Putting Red Sea Shipping Concerns in Context

Editors’ Note: MarketMinder Europe doesn’t make individual security recommendations. The below are merely incidental to the broader theme we wish to discuss.

Alas, this is a hard time to be an oil tanker or a cargo ship. Just when the Panama Canal’s drought situation was easing somewhat, helping costs and transit times fall, Yemen’s Houthi militia started attacking ships in the Red Sea—a must-cross passage to access the Suez Canal.^[i] Tankers and cargo ships both took fire, prompting oil giant BP to cease sending ships through the Suez, circumnavigating Africa instead.^[ii] Commentators we follow warned that other carriers will follow, potentially disrupting global trade. They also warned of possible supply shortages and spiking oil and gas prices—potentially driving resurgent UK inflation. We are keeping a close eye on things, but we think this is mostly a case of investors fighting the last war—and a brick in the bull market’s (a long period of generally rising equity prices) proverbial wall of worry.

At present, the Suez remains open for business. Some ships have re-routed around Africa’s Cape of Good Hope, and shipping giant A.P. Moller-Maersk has followed BP’s lead, but others are still crossing through, and several governments are aiming to keep it that way.^[iii] On Monday, the US announced its Navy will join forces with the UK, France, Norway, Bahrain and others to protect crossing ships.^[iv] This isn’t the first time navies have helped protect maritime commerce from attack, but military analysts warn it is a little more complicated than prior efforts, which dealt mostly with pirates. The Houthis reportedly have big stockpiles of drones and missiles, raising questions amongst commentators we follow about whether warships can adequately protect all tankers or convoys—likely why shippers remain jittery. For now, the daily crossings are either at or just below normal levels, depending on the reports, but if the navy escorts aren’t an effective deterrent, that could change.^[v]

If it does, we think the potential supply disruptions—including shipping cost spikes and oil supply hiccups—are quite likely temporary. In our view, one way investors can see this is the Baltic Dry Index, a widely used measure of seaborne freight costs. It spiked a few weeks ago amidst the Panama Canal drought but has since fallen -31.6% since 4 December.^[vi] The drought isn’t over, but markets appear to adjusted, trade has re-routed as and when needed, and publications we follow stopped hyping over the situation. Note that the index has also fallen over the last week despite the step-up in Red Sea attacks, though this doesn’t preclude volatility from here, in our view.^[vii]

Whilst the Suez is important to trade, it isn’t everything. It accounts for just 12% of seaborne oil trade, 8% of gas and over 20% of container volume.^[viii] This trade is adaptable: With an extra 10 – 14 days (plus fuel and provisions), ships can route around Africa instead. It might not be ideal, but it is an idea several shippers reportedly already warmed up to due to Panama Canal concerns, and we think the pro/con list weighs in favour of taking the long way versus not sailing at all. As a result, the total effect in terms of lost cargo capacity will likely be minimal, in our view, which should help keep supply high enough to prevent shipping prices from running away. Said another way, scarcity is probably a more meaningful price driver than underlying costs, so if it doesn’t rear its head, modestly higher transit costs probably aren’t enough to break the bank. And, crucially, stable transit capacity is likely to keep oil moving around the world. It seems to us that markets are signalling as much, considering oil—whilst up in recent days—remains well below levels seen on the eve of the October 7 massacre.^[ix]

In our view, pandemic-era supply chain kinks—and the hot inflation (broadly rising prices) our research finds they contributed to across major economies—seem to have investors looking around every corner for a repeat.^[x] We think this is why the Panama Canal garnered so much attention amongst commentators we follow and why the Suez is doing so now. But we think those shipping problems stemmed only in small measure from issues with the shipping infrastructure. Our research suggests all-out closures of key factories and ports in major exporting nations were bigger. Those closures occurred when the developed world was reopening and had money to burn, driving major shortages and pushing prices up.^[xi] When goods finally got to ports in the US, UK and elsewhere, staffing issues made it hard to work through the backlogs, and then a trucking shortage prevented containers from working through their normal lifecycle in a timely fashion, leading to big stacks in the middle of nowhere and empty barges sailing back to Asia.^[xii]

Based on the data and reports we have studied, that isn’t the situation today. Ports are open, factories are running worldwide, and containers are abundant. It is just that some journeys might take a little longer. Considering the supply chain has adapted to other tough circumstances for the past few years, we think it is fair to say it can adapt to this, too. We find investors typically fight the last war, or presume the negative developments that accompanied the prior downturn will repeat, hurting the economy and markets. But in our view, markets are pretty good at seeing through it when they do.