most of our stuff goes.  Our tourism and education sectors are being hit.

MarketWatch is not fond of guessing games so is not going to be drawn on where we go next.  Right now, for most of us, it’s better to sit tight and try to focus on something other than viruses or economies.  To help you in this MarketWatch recommends the Deep River Shiraz from McLaren Vale.  It’s not disloyal to like reds from somewhere other the WA’s south.  It’s for comparison purposes you understand.

PS : Shortly after writing this, the Reserve Bank of Australia lowered interest rates by 0.25% to a record low of 0.5%.  Apart from rewarding investors and making home loans a bit cheaper, it’s hard to see how this addresses the fundamental problem of the slowing of demand over many months, when policy should have acted at the time, and the shorter-term impact on both supply and demand.  And then the Saudis got all macho with oil prices and stock markets got the jitters.  We now face three unrelated economic issues all with their own playbook.  It’s hardly surprising confusion is the order of the day.

Do nothing.  Watch this space.

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