B. Outlook on freight rates
There are number of reasons that suggest that freight rates will remain higher of the coming decade than they were during the decade pre-COVID.
1. The COVID related challenges will take time to be resolved
Equipment shortages and waiting ships in Los Angeles and Yantian, on top of the earlier delays in Suez, are the immediate cause of the current high freight rates. The COVID-19 pandemic had already earlier led to containers being left in the wrong places, and still today the slow-down in ports and intermodal connections makes a container spend about 20% longer in the system. For the time being, this is not getting better but rather worse.
Over the last decades, year after year, ports have improved their efficiency and all available data suggests that container ports recorded a long-term trend towards lower turnaround times. In times of the COVID-19 pandemic, however, things turned for the worse.
Between the first semester of 2019 (i.e. pre-COVID) and the first semester of 2021, the global median time a containership spent in port increased by 11.8%, from 16.3 hours in S1 2019 to 18.6 hours in S1 2021. While we had hoped that things would start to improve during the year, unfortunately latest data indicates that times went up even further during the second half of 2021, reaching a median time of 19.9 hours in S2 of 2021 – i.e. 19.8% higher than in S1 of 2019.
The COVID 19 pandemic has led to slower processes in ports and intermodal connections, resulting from lock-downs, port personnel on sick-leave, and frictions caused by the need for social distancing.
The time a ship spends in port is determined by a number of variables, including the efficiency of operation and procedures of government agencies. For example, in some ports, operations still only start after Customs and other officials have physically visited the ship for some paperwork.
To improve turnaround times, the solutions are not rocket science. Empirically, infrastructure investments, private sector participation in the operations, digitalization, and in general trade and transport facilitation solutions have all shown to help. But a lot of these investments take time.
2. Carriers have learned not to lose out any longer
Although the current order book is growing again, it takes time to build these ships. Container ships may grow a little more in size, but in my view a max TEU will be reached soon. Today’s largest container ships are of the same order of magnitude as the largest oil tankers and dry bulk carriers, which have reached their maximum several years ago. Once marginal costs are no longer below long-term average costs, the cut-throat rate war should not resume.
3. Fewer carriers than before
We see a continued process of consolidation. For decades, ships got bigger, while competition and choices for shippers went down. Although carriers within the same Alliances still compete for price, the options to manage capacities and port calls has improved, from the carriers’ perspective.
For more than a decade, liner shipping companies have confronted very low freight rates. In order to survive (except for Hanjin), unit costs needed to be reduced. To reduce unit costs, carriers invested in ever bigger (economies of scale) and newer (more fuel efficient) ships. The problem was that the older ships were not scrapped, and the overcapacity remained, or rather, got worse.
4. Decarbonization of shipping: Internalizing the external costs
UNCTAD’s recent comprehensive impact assessment of the IMO short-term decarbonization measure confirmed that the measure will lead to slightly higher freight rates and slightly lower speeds. While these increases in maritime logistics costs are small when compared to the daily volatility of freight rates, they will be relevant for many years to come, until we have achieved the energy transition in shipping. Note: these cost increases do not really mean additional costs – it just means that (finally) we are moving to a situation where in future the polluter also pays, rather than only those who have so far paid the price for climate change.
5. Will the ships be built?
Trade keeps growing, while ships are slowing down. With ships waiting to unload in Los Angeles and Yantian (short-term) and going slower to reduce CO2 emissions (medium- and long-term), we will need more ships. And these ships need to be built. At the same time, confronted with an energy transition and uncertainty about in what ships to invest, ship owners may wait a little longer than usual before placing a new order. The demand/ supply balance may tilt further towards unmet demand for container carrying capacity. And as we just saw during the covid pandemic, a little shortage of containers or ships can have a high impact on freight rates.
6. The risk premium
As freight rates have become more volatile, in any financial market, investors would demand a higher rate of return on investment than in times of stable revenues. On the clients’ side, too, shippers who are confronted with delays and a shortage of capacity will be willing to pay more, especially for longer term contract rates, to ensure that they get access to the transport capacity they require.