Why DryShips, Inc. Popped More Than 7% Yesterday

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Although we don't believe in timing the market or panicking over market movements, we do like to keep an eye on big changes -- just in case they're material to our investing thesis.

What: After trading in the red most of the day, shares of DryShips  reversed in the final 20 minutes on heavy volume Wednesday, managing to close up 7.43% around the same time as a broad market rally in the shares of most of the publicly traded dry shippers.

So what: Interestingly, the market value of its 78.3 million shares of Ocean Rig UDW continue to lose ground yet DryShips ended in the black. More often, especially lately, the two trade in the same direction since so much of DryShips' stock is dependent on the value of its Ocean Rig shares.

This suggests the rally was based on confidence in the dry shipping sector, or at least a swarm of bargain hunters attempting to pick a bottom and drive shares up. It's also possible there was some profit-taking from short-sellers as there doesn't appear to be any obvious news unless the market was just then getting around to digesting a report out from Rio Tinto the night before.

Rio put out a report Tuesday evening that cited record iron ore production and even higher shipments, literally shipping more iron ore than it is producing. This action has caused some market participants to speculate that Rio, the second largest iron ore mining company, is deliberately trying to flood the market and somewhat artificially keep prices down, possibly to put smaller miners out of business.

Now what: If true, that is potentially good news for the shipping market since the most influential thing affecting global shipping rates these days is how much iron ore is shipped to China. The logic by many executives and analysts goes like this: Many of China's iron ore mines have extraction costs far higher than the iron ore is now even worth. If iron ore stays cheap or gets cheaper, the iron ore-hungry China will be forced to import it a lot more rather than tap its own domestic sources.

Higher shipments would lead to more shipping demand. More demand would lead to higher rates and better fundamentals for companies like DryShips. It makes sense, and some bottom-pickers may have driven shares of the dry shipping stocks on speculation. Believe it or not, even though 70% of the world's iron ore high-seas shipments go to China, the country's actual needs dwarf that.

As a refresher course from this article I wrote back in March, in 2013 China imported 820 tons but it also produced 1,424 tons inside its borders. If foreign miners could finally take a decent chunk of the "market share" from domestic production, there is a potential for a big boom in shipping. Imagine if, for example, just 300 tons of domestic production came off line and had to be replaced with imports. That would be a 37% increase in shipping demand that would likely make shipping rates go gangbusters.

So do you buy or sell based on Wednesday's pop? Personally the speculative nature required to invest in DryShips is too rich for my blood, but I'll be watching the iron ore market both inside and outside China to see what develops and hopefully get an early heads-up either way.

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The article Why DryShips, Inc. Popped More Than 7% Yesterday originally appeared on Fool.com.

Nickey Friedman has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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