11 Apr 2016

The New Market: Threat or Opportunity?

Authored by: Raymond Kisswany

The New Market: Threat or Opportunity?

In March 2016, I co-presented a session at the 12th Annual Gulf Ship Finance Forum in Dubai with Jonathon Brown, Head of Maritime Trade & Transport. The focus of this year’s forum was “How will shipping manoeuvre the geopolitical wilderness?” The conference was well attended by shipping companies, ship registries, banks and other ship financing institutions, as well as law firms. It became apparent from the presentations and panel discussions that there was a significant focus on what we termed the “new market”, in particular the varying impact of oil price on the different industries within shipping.

It is (for better or worse) particularly true that today’s market is vastly different to just a couple of years ago. There are several factors contributing to these changes; but, as observed in this year’s forum, a major factor is the substantially lower oil price. The simple answer to whether the new market poses a threat or an opportunity to the shipping industry is…it depends. Which (as many people will appreciate) is the lawyer’s favoured answer.

Indeed, I am a lawyer and make no claim to being an economist or financial expert. Having said that, there are definitely significant new trends in the market which we have observed from our clients (including banks, shipowners and P&I Clubs). The reality is that the new market, which is heavily influenced by the price of oil and its residual impact, poses an opportunity to some, in the short term, and poses threats to others. The new market may also pose a threat to many more participants in the future.

By way of background,  in June 2014, the price of oil was approximately $115 per barrel. Today, that same barrel costs around $30. The price of marine fuel (i.e. bunkers), is less than half of what it used to be. It is no secret that, just like any other transport sector, fuel costs are a major operating expense in shipping. As such, we would all be excused for believing that shipping companies stand to benefit from lower fuel costs, lower operating costs and higher returns. 

Logically, lower fuel costs should mean lower shipping costs and as a result it should follow that there should be a higher demand for shipping-based trade, especially to developing countries, since they will be better able to afford imports. All of this should mean that ships are able to service more routes more often, thereby delivering more cargo. More shipping should (again logically) mean more maritime jobs, not just aboard ships, but with regard to all aspects of international trade. That is of course a very rose-tinted optimistic view of the new market.

The reality is that fuel costs have been affecting different sectors of shipping in different ways. For example, some oil-importing countries, like China, are taking advantage of lower oil prices by stockpiling their oil reserves. This has led to an increased demand for some oil tankers. Additionally, lower bunker costs have allowed ships to reach markets more profitably than ever before. By way of illustration, some tankers carrying refined petroleum to European markets are no longer using the Suez Canal as a shortcut, but are actually sailing around Africa permitting them to call at more ports. 

On the other hand, the offshore oil exploration industry is going through a substantial downturn because the cost of exploration is greater than the current likely return from any oil found. It is important to note that there can be a substantial length of time between discovering new oil deposits and putting the infrastructure in place, before a single drop of oil begins to flow. Demand is at an all-time modern low for platform supply vessels (PSV) and anchor-handling tug supply vessels (AHTS) which are mainly used in drilling activity, field development work and production facility support. This obviously has a negative effect on the offshore industry in general.

Other carriers, such as liquefied natural gas vessels (LNG) and bulk carriers of coal and ore, are facing similar downturns, suggesting that the demand for alternative fuel sources has decreased as a result of the lower cost of fuel.

A very interesting factor in the new market concerns the type of vessels being used. Most of us in shipping know that greater, relative fuel burn is typically associated with older, faster and smaller vessels. When oil costs were at their highest in June 2014, there was a significant focus by shipowners on ordering new builds with the aim of reducing fuel costs through the deployment of newer, more energy efficient ships with reduced speeds (so-called slow steaming) and building very large vessels to spread fuel costs across more shipment units. 

However, those concerns were in the days when oil was $115 a barrel. The new market is different. Today, owners of older fleets, containing vessels with higher fuel consumption but faster speeds, face new opportunities, because they are able to offer customers faster transit time with less concern about fuel costs. By contrast, a new, very large, energy efficient vessel costs much more than hiring an older, less efficient vessel and with today’s bunkering costs, it makes good commercial sense to hire an older vessel. This means that owners of so-called eco-type vessels are facing difficulty in employing their new fleets.

Of course this is great news for owners of older fleets. But the use of older vessels may represent a threat that potentially affects many more of us than just owners of newer fleets.

For example, owners that ordered very large, energy efficient ships to be built at the height of oil prices are probably questioning that decision in light of older vessels finding more favourable hires. The new market seems to be creating a breeding ground for disputes between owners and shipbuilders. Important questions may be asked by owners on whether they can or should cancel their orders.
Additionally, what happens to owners that have recently taken delivery of a new expensive eco-friendly ship which cannot find employment? These newbuilds are likely to be mortgaged, whereas an older ship may not be. What happens to the owner of the new ship if he cannot make his mortgage payments? We may start seeing a proliferation of disputes between lenders and owners, who may be finding in the new market it very difficult to repay loans.

Furthermore, the use of older ships can give rise to facing more legal issues. An older vessel will not be as sophisticated as a newer vessel. We may start seeing an increase in collisions, groundings, spills and other safety-and environment-related problems as a result of the increased usage of older vessels in comparison to new vessels. 

There is one lesson that we can always keep in mind when analysing the new market - shipping, like many other industries, is cyclical. Those facing opportunities today may be facing difficulties tomorrow, and vice versa. At some point, oil-importing countries will run out of storage space for additional oil reserves, which should stabilize (or correct) the tendency to overuse tankers. A marginal increase in oil prices (which is bound to happen sooner or later) will undoubtedly create a demand for orders of eco-type vessels. The market is cyclical, and there is no greater proof of that than the current “new market”, which is creating opportunities for some and threats for others. 

 
 

This article, including any advice, commentary or recommendation herein, is provided on a complimentary basis without consideration of any specific objectives, circumstances or facts. It reflects the views of the writer which may, in some cases, differ from those of the firm, especially in the developing jurisdiction of the UAE.