Baltic Dry Index: A Leading Economic Indicator

"People don't book freighters unless they have cargo to move."

What is the Baltic Dry Index and why do economists and stock markets follow it?

Most directly, the index measures the demand for shipping capacity versus the supply of dry bulk carriers. The demand for shipping varies with the amount of cargo that is being traded or moved in various markets.

The supply of cargo ships is generally both tight and inelastic — it takes two years to build a new ship, and ships are too expensive to take out of circulation the way airlines park unneeded jets in the California desert. So marginal increases in demand can push the index higher quickly, and marginal demand decreases can cause the index to fall rapidly. So the index indirectly measures global supply and demand for the commodities shipped aboard dry bulk carriers, such as building materials, coal, crude oil, metallic ores, and grains.

Because dry bulk primarily consists of materials that function as raw material inputs to the production of intermediate or finished goods, such as concrete, electricity, steel, and food, the index is also seen as an efficient economic indicator of future economic growth and production. The BDI is termed a leading economic indicator because it predicts future economic activity.

Because it provides "an assessment of the price of moving the major raw materials by sea," according to The Baltic, "... it provides both a rare window into the highly opaque and diffuse shipping market and an accurate barometer of the volume of global trade -- devoid of political and other agenda concerns."

Other leading economic indicators — which serve as the foundation of important political and economic decisions - are often massaged to serve narrow interests, and subjected to adjustments or revisions. Payroll or employment numbers are often estimates; consumer confidence appears to measure nothing more than sentiment, often with no link to actual consumer behavior; gross national product figures are consistently revised, and so forth. Unlike stock and bond markets, the BDI "is totally devoid of speculative content," says Howard Simons, an economist and columnist at TheStreet.com. "People don't book freighters unless they have cargo to move."

MP: As the chart above shows, the Baltic Dry Index has almost doubled since its bottom in early December, and is at the highest level October 21, 2008.