“Let’s go back a couple of years when we were hit by the pandemic. We kept hearing this phrase that soon we’re going to be out of the tunnel only to discover that the bridge we go onto has collapsed.”
In this week’s episode Alex Hersham is joined by Lars Jensen, CEO and Partner of Vespucci Maritime as they talk about their predictions for 2023 and how they can draw lessons from the past.
They delve into:
The inventory-led recession in the US in the first half of 2001
The potential for volatility in 2023
How the 2023 market will affect tenders
Lars Jensen
Lars Jensen is CEO of Vespucci Maritime, and has 21 years of experience from inside the container shipping industry. Lars is an analyst and thought leader providing expert assistance in strategic decision making and analysis in the wider container shipping industry.
Hi everyone and welcome to another episode of Freight to the Point. My name is Alex Hersham. I’m CEO and co-founder of Zencargo and I’m delighted to be joined today by Lars Jensen, who is founder and partner of Vespucci Maritime. Lars has decades of experience, I think 21 years plus of experience in the maritime industry and I’m delighted to have Lars on the show today. Welcome, Lars.
Thanks for inviting me.
Thanks so much for coming on, Lars. You and I have known each other for actually a long time now. I think it’s going on 10 years and so I’m delighted to have you on the show. I want to speak about what next year’s going to look like and I think it’s actually going to be quite an interesting and challenging year. Are we on track to go back to normalization next year? Is that the direction we’re heading in?
The very short answer is actually no. Whilst I know everybody would be yearning for some type of stability and normality, that’s not what I’m seeing. What I would rather liken this to, let’s go back a couple of years when we were hit by the pandemic. We kept hearing this phrase that soon we’re going to be out of the tunnel. And every time we thought that was the case, it was just another train oncoming towards us. Then we had the Suez blockage, China shutting down. What I would like in 2023 is we are actually getting out of the tunnel now. Unfortunate, we are coming out of the tunnel only to discover that the bridge we go onto has collapsed. So 2023 is going to be a very challenging year as well, but with different challenges than what we’ve seen the past couple of years.
The bridge that we’re coming onto has collapsed. That’s an exciting way to look into 2023. Do you mind elaborating on that a little bit?
Yeah, because you can say everybody knew that the extremely high freight rates we’ve seen over the last 18 months would eventually come to an end. I mean that was driven by shortage of capacity, which again was caused by all the bottlenecks in the supply chain. The bottlenecks are gradually being resolved. They’re not resolved yet, but they’re gradually being resolved. So rates should come crashing down at some point in time back to normal. That’s the end of the tunnel. That’s actually where we are going. But the dark clouds on the horizon now are different in nature. We are very likely in the early stages of a relatively large global recession driven by inflation, increasing energy costs, massive concerns amongst a lot of consumers in terms of geopolitical tension. And we are also very likely right now in the early phases of a major inventory correction, especially in the US, to some degree in Europe as well, that will cause potentially a significant decline in container demand volumes over the coming months. So that’s what I mean by the bridge is out.
This doesn’t mean it’s a permanent state of affairs, but it means we’re going to go into a very hard landing coming down from the peaks of the last two years. So we’re going to get a lot of capacity unleashed because the bottlenecks are being resolved and we get a lot of new ships coming in. And at the same time a massive drop temporarily in demand. If we get into this massive recession scenario, best case is that this is going to last say quarter one, maybe a bit into quarter two, and then we’re going to get a rebound during peak season. That will be best case, but that will still leave 2023 as an extremely volatile period.
And before anybody out there who actually then procures freight becomes too happy and say, “Well this is fantastic, my freight rates are going to go through the floor, I’m going to save a lot of money.” One thing to keep in mind is if this is really the scenario we are looking at, it would also mean you should prepare for massive cancellations of services out there. Blank sailings and outright complete abolitions of a lot of the services. So the physical integrity of the network will not really be there. So yeah, freight rates will get a lot lower but supply chain stability will not follow as a consequence.
