What's new
　　Dry bulk spot freight rates were lower than expected due to the sluggish demand since 4Q22.
　　Comments
　　Elasticity of time-charter equivalent (TCE) rates has weakened since 4Q22, which may weigh on short-term profit. Dry bulk market has been falling since 4Q22 due to the resurgence of COVID-19, the Russia-Ukraine conflict, and interest rate hikes in the US. For grain: The water levels of the Mississippi River in the US is now rising from record lows but remain low for the decade. Barge traffic was less affected but still needs time to return to normal levels. For coal: Floods weighed on shipments from Australia's New South Wales. This, coupled with high natural gas inventories in Europe, may have an impact on coal shipments. For iron ore: Given the temporary pressure on demand and poor profitability, steel mills increased inspections and repairs, resulting in a decline in the capacity utilization rates. For instance, the average daily hot metal output fell by 20,000t WoW to 2.25mnt last week. Overall, we see downside in dry bulk freight rates in the short term as supply and demand remain weak.
　　Infrastructure construction may accelerate in China once COVID-19 subsides; we suggest watching policy changes. We expect the dry bulk freight rates to rebound in 2023. First, as the economic impact of COVID-19 fades, global trade demand for dry bulk is gradually returning to normal. Second, demand for non-ferrous metals such as nickel ore and bauxite, and commodities such as timbers are growing as China's industrial upgrading continues, infrastructure investment accelerates, and high-end manufacturing industries grow faster. According to Clarksons, maritime trade volume growth of iron ore may decrease by 0.2% YoY in 2023, coal and grain may increase 2.1% and 4.2% YoY, while minor commodities may remain flat. As for dry bulk, Clarksons believe the shipping demand growth may increase from negative 0.5% in 2022 to 1.4%.
　　Long-term supply and demand conditions in the dry bulk market continue to improve. We note that there have been concerns about demand in the market, but the supply of the dry bulk fleet continues to improve, laying the groundwork for a steady improvement. The ratio of dry bulk carrier orders on hand and fleet size fell 0.22ppt MoM to 6.89% as of November 2022, a 27-year low. We believe that until new technologies mature, International Maritime Organization’s carbon emission reduction-related regulations (including Energy Efficiency Existing Ship Index and Carbon Intensity Indicator, which will come into force in 2023) and tight shipyard capacity would further dampen the willingness of small bulk operators to place ship orders. We believe shipping capacity will decline further with the tightening of environmental regulations as the proportion of old small vessels (old vessels aged over 20 years represented 16% and 12% of Handysize and Supramax fleets as of October 2022) is high. Furthermore, supply may be further constrained as existing fleets need to upgrade or operate at lower speeds to meet environmental protection requirements.
　　Financials and valuation
　　Given the falling freight rates brought by a decline in dry bulk demand, we cut our 2022 and 2023 net profit forecasts by 12.4% and 21.8% to US$710mn and US$602mn. The stock is trading at 2.2x 2022e and 2.5x 2023e P/E. Maintain OUTPERFORM. We cut our TP by 14.3% to HK$2.92 (2.8x 2022e and 3.2x 2023e P/E), offering 28.6% upside. The firm’s dividend yield in 1H22 reached 15%. If we assume a conservative full-year dividend rate of 50%, the 2022 dividend yield could reach 23.2%, by referencing the 1H22 dividend yield of 35.0%.
　　Risks
　　Weakening dry bulk demand due to economic recession.