Trading Risk

Trading Risk

There can be no doubt that logistics in the U.S. is an internationally driven business. Volumes, services and revenue streams to one degree or another all reflect the U.S. as an increasingly trade-dependent economy, no matter the mode. But as this shift developed and then accelerated, and as corporate strategies and investments fell into line, a myopia emerged regarding the risks inherent in this basic direction.

The question now is how much companies looking beyond the current downturn appreciate this and to what degree it will influence future behavior.

By risk, I don’t mean that the U.S. economy in its pre-recession state was unsustainable — we now know it was. And of course there is always some risk in the economy. It’s that all else being equal, logistics companies’ over-reliance on trade itself is risky.

A bond yielding 8 percent, generally considered a nice return, will contain seeds of doubt as to whether the issuer will pay. In the same way, a 7.1 percent cumulative growth rate for containerized imports from 1998-2008 — much larger than GDP growth during the same period — carries fundamental risk for anyone using those numbers to forecast future performance.

In hindsight, such growth wasn’t merely unsustainable in the abstract, but also reflected a level of risk that, in the years leading up to the current recession, does not appear to have been fully appreciated by those plowing cash into infrastructure anticipating such lofty growth rates to continue indefinitely.

The risk was in the nature of trade itself. Trade growth, fueled by two decades of proliferating globalization, has come to incorporate high levels of volatility, rising — and now falling — at rates far greater than that of the general economy.

In the last two decades, the world became more dependent on trade; the value of cross-border trade grew from 15 percent of global GDP in 1990 to 20 percent today, according to McKinsey & Co. As that occurred, the sustainability of mind-boggling container growth rates became increasingly tenuous.

The reality of that is now on display. The gaping discrepancy between economic growth and trade growth on the upside, and now the opposite on the way down, underscores the inherent risk that has revealed itself in such destructive terms.

The International Monetary Fund predicts global GDP will contract 1.4 percent this year and the U.S. will contract 2.6 percent. Those are sobering numbers to be sure, but they are peanuts compared to the hit on trade and particularly on container volumes.

U.S. imports of goods were 34 percent lower in April versus April 2008 and globally the dollar value of trade has shrunk by the same percentage, according to the World Bank.

No trade-dependent entity has been spared the impact. Container volumes in June were down 17 percent in Los Angeles, 23 percent in Long Beach and 21 percent in Oakland compared to a year earlier. Container lines have reported revenue declines of more than 35 percent for recently concluded fiscal years. International air shipping was down nearly a third early in the year.

What accounts for this gap? In part, it arises from the massive inventory de-stocking accompanied by the multiplier effect of component shipments (if the shipment of the final product doesn’t occur, neither do shipments of components to the assembly plant), plus a smattering of protectionism. The most trade-dependent economies, including Germany, Japan, Singapore and Hong Kong, are suffering the most.

The discrepancy between trade and overall growth and its vicious impact on the downside was a factor in some of the industry’s most massive miscalculations — container lines ramping up their order books to historically high levels, and private equity acquiring marine terminals at stratospheric multiples, for example. Both anticipated that trade-inflated growth patterns of the past meant more of the same as far as capital investment planners could see.

Now comes the reassessment, but will it take into account not just the most obvious patterns but also the risks inherent in trade? A pullback in trade infrastructure would be based on the potential long-term pullback of the U.S. consumer, and the maturity of the outsourcing cycle if, as some economists believe, most industries that can be outsourced already have been.

Finally, it would be based on the possibility that an era of unpredictable demand will ignite a near-sourcing movement. Existing infrastructure may contain years of capacity for imports and even more for long-term growth in exports if it turns out to be the case, as Obama economic adviser Lawrence Summers said July 17, “The rebuilt American economy must be more export-oriented and less consumption-oriented.”

But will caution in investing reflect the inherent volatility of trade?

This is an open question. One hears sentiments such as the idea that pre-recession container growth will re-emerge because of the natural buoyancy and optimism of the U.S. consumer and the existing entrenchment of international supply chains.

But when the next great recession comes, trade may implode again. Will the industry be ready?

Peter Tirschwell is senior adviser for The Journal of Commerce. He can be contacted at 973-848-7158, or at ptirschwell@joc.com.