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May 2, 2024

The Lasting Impact of the Red Sea Diversions on Shipping Costs

The Lasting Impact of the Red Sea Diversions on Shipping Costs

The world of global trade experienced a seismic shift in December 2023 due to the unexpected Red Sea diversions. Originally triggered by sudden capacity reductions, exacerbated by increased demand leading up to the Lunar New Year, and parallel complications in the Panama Canal, this confluence of events sparked a significant rise in shipping rates. Four months later, the situation has not stabilized as expected. Despite predictions of a market where supply would continue to outstrip demand, Asia-to-Europe trade routes continue to suffer from unusually high rates. This begs the question: why have these elevated costs persisted?

In April, shipping rates from Asia to Europe were around $2,500 higher than in previous years (except COVID years). More so, an additional increase of $1,000 was announced by carriers for the first half of May and additional increases of $1,000 have started coming in already for the second half of May. This enduring high cost exceeds the estimated financial burdens to carriers caused by the diversions, hinting at deeper market transformations.

Besides a few network adjustments following the “new normal” sailing South of the Cape of Good Hope (COGH), the capacity fluctuations are telling: the Far East to North Europe route saw an 18% increase in weekly capacity from March to April 2024, only to drop by 6% from April to May. Specific weeks showed even starker reductions, suggesting a push to clear the backlog, yet the anticipated drop in prices has not followed.

High Rates Persist: Looking Under the Hood

Why then, against all odds, do these high rates stick? Three key factors shed light on this perplexing situation:

  • The demand from Asia remains relatively robust and demand is historically higher in May due to the Labor Day holidays in China. However, the overall growth forecast for 2024 continues to be moderate. Notably, Germany's slowing economy suggests that increased demand is not the primary driver behind the sustained high rates.
  • Blank sailings have traditionally been used to control shipping rates. After changing shipping routes, fewer blank sailings were needed because more ships were required for the extended routes. From March to May 2024, the rate of blank sailings decreased from 30% to about 12.4%, showing an adaptation to new conditions. However, with many ships operating at full capacity, this creates some challenges. It means that even though there are fewer canceled voyages, the remaining ones are still strategically used to keep shipping rates high.
  • Several shipping companies have noted that network operations are beginning to stabilize, and freight forwarders have anticipated declines in rates. However, upon closer examination, several factors are currently affecting schedules, which might suggest a future structural impact: Initially, transit times from Asia to Northern Europe were expected to increase by nine days, but in reality, they currently often extend by 15-16 days. This discrepancy is mainly due to weather-related delays and the timing of berthing schedules at ports. A ship typically has a designated time slot for entry; if it misses this slot, it must wait for the next available one. This issue is particularly acute in major ports that serve numerous trade routes, adding significant complexity and ongoing disruptions to schedules.

With the prolonged schedules, some carriers have managed to introduce additional vessels into their fleets. This strategy was particularly advantageous for a few carriers during the peak period in January and early February, as they were able to immediately deploy more ships from Asia and benefit from the high-rate environment. It begs the question of whether carriers have the capacity to strategically place vessels where and when they're needed.

The fact is that the capacity on Asia to Europe routes has seen a consistent decrease from the pre-diversion figures, now operating at about 20% less capacity departing Asia weekly. This reduction, compounded by ongoing equipment issues and weather delays has made it significantly easier for carriers to manage capacity, but on the other hand, it’s become challenging to manage the network reliability and schedules. The big question hence becomes: are blank sailings representing strategic carrier choices to keep rates elevated or a deeper structural issue that we will continue to witness as long as vessels divert?

Structural Challenges: What It Means for Shippers

Looking into May, the number of blank sailings - even with a typical demand slowdown - seems too aggressive to only suggest a strategic blank sailing program and hence could represent a more structural issue. With demand remaining relatively stable and the general capacity reduction, we should be expecting the elevated rate levels to persist and to be exaggerated at times of peaks in demand or if structural schedule challenges remain - or like we see in May: a combination of both.

For shippers, this means bracing for continued delays and longer lead times. The disruptions, while initially thought to be a temporary hiccup, now appear to be part of a new, more challenging reality. Shippers must now plan for regular interruptions and higher costs, particularly during peak periods.

In conclusion, the persistent high shipping rates on the Asia to Europe routes are not merely a symptom of temporary market fluctuations but a signal of deeper, structural challenges. As these trade lanes adjust to the new realities of post-Red Sea diversions, all market participants must recalibrate their expectations and strategies in this altered landscape.

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