Yeah, I totally agree. And I think whenever the pendulum swings either to one end or to the other, things tend to overshoot, and I think there could be a lot of overshooting that happens whether it’s about inventory flows, whether it’s about capacity coming online and how people react. It’s interesting though because when we first met a decade ago, it was the beginning of the trend of slow steaming and the very large container ships and that whole trend. It doesn’t really feel like slow steaming is a real option to effectively reduce capacity further because, well, most people are doing it already. Does slow steaming have a role to play next year? And then we’ll come onto the sort of inventory flows. But I think people sometimes rely on slow steaming coming to savior.
To some degree it does. To some degree, slow steaming is going to play a role here both in ’23 and ’24. But that is more from the perspective that we get the new IMO 2023 environmental regulations that places strict requirements on the fuel efficiency of the vessels, which in all likelihood is going to force carriers to go slow with quite a number of the vessels. It’s not going to solve the imminent problem, but it is going to absorb a significant part of the new capacity that’s coming on stream over the next couple of years.
And up until now, slow steaming is always the balance between what’s the fuel cost and what’s the vessel cost? If I slow steam, I save fuel, but I need more vessels. So it’s always an economic trade off and that’s where the environmental regulations skew that equation a bit because suddenly you’ve got these requirements and that could lead you to go even more to slow steaming that we’ve seen before. But as mentioned, that’s going to be more a structural impact over ’23 and ’24 but is not going to help if we get this inventory correction now, that will still lead to massive cancellations of savings. Slow steaming cannot help that situation.
Okay, that’s really interesting and I want to come back and look at holistically, the carriers response. Slow steaming is part of it, sailings cancellations, blank sailings is another part. A lot of the shipping lines have actually bought quite a lot of tonnage over the past couple of years. So what does that mean in terms of scrapping is another part, delaying container ships coming online. There’s all these sort of levers that can be pulled and we can speak about it.But why don’t we start with the most important part of the conversation, which is we’re obviously in the middle of a destocking environment. Actually on our end, I’ve been seeing it since earlier this year. I’ve been seeing some verticals wake up in January and February of this year, which seems like an awful long time ago from an economic environment, and look at their warehouses and say, “Wow, we really don’t have space. We should be slowing down ordering.” And so it feels like we are probably already on average more than a quarter in to a destocking environment. And when I look back, it tends to be two or three quarters, probably three quarters that destocking goes on for. Maybe you can share your thoughts on where we are in that cycle, what happens in destocking cycles and we can look back at past economic environments as well.
Yeah, I mean from my perspective, I would rather put the peg in at August because that’s where in earnest we begin to see some of the major demand data show a significant decline. And that’s of course measured at origin, which is why it’s only now you’re beginning to see that data pop up in say port handling in the US or in Europe because of the time lagging there. So I see a destock and that defacto began already back in August. And if that’s loading volumes in August, that’s to some degree, decisions made in July. So that’s part of what we see. If we look in past history, the best learning point we can get is actually to go 20 years back, because if you look at the first half of 2001, you had an inventory led recession in the US. It was a peculiar one because consumers kept buying but you had a massive destocking exercise in Q1 and Q2, that led container volumes to decline sharply.
Then you had 9/11 towards the end of 2001. So everybody thought, well this is never going to be good and volumes are going to be in the doldrums. And peak season 2002 had something like 20% demand growth on the Pacific. Because what you then see, if you look into what happens in a destocking environment, sure you get a massive drop in demand while it goes on. But once you reach the point where you want to be with the inventories, then you can say, a huge wave of cargo all of a sudden because now you need to ramp up to get back to normal flow. And that is also what we should expect this time around.
We’re going to see a massive drop in demand, but the moment that we get to the point where inventories have been reduced to where we want them to be, and the consumers are fairly satisfied that the worst is behind us in terms of the recession, we are likely going to see yet another tsunami of demand. And that’s also why I said that we could have a 2023 that could be extremely volatile. If we are slightly optimistic, we could actually have a massive demand surge already in peak season 2023.
