Shipping Futures Power Top ETF Performer

With hindsight in mind, the smartest reopening play for ETF investors seeking returns in the first half of 2021 wasn’t in the S&P 500, flashy tech stocks, or airline and hotel-focused funds. The best play so far this year is in the ships carrying coal, steel and corn across the ocean.

The Breakwave Dry Bulk Shipping ETF (BDRY) has produced an astonishing 281.2% return year-to-date so far, beating some of the most successful leveraged funds to be the highest-returning fund in the first half of the year. The second-best nonleveraged performer in the first half was the First Trust Natural Gas ETF (FCG), with 86.9%.

For comparison’s sake, the SPDR S&P 500 ETF Trust (SPY) has given investors 16.8% back in the same period.

Courtesy of StockCharts.com

So how did a niche transportation fund with just under $97 million in assets end up doing laps around the S&P 500 at the same time that index hit more than 25 record-high closes?

Global Consumption Drives Chartering Costs

Dry-bulk shipping covers the universe of ships that carry raw materials across the ocean, ranging from industrial products like iron ore to agricultural commodities. These ships are distinct from the tankers that transport oil and liquefied natural gas—and separate still from the containerized ships that move shelf-ready products.

BDRY tracks the futures market for dry-bulk freight contracts, which in turn reflects the expected price of admission to get a load of goods onto a vessel in the next several months.

While these trades occur between a network of specialized brokers and not a central exchange, the index underlying BDRY shows that dry freight futures were at a relative low point heading into 2021.

Ben Nolan, a managing director focusing on transportation industry research at Stifel, told ETF.com that prices were at “unsustainable lows” last year. That set up this year’s price takeoff through a combination of a rise in global demand for bulk commodities of all kinds as the global economy recovers from COVID-19 with governments offering cheap credit and stimulus to its citizens.

The J.P. Morgan Global Manufacturing Purchasing Manager Index reached a 10-year high in June as manufacturers predicted higher outputs over the next 12 months. That in turn drives up the cost for industrial materials like metals, along with coal to power factories. The International Energy Agency expects coal demand to swing up 4.5% in 2021 after a decline of 4% last year, driven primarily by factories in Asia.

“What's happened is, there has been probably a 5% or so marginal increase of the need for transportation of goods, and ultimately, the consumption of goods of all varieties, and really, there's almost nothing that is not higher,” he said. “But that is against a backdrop of (4-6%) demand growth against maybe 1% or 2% supply growth. And that has been sufficient to really tighten the market.”

That’s not all that’s driven up shipping prices in the past few months. A drought in South America is driving grain traders in China to buy more U.S. product to supply its livestock industry, and the Suez Canal blockage in late March disrupted global shipping times.

If that’s not enough, there was one more macro event to consider: The spread of COVID-19 likely forced ship crews into lengthy quarantine periods when traveling internationally.

Don’t Pile In Just Yet

The chance to more than double an investment sounds like a siren call, but there are plenty of reasons that investors shouldn’t be looking to buy into BDRY as soon as possible.

It’s a thinly traded fund with an average daily volume of about $14.5 million and a 60-day spread of 0.33%, so liquidity may factor into its inclusion in a short-term strategy.

Data courtesy Bloomberg

The fund is structured as a commodity pool, so long-term holders will have to pay gains taxes even if they don’t sell their shares, and deal with a separate K-1 form from the Internal Revenue Service come tax time.

And on top of the additional taxes, long-term holders will pay a massive 3.76% expense ratio to hold the fund’s shares. Only four other ETFs carry higher fee schedules, according to ETF.com data provider FactSet.

Supply & Demand Mismatch

Although BDRY has steep costs, it could prove well worth it for the investor willing to take the tax and management fee hits over several months.

The process of building freight ships takes years, leaving the supply side in dry-bulk shipping unable to respond quickly to demand factors.

Nolan said the next set of freighter ships likely won’t be delivered until 2023 at the earliest, while higher commodities prices driven by manufacturing and a broader global recovery could leave shipping rates climbing.

“We're already short ships, and so it's potentially a powder keg,” he said.

Contact Dan Mika at [email protected], and follow him on Twitter