Further to the proposed changes to the Baltic Dry Index detailed in Baltic Exchange Circular 51/17, whilst we assess feedback received from the market, we have decided to push back the date of any potential change to the end of January 2018. 

Much of this feedback has centred around some key issues and therefore we have put together the following FAQs which will further clarify the reasons behind the proposed changes and how this would affect the BDI product overall. 

Q1: Will the omission of the BHSI mean that the new BDI will misrepresent the market. Do you believe that the index can be complete without handysize vessels included? 

The Baltic Exchange has been publishing the Baltic Dry Index (BDI) in various forms since 1985 when it started life as the Baltic Freight Index (BFI). Like any aggregate index, its composition has changed over the years to reflect changes to the underlying market. In our case this means ensuring that the BDI broadly reflects dry bulk global trading patterns. Over the course of its 32 year history, the BDI has not represented all sectors of the dry bulk market at all times. The handy vessel contribution to the then BFI was lowered from an initial 20% and between 1986 and 1992 contributed 15%, then 7.5% before being completely dropped in 1993. Handysize contributions were only included again after a 13 year absence in 2007. 

Q2: What industry consultation has been undertaken regarding the proposed change to the BDI? 

Any proposed change to a Baltic Exchange index is subject to extremely vigorous scrutiny.  Prior to proposing changes to the BDI, the Baltic Exchange consulted with shipping analysts and asked them to  consider the contribution of the various dry bulk vessel types to the dry bulk cargo market.

The analysts looked at:

a. Fleet composition (DWT numbers)
b. Vessel utilisation (factoring in ballasting)
c. Total cargo moved, based on import/export reports and AIS data 

The above returned an average which we rounded to 40% (Capesize); 25% (Panamax); 25% (Supramax); 10% (Handysize). This weighting has been almost universally accepted to be a correct representation of today's market. It is clear that the current composition of the BDI (25/25/25/25) is not a true representation of the volumes of cargo being carried by each vessel sector. We compared the current BDI (25/25/25/25) with the proposed 40/25/25/10 and this returned an R² of 0.9876. Statistically speaking, this is good correlation.  
When we looked at the liquidity of FFAs in the different sectors, the handy sector is the least liquid and we therefore examined whether or not there would be any significant mathematical difference were the handysize vessels to be excluded from the 40/25/25/10 BDI and a 40/30/30 composition used. Interestingly the R² of the 40/30/30 compared to the current BDI returned 0.9886, this means that the 40/30/30 split is actually slightly better than the 40/25/25/10 split.
Accordingly we recommended (in Circular 51/17) removing the contribution of the handysize time charter average from the BDI and increasing the Cape weighting by 15% and the weightings of the panamax and supramax by 5%. The contributing timecharter averages to the BDI would therefore be: 40% Capesize, 30% Panamax and 30% Supramax.

Q3: What has been the reaction of the market to the announcement last year?

The FFA market has been very supportive of the proposed changes as have the various Baltic advisory councils. However, the main feedback has come from the handysize market. Some incorrectly assumed that the Baltic would be ceasing its reporting of the handysize market and our Handysize Index. There are no plans to cease publishing the Handysize Index – we are actually undertaking a separate process to update this index. Others have a more emotional response to the proposed exclusion of handysize vessel contributions. As handysize market professionals, they feel that their sector needs to be represented in any index that purports to be a bellwether of the dry bulk industry.  It is important however to understand that the proposed changes potentially allow companies to develop a range of products which will enable the BDI to be traded, whilst ensuring that the index’s ability to track the overall dry bulk market remains unaffected. The BDI is not currently being used to settle any contracts – it is simply a very well-known index which gives people outside of the shipping markets a snap-shot view of the performance of the dry bulk shipping market. 

Q4: What provisions are in place to ensure that the new product does not become outdated, given that the distribution of cargoes among vessel types changes over time? 

The recent review of the BDI is part of our ongoing work to bring all of our indices up to date. Each and every Baltic Exchange index is under regular review and the process is governed by the Baltic Index Council.
The Baltic Exchange does not rule out handysize routes contributing to the BDI again in the future: it is possible that the development of the Baltic’s new 38,000 dwt Handysize Index will change the landscape over time.

Q5: Some handysize owners have expressed concern about the exclusion and how it may cause problems for investors. Do you have any provisions in place to counter this difficulty?

We are unaware of any company benchmarking their performance to the BDI. Companies do however benchmark their performance to indices which match their fleet. Handysize owners use the Handysize Index and the Handysize timecharter average. Where an owner is involved in different sizes they benchmark those to the relevant indices. 

Q6: The suggestion is that the exclusion of the handysize ships will lead to the index being more volatile. Is this a worry for the Baltic? 

Removing the handysize element potentially makes the BDI more interesting for traders who will interpret the changes and market movements in their own way.

This message is a follow-up to Circular 51/17, which can be viewed here.

Any questions or comments should be directed to balticbroker@balticexchange.com