There are two shortcuts to moving goods around the world, the Suez Canal and the Panama Canal. Drought has more than halved the traffic able to sail through the Panama Canal that connects the Atlantic and Pacific Oceans. That was bad enough, but the alternative shortcut around the world has all but shut down.

 

This is a serious matter since maritime transport accounts for 80 percent of global trade. Under normal circumstances, the Panama Canal would account for about 3 percent of that global trade and 46 percent of container traffic moving from northeast Asia to the East Coast of the U.S. On average, more than 13,000 vessels passed through the Panama Canal per year — until last year.

 

Climate change, and now the El Nino climate pattern, has sabotaged Panama's ability to keep the system of water locks and infrastructure functioning properly. What is worse, Panama's dry season began last month and will run into April 2024. That is draining even more water from the locks. As such, the prolonged waiting times and capacity limitations that have plagued the man-made 40-mile canal will not be alleviated anytime soon.

 

This has already delayed American exports of grains bound for East Asia. In the case of Japan, U.S. corn exports account for more than 65 percent of that country's needs and 71 percent of its soybean imports. It is only a matter of time before these delays begin impacting the Japanese consumer. The Panama bottlenecks have also increased costs. Shippers have bid up the price for a transport slot through the canal as waiting times lengthen. A slot can now cost anywhere from $1.4 million to $2 million. That effectively raises the price of transporting grain to Japan from the U.S. by 50 percent. Charter rates have also increased by about 30 percent as well.

 

Given this background, is it any wonder that shippers had decided to opt for the Suez Canal, instead, even though it adds about 18 days to the trip? And that is where the shippers found themselves between a rock and a hard place.

 

The Israeli/Hamas war started in October 2023. It did not take long for those aligned with Hamas to begin retaliating against Israel and its allies. Over the border, missiles and drones failed to avoid Israel's air defense system. In late November 2023, the Houthi rebels found an easier target. Armed attacks against defenseless container ships in the Red Sea were launched by the Houthi Militia. To date, the Iran-backed militia that controls northern Yemen is targeting all shipping, some with not even a remote connection to Israel. 

 

For those who are unaware, the Red Sea is a narrow strip of water, west of Sudan and Saudi Arabia and Yemen to the east. At the northern end of the sea sits the Suez Canal. At the southern end lies a strait, called the Gate of Tears, which borders Yemen. It is where the Houthis have been targeting many of the tankers and container ships with increasing ferocity.

 

This waterway is a crucial piece of the world's supply chain. Up to 15 percent of the world's shipping sails through the Suez Canal. It is the most direct ocean route between Asia and Europe. And now it has become part of what appears to be the tip of a widening conflict in the Middle East.

 

In the maritime industry, shipping companies can buy war risk insurance. Almost overnight, the premium on this kind of insurance went from 0.02 percent to 0.7 percent of the total value of the ship and its cargo. Container ships can easily carry hundreds of millions of dollars' worth of cargo, so insurance fees alone are now in the millions. Shippers are now passing on those extra costs by charging higher fees for transporting cargo in that area. Average costs to ship containers have doubled in the last two months.

 

As more and more attacks occurred, shipping companies began rerouting vessels to avoid the area altogether. For those vessels who were already on a detour from using the Panama Canal, costs are continuing to mount. The new alternative route has ships going around the Horn of Africa, and then back into the Mediterranean. That route can tack on an extra 14-15 days to a trip already delayed by avoiding the Panama Canal. 

 

The costs of extra fuel, labor, and penalties for late deliveries must now be added to already sky-high shipping fees. Europe and Asia are feeling the brunt of this extra cost. But in the end, I suspect that given the interconnectedness of global supply lines, it should be only a question of time before the U.S. is also whacked from this new threat to global supply chains.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.