In his recent American Shipper article “Lines firing blanks ahead of Asia-Europe contracting season,” Mike King analyzed one of the chronic episodes of rate and capacity turmoil. Indeed, while the shipping industry has changed dramatically in recent years, the market for ocean freight services remains exposed to the inherently dynamic nature of demand and fixed nature of supply that results in oscillating vessel load factors and freight rate volatility.
This fundamental supply and demand mismatch causes significant structural inefficiency that adversely impacts all market participants. Freight rate volatility remains high. Phantom bookings often amount to 20 to 25% of a vessel’s total loadings. Technology providers have been addressing the lack of efficiency in quoting and booking processes by creating faster and more transparent execution. But should we now expect electronic platforms to meet the spot shippers’ needs for secure freight capacity and predictable rates and service levels and the carriers’ need for high load factor predictable revenue and opportunities to differentiate their services?
The structural mismatch between supply and demand in ocean freight exacerbates the distortion on the spot market even outside the usual peak seasons.
The situation is complex. Ocean carriers’ vessel procurement and network planning activities aim to bring long-term stability to the trade’s service patterns, based on which efficient supply chains can be planned. Once vessels are deployed, however, the ocean carriers’ only option to adjust supply to meet changes in demand is difficult and often suboptimal: adjusting a vessel’s port time or port rotation, blanking a sailing or, in the extreme event, laying up ships to take out a complete string.
Shippers’ demand patterns display huge, short-term variations throughout any given year and regular seasonality plays an ever-smaller role in the overall variability. External factors such as political instability, exchange rate fluctuations, changing trade policies and weather cause further swings in demand. The monthly demand on the Asia-West Coast North America trade fluctuated by, on average, a standard deviation of about 10% over the past four years. During the same time, the monthly supply on the Asia-West Coast North America trade only fluctuated by, on average, a standard deviation of 3.9%, according to Drewry.
The vicious cycle is here to stay. When volatile demand meets static liner services, vessel load factors oscillate. Monthly load factors on the Asia-West Coast North America trade fluctuated by, on average, a standard deviation of 8.6% over the past four years. In parallel, weekly spot rates on the Asia-West Coast North America trade fluctuated by, on average, a standard deviation of 25.5% during the same period. Such price variation is because ocean carriers often drop freight rates close to the marginal cost of moving containers in order to cover their high fixed costs.
In these circumstances the spot freight market deprives shipping lines of sustainable profits and leaves their customers unable to get reliable pricing and service levels.
To make it worse, spot rate volatility and short-term capacity management contribute to unreliable booking practices.
Going to the spot market may not always be the preferred choice for shippers. Rates often are valid only for one week or for one month and most of the shipping lines have difficulty confirming bookings at a known rate six weeks or longer ahead of vessel calls. Only larger shippers can negotiate annual contracts with the shipping lines and most of them still will have quarterly BAF clauses. Eventually, there are limited choices between yearly contract and the uncertain spot market, especially for small and midsize shippers that then rely on large freight forwarders and their buying power to try and secure space for their cargo.
The practices of double booking from shippers or forwarders and overbooking from carriers aim to achieve the same goal of securing shipment. It ends up being costly for both parties. It generates a downfall up to 25% for carriers and rollovers estimated by Drewry at 3 to 4% of total worldwide shipments.
Furthermore, at the operational commercial level, freight rate volatility poses challenges to shipping lines: The multiplication of quotes also multiplies the number of manual errors. Drewry’s 2018 Shippers Survey found that 66% of shippers are not satisfied with their shipping line’s billing accuracy. This is particularly experienced as rates change every week, at times even more than once, which makes selling ocean services with any sort of stable price tag impossible and causes huge amounts of administration for the forwarders to make sure their buying cost data is kept up to date and their selling margins remain intact.
The spot market seems to be locked in a damaging circle in which all participants, whether carriers, forwarders or BCOs, are juggling among inefficiencies and uncertainty that eventually work at their expenses.
Carriers are seeking alternatives. Against the spot market inefficiencies, new forward selling and instant booking services are coming on the market through digital solutions.
This year has seen the development of Maersk Spot, Hapag-Lloyd Quick Quote, CMA CGM SeaPriority and Hamburg Sud Instant. These are new carrier online services granting a binding quote and instant booking. For most of them, these digital offers are enforced by bilateral compensation and penalty schemes in case the booking does not materialize as committed.
Previously a few prominent startups tried to change spot market practices. 300Cubits ushered booking penalties using a blockchain solution. Its difficulty in growing has been more related to the acceptance of blockchain than the actual concept of guarantee that key carriers accepted to test from Day One. NYSHEX continuously has expanded its guaranteed rate-booking services for the last four years. This demonstrates the growing appetite for forward contract as an alternative to the unreliable spot market and its costly traps.
Shippers and forwarders may see these new binding quote and booking offerings as limited in terms of available trades and cargo types. However, they are clearly targeting the shippers putting service quality first. Contradicting the common view that only price matters to shippers, Hapag-Lloyd experts have estimated that the “value seeker” shipper segment accounts for only 40 to 45% of the market. It also has planned that online quote should represent 15% of its shipments in the next three to four years. The bigger picture raises the opportunity for forwarders to operate digitally in a cost-effective way to secure midterm space and rate with carriers through bilateral digitally signed commitments and advanced bookings.
Forwarders and carriers will find advantages in trading capacity electronically, using standard binding transactional services operated by neutral and trusted platforms.
The recent research conducted by Drewry and the maritime supply chain technology provider CyberLogitec shows that trading a large part of the spot market using technology-enabled forward contracts and advance bookings will benefit both customers and providers of container shipping. (Source: Drewry September white paper “Technology to reduce freight rate volatility and capacity risks”). This will dynamically curb freight volatility and reduce capacity risk.
However, to achieve the efficiency promise, reach adoption and automation, comprehensive technology solutions must be more than just a “bulletin board” of prices with an email facility sent to the provider once the booking has been made. They will have to swiftly orchestrate and synchronize the purchase or sale of capacity, the procurement and the booking at the slot-shipment unit level.
Part of the exercise may require the standard itemization of sea-freight “products” on offer and demand. This drives the players to agree on rate and booking terminology, standard data model and business rules applied to guaranteed space allocation, equipment and service levels. The active cooperation of forwarders and carriers toward electronic forward contract and advance booking is fundamental in any attempt to reduce the spot market inefficiencies.
Driving efficiency through a comprehensive vision on forward contract and advance booking.
On a larger scale, multiple pain points could be addressed through the capability to flexibly buy or sell ocean freight services in advance, using neutral, global and comprehensive platforms. Volume commitments and capacity guarantees would provide an early visualization of demand in the market, thereby reducing the supply-demand mismatch and rate volatility. Besides, these improved practices also would address related inefficiencies, ranging from disconnected quotes and bookings to documentation and invoice errors.
Will the carriers and forwarders take on this challenge?