And when you talk about peak season, because I think getting into of quarters of the year and starting to think about it that way, can you run me through Q4? We’re already into it. Q1, Q2, Q3, just sort of how you see it playing out because I think that will really speak to the potential for volatility.
Yes, I mean what I see playing out here is we would normally … I would even talk months and not quarters. Normally you see this run up in volumes before Chinese New Year. Chinese New Year ’23 comes very early, it already comes middle of January. So under normal circumstances we should actually see a ramp up in seasonal volumes basically from early December. That gives us the first Q on what’s going to go on here. If we get very weak sales coming up on Black Friday and all the other sales, it is highly unlikely we’re going to see that surge. So we’re going to have a very weak December, very weak lead up to Chinese New Year and my expectation is the market is going to bottom out. That will then be February, March in the wake of Chinese New Year.
If we then get the inventory destocking done. And again, if this recession doesn’t linger on for all of 2023, that’s a separate issue. But if it doesn’t, then we are getting into the point where the importers will start to feel confident, the beginning of Q2, and you would like to see this massive surge of demand taking place in July, August, September.
That’s interesting. So let’s talk about the economic environment because there was a big if in that statement. For me, I look at it and I slightly disconnect the two and maybe I’m wrong in doing so. I say to myself, if we take your sort of line in the sand date of August, and we add six to nine months, that’s sort of February or a quarter after that, in a period of time where it’s typically, to your point, the largest months of imports. I look at it and say by February, March, April, importers likely would be down to bare bones in terms of inventory. Even if the economic environment is still challenging, even if we’re in a technical recession, and household net disposable income is going down or flatlines. It still feels like when you come to March, April, May next year, the importers will be in a position where they’ve overshot, have too little inventory and maybe the economic environment isn’t all rosy but they’re definitely no longer going through sort of flash sales and they’re worried about their inventory levels. Is that too optimistic even if the economic environment is still challenging?
I would take it as slightly too optimistic because there’s an added element here, if we compared to previous destocking, the supply chain right now is two months longer than what it normally is. That’s due to all the bottlenecks. If you look at the beginning of this year, usual transportation times from Asia to North America was about 110 days versus the normal 45 days. So we should really add a couple of months on top of the normal destocking process. So that’s an element I think we should take into account as well. Part of this is already beginning to be resolved. We are down to 80 plus days or so, but that’s still a month longer than usual and this is still going to be piling in. Should all of the importers have taken this into account when they started their destocking? In theory, yes. Has that been done in practice? I don’t think so.
Interesting. So you’re saying that next year it is likely to be slow leading up to Chinese New Year, it’s likely to be sluggish post Chinese New Year, which it normally is anyway. Although you tend to have a mini peak after Chinese New Year because things that were bottlenecked before are still trying to get out, if that makes sense. And then you enter this annual tender season, which for some large BCOs has already started, but for the majority of the market, people tend to wake up after Chinese New Year and start to look at it and go out to tender, especially if you’re sort of sub 20,000 TEU in terms of volumes and you’re already looking at the market. It feels like a lot of people will be going to tender at a point in time where demand is low and capacity is starting to come on stream. That seems risky if you are then saying that towards the back half of the year, we’re going to start to see a mini surge in demand.
Yes, this is going to be an extremely challenging environment to come up with agreements that will actually last because reality will be a lot of these contracts will be negotiated at an environment that is dominated by two factors. You’re going to have oversupply at that time due to the structural factors. And you’re going to have, we already have that now, a massive emotional backlash from a lot of the shippers that feel shortchanged over the last couple of years. So in all likelihood you are going to see a lot of contracts signed at suddenly extremely low rates. And if we then get this surge in peak season, lo and behold what’s going to happen, you’re going to find yourself unable to actually get space on that contract unless you pay premium rates.
