Alison Dyer, associate partner, EY Bermuda
Bermuda’s reinsurers play an important role in supporting the world’s marine insurance market. Alison Dyer of EY Bermuda describes how the container ship market has rebounded after a turbulent period, largely driven by COVID-19.
There is no doubt that seaborne trade was severely challenged and affected by COVID-19. The pandemic has affected charter/lease rates, vessel schedules and port call timings, the availability of ships and container boxes, and seafarer welfare—in addition to the normal pressures exerted on the industry.
What are the commercial effects across the main commoditised sectors of tankers, containers, and dry bulk? Has the industry fundamentally or structurally changed, and is it having to make wholesale amendments to cope and survive?
The current market is clearly stratified along the lines of class and freight type. There are some new green shoots in the cruise industry—although that sector was largely devastated by ongoing pandemic fallout.
Tankers, too, have been struggling, with decreased demand for refined petroleum products such as diesel and gas. The return to work is only just beginning with any sort of consistency, and large-scale travel remains comparatively muted compared to pre-pandemic levels.
When I was preparing this article, the containership market had rebounded in spectacular fashion, with surging demand, record freight rates on most routes and sharply increased charter rates climbing to historic levels.
The demand for vessels continued unabated and sources of capital were willing to engage. The market data at that time wasn’t particularly surprising as returns remained stable and uncorrelated to the general financial markets. New, non-traditional players had emerged in this space who were hoping to diversify their existing portfolio allocations at a time when rates were high.
Many counterparties were also seeking to engage, from liner companies and freight forwarders to retail and manufacturing giants hoping to fix their own vessels. Ultimately, alpha was and is an important temptation.
“The current market is clearly stratified along the lines of class and freight type.” Alison Dyer, EY Bermuda
On the rebound
In line with increased charter rates, containership asset prices rebounded in spectacular fashion from late 2020 to early September 2021, with no signs that the market was set to cool off. Particularly interesting was the continued demand for older vessel trades which carried the surge forward, while certain industry analysts discussed rates that had more than doubled since mid-2020 (the highest for some time).
The rebound of the container market was linked initially to consumer demand. This was being fuelled by lockdowns and working from home, as disposable incomes switched from leisure activities to building/fitting out home offices, DIY projects, and consumer goods.
More recently, there has been a focus on inventory restocking as companies begin the transition to a form of stepped reopening. Ultimately, though, the relative volumes are neither in the doldrums of the early stages of the pandemic nor the catastrophic lows that were predicted by some analysists in late 2019.
It is an interesting cyclical form of consumer demand that feeds into trending, in which demand is delineated by region, trade lanes and relative effect of the pandemic and just how self-sufficient a country actually is. Unsurprisingly, Asia was one of the first regions to pick up demand, which resulted in substantial increases in eastbound trans-Pacific trade lanes. More recently, the industry has also seen generalised increases in the westbound-to-Europe trade lanes. Although it is probably fair to say that mainline trade decreased across 2020, it appears that overall volumes on all trade lanes (mainline and non-mainline) increased in the later part of 2020.
The question is whether demand will normalise back to pre-2019 levels or continue to show a relative dislocation. Given the fundamentals around robust consumer demand, gross domestic product growth, continuing port congestion, and logistical logjams with port workers and lorry drivers, it is anticipated that the charter/lease rates will continue to support asset prices.
This in turn should attract an interested pool of new investors to the generally large uncorrelated returns from the financial market that are currently achievable.
That is not to say that an increase in demand isn’t impacted by the supply-chain fluctuations predominately seen in jurisdictions which are biased towards the manufacturing of goods and the supply of raw materials. Such jurisdictions continue to be impacted by the pandemic, which has obvious knock-on effects for companies and their ability to supply warehouses with consumer goods further along the supply chain.
We have all seen striking pictures of the terrible port congestion that is currently plaguing the US and elsewhere, dealing quite a blow to consumer efforts to obtain materials and goods. It has reached the point where larger players are chartering vessels directly to move brand-specific materials, in the hope of gaining some control of the supply-chain quagmire. How they will jump the queues of ships waiting to discharge remains to be seen.
From the perspective of the financial markets, banks (typically European) are having to evolve their approach to lending as changes to liquidity requirements arise. Although these are not unique to shipping, they have had a muting effect on lending availability to certain players. It is interesting that non-levered buyers are the relative beneficiaries of any challenges with bank lending, which has, over the last year or two, drawn out and developed further non-traditional sources of capital investment on both a levered and unlevered investment basis.
Some of that investment is a direct result of the relative buoyancy of the containership market, which provides a relatively stable, short-term source of alpha with instances of downside protection to scrap on the back end. It bakes diversification into a portfolio without driving the risk out of the general tolerance levels of well-funded, sophisticated players.
These structures still use Bermuda, particularly as a domicile of choice for structuring investments—especially when the investor is familiar with the jurisdiction through existing entities or otherwise. The investments are attractive to large commercial insurers, for example, or the larger private equity funds and investment managers that have the available capital on their balance sheet—notably investments in older vessels, which shorten the relative time that capital is tied up.
“The question is whether demand will normalise back to pre-2019 levels or continue to show a relative dislocation.”
Has the industry fundamentally changed, and is it having to make wholesale amendments to cope? The commercial effects (particularly with regard to the containership market) were very encouraging earlier in 2021, although they are languishing somewhat at the moment.
In one sense, the industry and traditional players have had to learn to converse with non-traditional sources of capital and background. The language and risk tolerance—and how the industry has “typically” functioned—have forced managers to evolve if they want to deal with non-traditional sources of capital.
During early October’s Golden Week holiday in China the container freight market cooled off significantly, with some routes dropping from $18,000 per FEU (40-foot container equivalent) to $11,000 per FEU (China to the US West Coast) on the back of concerns over energy and the rolling power cuts affecting production. It remains to be seen whether the decrease is temporary.
There is no clear answer as to when rates may pick up again, although a best guess would be after the Chinese New Year. What is encouraging for players in this space is the continued interest in the market, which continues to produce returns.
Although these are somewhat muted at this point in the cycle, they remain uncorrelated to the financial markets.
The views reflected in this article are those of the authors and do not necessarily reflect the views of EY Bermuda or other members of the global EY organisation.
Alison Dyer is an associate partner in the EY law practice at EY Bermuda. She can be reached at email@example.com
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