Ship owners have very short memories, there can be no doubt about that.
For evidence, we need only look at recent ordering activity that has seen a huge boost to the orderbook, diversification into new trades and the entrance of hot money into an industry considered a toxic investment only a few years ago.
So we can conclude that investors have short memories too and despite the risks of funding a sector that is not just cyclical but highly volatile, they continue to like what shipping offers them.
That has created a situation where even the owners that warned against a flood of new orders as recently as last year have themselves been unable to resist the temptation to jump in.
And while the new money has been splashed on the wet and dry bulk sectors, gas and offshore, containership owners too, continue to set records in size of new ships as well as ordering in smaller sizes for niche trades.Yet, unlike their bulk rivals, the lines and their investors seem unlikely to enjoy the same kind of upside, at least in the short term.
Time and again, lines have sought to impose rate rises through general rate increases and various surcharges.
Time and again they have been unable to make them stick.Container carriers have spent the last couple of years facing an uncomfortable dilemma: scale up or lose the ability to compete.
Recent newbuilding orders and the establishment of the P3 Alliance could see the problems further exacerbated, as those without sufficient economies of scale will find themselves at a price disadvantage.
The supply of new vessels has negatively impacted freight rates to the detriment of the sector as a whole but the lines have also had to contend with increased rate volatility which has harmed both their balance sheets and customer relationships.
With Chinese New Year currently in full swing, box rates to North West Europe have declined a further USD 18 to USD 1,580 per TEU, according to broker Freight Investor Services.
This decline can be attributed to the holiday, which tends to limit activity in the market and the pace of decline has slowed slightly from its recent falls.But carriers will be concerned that post Chinese New Year, rates will once again begin to decline more rapidly.
With fundamentals likely to be weaker, any rate increases planned will be difficult to implement or maintain, the broker argues.
This uncertainty in rates continues to burden the carriers’ financials and over the recent weeks we have seen the industry post a string of horrific losses. Yet there is a contradiction at the heart of the liner trades that continues to perplex shippers and logistics companies – while the lines carry on the apparent contradiction.The carriers’ own financial reports make clear that stabilising rates is a priority, especially on the battered NWE route.
One liner major’s annual report suggests that the inability to rely on future freight rates means the industry cannot guarantee future performance. The carrier’s annual report says that “the Group endeavours to generate stable operating revenue that is not affected by overall changes in the shipping market. The Group no longer entrusts its fate to freight rates.”
But despite statements of this kind and the continued volatility in the container market, carriers are largely failing to hedge their future freight rate risk, in the process exposing themselves to highly volatile cash flows. Those with an active risk management policy are able to secure a proportion of their spot income at levels which will greatly reduce cash flow volatility, whilst also providing certainty to future revenue.
The container FFA forward curve provides carriers with the opportunity to secure their average spot income for the remainder of the year at around $1,230 TEU - materially higher than the average rate of USD 1,090 TEU reported by the SCFI for 2013.The alternative appears to be to ignore their own advice – to shareholders and management – and repeat the strategy of recent years: play the market and ride the rollercoaster.Volatility is bad news for carriers, who are unable to efficiently manage their freight risk in the physical market. One might argue that a mix of fixed price contracts and spot business offers an effective hedge, however financially it offers little protection.
In a highly competitive industry, carriers cannot individually determine the fixed rates available to shippers, which are in fact set by market fundamentals. In practice this means annual contracts are regularly offered well below break-even.And as long as carriers are unable to control spot rates, their financials are at the mercy of the market. As the last three years have shown, this cannot be relied upon to deliver a satisfactory return for shareholders.
The problem is that the carriers continue to behave as if the spot market is an irrelevance, rather than a fundamental component of profitability alongside contracting and surcharging.So in a not-too fanciful scenario, a CFO sits down with his team and decides upon a budgeted level per TEU for the coming financial year. The CFO then enters into a transaction that immediately secures the income on a proportion of spot business for the next 12 months, minimising the impact of future rate swings.
It sounds like a no brainer when rate volatility has had such an impact on both short and long term financials.The tools to this - secure their future spot income regardless of market fundamentals – in the form of index-linked contracts and container swaps, have existed for several years.But even if the lines themselves are unwilling to pursue such a strategy, then why are their investors, who presumably look for long term share price appreciation as a source of return, not prepared to ask them the obvious question?