This is going to be a complete deja vu of what we’ve seen not just over the last 2 years but over the last 25 years. Very much like what we are also seeing now. We are seeing a lot of the contracts that was signed in the beginning of 2022, they are no longer enforceable, and a lot of these contracts have been amended already now. And if we get that surge in ’23 now you might be happy with the contract you get in early ’23, but then you’re going to be unable to move a lot of volume on it unless you pay premium surcharges. That’s just going to be the reality.
The reintroduction of the peak season surcharge. It’s going to be interesting. In terms of, you talked about overcapacity, obviously the first leg of overcapacity comes from the normalization of bottlenecks, which brings back effective capacity. The second leg comes from new capacity coming on stream. If you are a shipping line today, which one are you more worried about? Are you more worried about the bottlenecks reducing or are you worried about the order book coming on stream or should you be worried about both?
No, I would tend to see them as under one hat and that would not be my key worry. My key worry would be the imminent demand drop if we get this major inventory correction. That would really be my achieve concern, let me put it that way.
Okay. So then you are worried about this demand drop. Do you think shipping lines are seeing it the way that we are describing it today where the next six months are going to be challenging, and then could be significantly challenging and then there might be a restocking? So are they thinking about it in terms of a six month window or are they thinking about it in terms of a longer horizon?
That is a good question. I haven’t seen the carriers really come out with strong views on how they see that for now. At least that’s my sense of it. I think most of the carriers are of the mind that yes, it’s going to be down to normal, but this is somewhat manageable through capacity management. So again, your blank sailings, part slow steaming because of IMO 2023, which in the longer run is actually a view I agree with. But that’s not what I see for the tactical play out here over the next six to eight months, that you’re going to see a very hard landing, that the carriers are going to be unable to really manage in a good way.
And so what’s it going to look like for the next couple of quarters? It feels like we’ve already seen quite a few blank sailings, but it feels like you’re saying you ain’t see nothing yet kind of thing? How does that look from your perspective?
I was about to say exactly that. Yeah, you are going to see a lot more blank sailings. The challenge here is if you’re comparing on a year on year basis, last year in Q4, nominally you had a lot of capacity on Asia, Europe and on transpacific. But in reality a lot of that capacity was not available because you had a lot of blank sailings back then. Blank sailing Q4 last year, that was because of the physical unavailability of ships. They were caught in the bottlenecks. Right now, if you look at what is the plant capacity on transpacific and Asia-Europe, Asia, North Europe right now, if you start to look at November, December, you’re looking at year and year capacity growth of 15, 20%. Pacific, not all of Pacific, but into the US West Coast, you’re looking at 30, 40% capacity growth year on year. And that’s not because the carriers suddenly right now has started a lot of new services. That’s more a reflection of how much capacity was defacto unavailable last year. But it still means you are going to have a massive amount of capacity that needs to be taken out.
The way you should look at this from a shipper perspective is you cannot predict any of this with certainty. So the likelihood that you’re going to see major operational disruptions and delays in your supply chain is almost a given. So anybody that contemplates reverting back to normality also means now we can do just in time logistics. Well, that is a long time coming. This is more about contingency planning, is about keeping your options open and do what quite a lot of shippers frankly do. Don’t put all the eggs in one basket. I mean have multiple carriers ideally spread across alliances to have options because you’re going to need options.
All right, let’s move into a quick fire question environment talking about shipper choices. So I’m going to ask you a couple of quick fire questions and let’s see how your answers come in. So first question is around contracting next year. If you were a shipper, would you go for a fixed rate contract or an index link contract?
If I’m negotiating in the early part of the year, that depends a little bit. I’m already waffling here. Now there are two things here. If I’m really cutthroat, obviously I would want to lock in a fixed price at the early part of the year. The potential upside with that is if you don’t get the upsurge in peak season, but all 2023 is weak, fantastic. You get a good rate for all of ’23, good for you. The risk you’re running is if you do get the peak season surge, you’re going to find yourself unable to book any volume on those contract rates and then all bets are off in terms of what the premium will be. That’s basically the risk you’re running.
