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Russell Barling

With the price for a barrel of oil reaching five-month lows in the past week, investors returned to the fuel-dependent transport sector in the hope of finding undervalued stocks.

The first to feel the warmth of shifting investor sentiment were,  as ever, premium airlines such as Cathay Pacific Airways and Singapore Airlines, for which fuel expenditure had grown to represent about 30 per cent of operating costs in the first half.

The market's response was expected, given that with demand for business and leisure class travel booming, soaring fuel costs have been  just about the only predictable negative hanging over the industry for the past two years.

Cathay's shares  have rebounded 32 per cent since falling to their 52-week nadir of HK$11.95, most  of which was clawed back in the past month.

Lower oil prices also breathed life this week into the mainland aviation sector's heaviest loss-makers, China Eastern and China Southern - which combined were 2.5 billion yuan in the red in the first half.

Shipping stocks have been slower  to benefit, even  allowing for the fact shipping lines attribute on average proportionately less than half of their overall operating costs to fuel expenditure  compared with their airline counterparts.

Like the aviation industry, the container shipping sector has benefited from robust demand for transport services for the past few years.

Unlike aviation, shipping lines appear to have shot themselves in the foot by rampant vessel ordering, making them  more vulnerable to oversupply or any weakening in demand.

Industry watchers have warned for the past year about the potential earnings fallout from the delivery of new ships. About 100,000 20-foot equivalent units (teu) of capacity is expected to enter the container trade each month up to  2008, according to the latest Citigroup report.

Even so, unexpectedly high global economic growth, the prospect of higher ship prices as steel costs escalated and a strengthened South Korean won (Korea is the world's leading shipbuilder), sent an unexpected number of carriers back to the shipyards recently.

'The major threat to containers is an order book that has refused to shrink for two years running,' Citigroup analyst Charles de Trenck said in the report. 'The order book re-accelerated in mid-2006 and could head back to the 60-per-cent-of-fleet level' seen last year.

With more than  half of the global fleet in new capacity expected to pour out of yards in Japan, Korea and China before 2010, not even lower fuel prices are tempting investors to embrace an industry that historically lacks supply-side discipline.

There may be even more temptation on the horizon for the profligate shipping lines.

Asian shipyards are adding capacity - in China, whole new yards are being built - at an alarming rate.

According to state figures, the annual shipbuilding capacity of yards in China  is expected to reach 30 million deadweight tonnes (dwt) by 2010, a 114 per cent increase on present output.

In perspective, Hyundai Heavy Industries,  the world's biggest yard, released 9.2 million dwt in ships from its Korean yards in 2004 or 15 per cent of world output.

Chinese shipyards, overwhelmingly funded by the state coffers, will add a Hyundai Heavy  to the industry by early 2009.

On top of the expansion from new infrastructure, China's fledgling yards are expected to increase output via productivity gains, similar to those seen in  Korea in the late 1990s after their building boom had settled.

According to shipbuilding database Worldyards.com, greater production efficiency will add 5 per cent to China's production each year.

Worldyards raises the spectre that the shipbuilding industry could add 100 million dwt in building capacity overall by 2010, far exceeding demand for new vessels.

What that inevitably seems to point to is falling vessel prices, again tempting the shipping lines to expand their fleets.

If they do,  it will take more than lower oil prices to swing investor sentiment back in their favour.



Airlines first to feel the warmth of a five-month low in oil prices