Market Fundamentals

MARKET FUNDAMENTALS TURN

Container shipping lines now face a markedly different market situation. Felicity Landon highlights the findings of a recent Drewry Webinar on this key subject

How far will rates fall, where will they settle and how long will the profits from a ‘super cycle bonanza’ keep carriers going through tougher times ahead?

Drewry’s recent container market outlook webinar raised difficult questions as the industry cycle turns once again.

“The current state of the market is undeniable. Arrows are pointing down wherever you look, whether it is spot rates that have fallen 30 weeks in a row or charter rates that have dropped by around two-thirds since their peak – or, indeed, slackening port and trade volumes in most regions,” said Simon Heaney, Senior Manager, Container Research, and Editor of Drewry’s quarterly container forecast report.

Not long after Drewry announced the beginning of the end of the carriers’ bull run in June, carriers began to announce even more inflated profits for the second quarter, setting a new quarterly record with estimated industry-wide earnings before interest and tax of US$84bn, with an average EBIT margin of nearly 55 per cent, he noted.

“Just to show how wild the ride has been over the past two years, since the second quarter 2020 the industry’s rolling EBIT profit is running at over $400bn and counting.” Drewry believes that is more than the container industry has made in the entirety of 50-plus years of containerisation, he said.

It is predicting EBIT profit for the industry of $275bn in 2022, reducing to ‘only’ US$100bn in 2023 – “but financials are, of course, lagging indicators.”

SHORT-TERM OUTLOOK

Looking at the short-term outlook, Heaney said he was focusing not on the timing of the market shift but rather how carriers are going to manage the obvious decline. “Calling the market was the easy part, but the harder forecast challenge is to predict how far rates will fall and where they will settle.”

The task has been made harder by a weaker outlook for port handling, he added. For 2022, Drewry has downgraded the port handling outlook from 2.3 to 1.5 per cent growth, and it is predicting 1.9 per cent for 2023, “on the back of heavily downgraded GDP predictions”.

“There is a palpable sense that things are falling apart,” said Heaney, with the world lurching from a once-in-acentury global health crisis straight into an economic crisis with barely a pause. With energy and food costs rampant, consumers are likely to prioritise basics. “Carriers cannot exert any influence on demand; carriers have no choice but to focus on one thing they can control – supply. The problem is there is simply a lot of it.”

First, latent capacity that was ‘lost’ due to the supply chain and port congestion issues is going to return to the market as bottlenecks ease. Second, shipowners cashing in on the windfalls of the past two years have spent a lot of these profits on new container ships.

“We see about 2.6mTEU of newbuild capacity expected to arrive next year. We have said for a long time, these twin capacity streams are going to shift the market from being under to oversupplied.”

In a world where port congestion magically clears up overnight, productivity returns to 2019 levels and there is unabated delivery of newbuildings ordered, zero scrapping and zero idling, capacity overall would soar by 34 per cent year on year, according to Drewry’s calculations. “We know this situation is a virtual impossibility, but we can view it as a maximum possibility.”

8 The container

shipping market has turned with oversupply now in prospect

However, he said after years of almost zero scrapping in the sector, “we believe it is going to come back with quite a bang in 2023. Our forecast is for about 600,000TEU of scrapping next year, approximately 2.5 per cent of the end-2022 cellular fleet and close to the record of 660,000TEU in 2016.”

CONGESTION STILL A FACTOR

Port congestion may be lessening but it remains a significant factor, with bottlenecks stripping seven per cent of capacity from the market – and on top of this, labour disputes and strikes are gaining frequency and bringing disruption.

The idle fleet is expected to rise to nearly 6 per cent next year, “passing on some of the pain from carriers to independent owners”. There is also a window of opportunity for more ships to go into drydock for repairs and maintenance. This will reduce some capacity on a sporadic basis, but we have yet to see a shift to long-term anchoring, said Heaney. “Rates are still going to be attractive enough to lure some operators to continue running their ships.”

As for newbuild orders, until recently carriers wanted to get their hands on new capacity at the earliest possible opportunity – now it would be much more prudent to kick the can down the road as much as possible, said Heaney.

The speed with which the market has turned has led Drewry to believe that carriers are going to ‘fight back’ with more proactive capacity adjustments than previously envisaged.

“In our analysis, we argue that following consolidation and alliance restructuring, carriers are much better placed to face these danger years than they ever were before,” said Heaney. “But are they going to pull the right capacity levers to promise a soft landing?

“The fact is that carriers have not yet halted the precipitous drop in spot market rates, but rates are still profitable even after diminished levels. Some are predicting a much harder landing and we may be giving carriers too much credit that they changed their spots. But I don’t think you can say this is a classic case of container market boom and bust.”

Even if the market does perform worse than it did in 2019, carriers are not going to lose anything close to the US$400bn they have banked in the past two years, he said: “If they lose a little bit of money in 2023-24, frankly it is a trade-off – they will take that every single time.”

Even if the market does perform worse than it did in 2019, carriers are not going to ‘‘ lose anything close to the US$400bn they have banked in the past two years

As the market returns to overcapacity in 2023, carriers will be looking for ways to reduce capacity, said Heaney, but he warned that any stringent capacity reducing measures would be liable to challenge by regulators, who are much more watchful of carriers and ‘any whiff’ that they are curbing potential trade and doing damage.

“There is a way for carriers to keep the market in an undersupplied position but we think that is going to be a step too far for regulators and therefore less likely to happen.”

The bust to come may be typical of previous cycles, or even worse, but the boom was not ordinary – it was supersonic, said Heaney. He feared that carriers may have waited too long to stop the rot. “Carriers have definitely ceded bargaining power to ascendant shippers and they have harmed their potential return to the next round of longterm contracts.

“I think ultimately, carriers put short-term greed and opportunism ahead of a long-term profitability vision – it is understandable, but a fairly short-term view. The group think amongst carriers has been to milk the profits for as long as possible before starting to cut back on capacity when rates sink close to a level that is going to be acceptable in the long run.”

Having said that, Drewry’s view is that the industry is going to do enough to keep vessel utilisation at levels that will support rates at a higher level than they were pre-pandemic. “We can’t expect to see the type of rates of 2021-22 again, unless there is another pandemic or another shock that no one wants, but there is a path available to them to make substantially more money than they did in the past. We are betting that they will do what is in their best interests.”

8 Port congestion is

still a factor with it stripping seven per cent of available capacity from the market according to Drewry