Long-term container-shipping contracts based on various freight indexes are gaining ground, but their progress is being slowed by a lack of understanding on the part of shippers.
“A lot of shippers I talk to shrug when I talk about indexed contracts," said Joe Alagna, vice president of sales for China Shipping Container Lines in the U.S. "What I see in discussions with beneficial cargo owners that are willing to talk about indexed contracts is that other people in those companies need to get an understanding of them.”
Alagna’s comment reflected the participants’ views at a forum of the Container Freight Derivatives Association at Morgan Stanley’s offices in New York on Monday. However, participants agreed that there is a need to establish a better way of setting freight rates since the their volatility is making it hard for both carriers and shippers to plan ahead.
On the Asia-Europe trade, for example, rates rose from $499 per 20-foot container equivalent unit in December 2011 to $1,742 per TEU in May 2012, an increase of 350 percent in six months. “It hasn’t been a pleasant ride,” said Jean-Marie Lamay, head of commodity and freight solutions for HSH Nordbank.
Shippers and carriers can trade derivative instruments based on indexed contracts to hedge against the risk of extreme rate fluctuations, but neither the number of indexed contracts nor the volume of rate derivative trades is big enough to serve that purpose yet.
“There are a lot of unknowns at this point,” said David Brady, vice president of the trans-Pacific eastbound trade at Hyundai Merchant Marine. “We need to know more and how it affects pricing because we can’t sustain the current model.” He said some shippers are bringing indexed contracts to HMM. “We like the multiterm aspect of them.”
He said HMM had negotiated its first long-term indexed contract last year and had concluded another one this year.
The Federal Maritime Commission has 45,000 contracts on file, of which only 62 are based on indexed freight rates, said FMC General Counsel Rebecca Fenneman. Nineteen of the 62 contracts were filed by carriers with at least one indexed contract; 12 of the 23 beneficial cargo owners that have filed contracts have more than one indexed contract and two of the BCOs have at least nine contracts 23 are with beneficial cargo owners.
One of the factors delaying widespread acceptance of indexed contracts is that no single large organization has yet stepped forward as a sponsor, the way BHP and other large Australian mining companies did when China defaulted on its fixed rate dry-bulk shipping contracts for iron ore imports in 2008. This happened after spot rates fell to $50 per ton from the $180 per ton contract rate.
Brady said shipping company shareholders and bank lenders could act as the catalysts for carriers to negotiate more indexed contracts and hedge them in the markets. “Investors won’t invest in shipping lines and banks won’t lend to them unless they are smoothing out the cycles by hedging their freight rates risks,” he said.
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