ship brokering

I sometimes wonder why independent ship brokering companies exist at all. Ship owners and cargo providers could come together and establish a centralized forum where all the relevant information (e.g. ship positions, availability dates, cargo positions and destinations) is uploaded and continuously updated. But neither party is interested in the idea of introducing such absolute transparency into the market. In fact, each party thinks he is better off under the status quo regime.

This sounds logically impossible. How can both parties be better off at the same time? For example, using the centralized forum, they could (in principle) agree on the same freight rate and split the brokerage fees.

Nevertheless the status quo persists. Why?

1) Perhaps brokering companies are way too entrenched and powerful to be entirely removed from the system.

2) Ship owners and cargo providers are unable to discover what their losses/gains would be under a centralized forum scheme. Perhaps they are prevented from doing so by their own employees or brokers who subtly manipulate their information channels.

Example: Brokers may be supplying false information.

Example: Assume that the ship owner is a large public company whose shareholders can not keep track of the daily business affairs. The employees receive fixed salaries. Therefore their financial wellbeing is not correlated with the freight rates. In particular they will lose nothing by making favors to brokers who take them out to fancy dinners. Employees will do their best so that the shareholders will not be able figure out the suspiciously low freight rates at which their ships are being rent out. (Remember that the shareholders only look at the aggregate quarterly figures...)

2) Thinking of ship owners as a single class may be misleading. Say there are 10 ships owned by 10 different ship owners and 10 cargos owned by 10 different cargo providers. Assuming that there are no idle ships lying around, at any point in time there will be 10 outstanding brokered transactions. The number of parties (ship owners or cargo providers) who could have obtained a better deal through a centralized forum is at least 10. (It is probably strictly greater than 10 since brokerage fees usually steal profits from both sides.) Say 7 ship owners and 4 cargo providers would have been better off with a centralized forum. (Here we implicitly assume that, at the end of each brokered transaction, parties can figure out how the deal would have unfolded through such a forum.) In other words, if there was a democratic council composed of ship owners, then 70% of the members would have voted to circumvent the brokering companies and establish a centralized forum. On the other hand, a democratic council composed of cargo providers would have voted in favor of the status quo regime. Assuming that each council holds equal power in shaping the future of the freight markets, nothing will be done and the status quo will persist.

3) Incorporating a time dimension to the above analysis yields some more insights. Say there are 10 discrete time periods. At the end of each period ships deliver their cargos and 10 new voyage contracts get brokered. Let S=(8,10,10,9,9,2,3,2,2,5) be the vector that represents the number of ship owners who would have been better off with a centralized forum. (e.g. This number is 8 at time 1, and 9 at time 4.) Let C=(2,5,3,2,8,8,7,9,8,10) be the corresponding vector for cargo providers. During the first 5 periods, ship owners are pissed off at the brokers and are willing to overthrow the status quo regime. During the first 4 periods, they complain about the situation and seek cooperation from cargo providers for changing the market structure. Cargo providers are pretty happy with the status quo and therefore turn down ship owners’ offers until period 5 during which 8 of them become worse off due to a major change in market dynamics.

(For example, this change may be due to a sudden spike in the fuzziness of the market information that cargo providers receive through means other than their brokers. In that case the independent brokers can demand above-normal brokerage fees by claiming that the markets are very tough at the moment and there are not many available ships around. The cargo providers will not be able to verify these claims due to the fuzziness. They will probably go ahead and trust their brokers who helped them close the nice deals during the first 4 time periods.)

Now cargo providers will change their minds and decide to cooperate with the ship owners for the establishment of a centralized forum. Planning starts but the project never takes off. After period 5, tides change. Now ship owners feel better off with the current regime and defect from the project. Note that, across the 10 time periods, the average number of ship owners who would have been better off with a centralized forum is 6 (=(8+10+10+9+9+2+3+2+2+5)/10). The corresponding average for the cargo providers is also 6. Assuming that the underlying markets dynamics are not expected to change, does this imply that the ship owners will make the statistical inference that the current regime will not be in their favor in the future? No.

a) Ship owners will probably behave myopically with respect to time. Example: During the time period from 10 to 15, they may again start to feel that they are better off under the current regime. The feeling may be strong enough to make them shelve the plans of establishing a centralized forum.

b) Moreover, the identities of these 6 losers will change over time. Therefore it will be difficult to get a democratic “over-throw the status quo” vote out of the ship owners’ council. (Example: If ship owner X becomes a loser for three consecutive time periods, then other ship owners may believe that X will be among the 6 losers during the next period too. This belief may be ungrounded since the underlying dynamics may be totally random. In other words losing three times in a row may be just due to bad luck.)

4) Brokers may be performing important services other than simply bringing the two parties together. In other words clients may be enjoying non-monetary gains that could not be possibly provided by a centralized forum. For example, ship owners could be assigning a positive value to the market tips they receive from their brokers. Reliable gossips about the financial situations of various cargo providers (e.g. commodity traders) may help the ship owners by facilitating counter-party risk evaluations.

5) Absolute transparency in the shipping market may have indirect, harmful commercial consequences for ship owners or cargo providers. For example, a commodity trader may not want to post cargos to an open forum since that would amount to disclosing all its trades to public. Strategically and selectively disclosing such information may be beneficial for the trader. However a wholesale disclosure will probably not be in his favor.

Post Script 1:

You can generalize the above analysis to any type of brokerage institution. (e.g. Stock brokers, real estate brokers, marriage brokers, recruitment brokers…)

Post Script 2:

Through a centralized forum, information flows as follows:

(green=ship owner, red=cargo supplier, dark blue=forum)

Note the following two properties of the graph:

1)Every node is only two steps away from each other. In other words information flows lightning fast.

2)There is no single node (or a group of nodes) that is separated from the rest of the graph. This implies that every single information reaches to every single node.

Due to brokers' efforts, the actual freight markets are pretty connected as well. However the information flows slower:

(Light blue=broker)