Not necessarily the most direct answer, but I hear you. It’s complicated, it’s nuance. Second question, is what we’re going through unprecedented or to your point, is it just following history and rhyming in a certain way?
The underlying dynamics we see is exactly the same as we’ve seen in other cycles. We’ve seen the same in the cycle around the financial crisis. We saw the same, as I said in the inventory correction way back in 2001, 2002. The underlying mechanism of unenforceable contracts, we’ve seen that time and time and time again. So from that perspective, I was about to say this is business as usual. However, what is clearly unprecedented is the sheer magnitude of the swing we have seen this time.
The last question is around, obviously different carriers have had different strategies. Some have really tried to own more of the customer relationship without sort getting into names, and it might sound obvious, but there’s been a few that’s tried to have that strategy. And you’ve spoken about the potential for alliances to break up. That could make it a very interesting environment for some of those carriers that specifically disenfranchise some of their forwarders. Am I being too sort of simplistic in the way that I think there, or is that a real risk?
No, that is to some degree a risk. There a couple of nuances here. There’s the carrier-carrier interactions and then there’s the carrier shipper interactions. And the carrier shipper interactions, there are clearly carriers to some degree that have alienated some of the shippers over the last few years to put it diplomatically. And there are carriers that have tried more to at least, I wouldn’t say keep customers happy. I’m not sure you find any customers that have been happy over the last two years, but at least tried to mitigate some of all the disruptions that we’ve seen. And that’s of course also going to play itself out in the environment we go into now in terms of how loyal are the customers, how cutthroat are they going to be in constantly renegotiating rates down?
But what I think is more interesting is the play out between the carriers going forward that you are mentioning yourself. Some carriers have massive order books. And I think a good starting point here is have a look at MSC. I mean MSC has now taken the mantle as the world’s largest carrier, but they’re clearly not content with that. Their order book is almost 40% of their fleet right now. That doesn’t necessarily mean that they’re going to grow 40%, they could re-deliver some of their charter tonnage. But if we go down this path, that means within a couple of years, MSC reaches a size, technically they’re going to be as large as MSC and Maersk were combined back when they formed the 2M alliance.
It also means that MSC, the way I see it, is proceeding down a path where ultimately they want to go it alone. They’re going to be large enough to feel a truly global competitive network. Good for MSC, but that then ups the ante, because if you are then Maersk, where does that lead you? That leads me Maersk alone. Can Maersk fill the global network? Sure, they can. They did it before 2M. That’s not the right question. The question is how competitive will that network be? They will be up against a much larger MSC and they’ll be up against the two other alliances. That will leave Maersk as a distant forth cousin in this global competitive environment. Clearly not an attractive position and I’m not sure that Maersk finds that attractive either. So they have clearly a strategic impetus to try to find a new partner and break up one or two of the other alliances. So you’re going to see a lot of shake up here over the next couple of years.
That’s really interesting. And I don’t know well enough from a shipping line perspective, but I think that’s probably a hard question as to whether you want to be an alliance partner with Maersk or not given their strategy and how that could play out. I really don’t have a strong view on it, but I think it’s a difficult and nuanced question. Well listen, Lars, thank you so much for joining this episode of Freight To the Point. You really are a true expert and somebody that can really help us look back to prior cycles. I think next year is going to be very challenging. I think the message that you delivered around Q1 might make everything look rosy if you are an importer from a rate negotiation perspective. But it is going to be nuanced and we could see a large upswing towards the back half of the year. That’s definitely what we’ve been saying, where we’ve been guiding customers. So thank you very much for sharing your thoughts and your experience and the history with us. And thank you again to all of our listeners for joining on this episode and we hope to see you soon. Lars, thank you very much once again.