For evidence, we need only look at recent ordering activity that has seen a huge boost to the orderbook, diversification into new trades and the entrance of hot money into an industry considered a toxic investment only a few years ago.
So we can conclude that investors have short memories too and despite the risks of funding a sector that is not just cyclical but highly volatile, they continue to like what shipping offers them.
That has created a situation where even the owners that warned against a flood of new orders as recently as last year have themselves been unable to resist the temptation to jump in.
And while the new money has been splashed on the wet and dry bulk sectors, gas and offshore, containership owners too, continue to set records in size of new ships as well as ordering in smaller sizes for niche trades.Yet, unlike their bulk rivals, the lines and their investors seem unlikely to enjoy the same kind of upside, at least in the short term.
Time and again, lines have sought to impose rate rises through general rate increases and various surcharges.
Time and again they have been unable to make them stick.Container carriers have spent the last couple of years facing an uncomfortable dilemma: scale up or lose the ability to compete.
Recent newbuilding orders and the establishment of the P3 Alliance could see the problems further exacerbated, as those without sufficient economies of scale will find themselves at a price disadvantage.
The supply of new vessels has negatively impacted freight rates to the detriment of the sector as a whole but the lines have also had to contend with increased rate volatility which has harmed both their balance sheets and customer relationships.
With Chinese New Year currently in full swing, box rates to North West Europe have declined a further USD 18 to USD 1,580 per TEU, according to broker Freight Investor Services.
This decline can be attributed to the holiday, which tends to limit activity in the market and the pace of decline has slowed slightly from its recent falls.But carriers will be concerned that post Chinese New Year, rates will once again begin to decline more rapidly.
With fundamentals likely to be weaker, any rate increases planned will be difficult to implement or maintain, the broker argues.
This uncertainty in rates continues to burden the carriers’ financials and over the recent weeks we have seen the industry post a string of horrific losses. Yet there is a contradiction at the heart of the liner trades that continues to perplex shippers and logistics companies – while the lines carry on the apparent contradiction.The carriers’ own financial reports make clear that stabilising rates is a priority, especially on the battered NWE route.
One liner major’s annual report suggests that the inability to rely on future freight rates means the industry cannot guarantee future performance. The carrier’s annual report says that “the Group endeavours to generate stable operating revenue that is not affected by overall changes in the shipping market. The Group no longer entrusts its fate to freight rates.”
But despite statements of this kind and the continued volatility in the container market, carriers are largely failing to hedge their future freight rate risk, in the process exposing themselves to highly volatile cash flows. Those with an active risk management policy are able to secure a proportion of their spot income at levels which will greatly reduce cash flow volatility, whilst also providing certainty to future revenue.
The container FFA forward curve provides carriers with the opportunity to secure their average spot income for the remainder of the year at around $1,230 TEU - materially higher than the average rate of USD 1,090 TEU reported by the SCFI for 2013.The alternative appears to be to ignore their own advice – to shareholders and management – and repeat the strategy of recent years: play the market and ride the rollercoaster.Volatility is bad news for carriers, who are unable to efficiently manage their freight risk in the physical market. One might argue that a mix of fixed price contracts and spot business offers an effective hedge, however financially it offers little protection.
In a highly competitive industry, carriers cannot individually determine the fixed rates available to shippers, which are in fact set by market fundamentals. In practice this means annual contracts are regularly offered well below break-even.And as long as carriers are unable to control spot rates, their financials are at the mercy of the market. As the last three years have shown, this cannot be relied upon to deliver a satisfactory return for shareholders.
The problem is that the carriers continue to behave as if the spot market is an irrelevance, rather than a fundamental component of profitability alongside contracting and surcharging.So in a not-too fanciful scenario, a CFO sits down with his team and decides upon a budgeted level per TEU for the coming financial year. The CFO then enters into a transaction that immediately secures the income on a proportion of spot business for the next 12 months, minimising the impact of future rate swings.
It sounds like a no brainer when rate volatility has had such an impact on both short and long term financials.The tools to this - secure their future spot income regardless of market fundamentals – in the form of index-linked contracts and container swaps, have existed for several years.But even if the lines themselves are unwilling to pursue such a strategy, then why are their investors, who presumably look for long term share price appreciation as a source of return, not prepared to ask them the obvious question?