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Around the world, companies are struggling to maintain production levels as transportation costs rise, fueling a vicious inflationary cycle. Global supply chain tensions have been a major contributing factor to inflation since lockdowns were enacted in 2020. To directly measure changes in supply chain efficiency, The New York Federal Reserve recently created a " Global Supply Chain Pressure Index." This composite includes BLS data, business surveys, and shipping rates. Last month, the index was over four standard deviations above its average value. More importantly, the index has been trending ever-higher over the past year despite a decline in global restrictions. See below:

Global Supply Chain Pressure Index (New York Federal Reserve)

Just as supply-chain pressures were improving, recent global geopolitical conflict with Russia has dramatically worsened the issue. U.S gasoline prices have rocketed over a dollar per gallon higher as imports from Russia are restricted. The cost of other vital commodities such as wheat has risen by over 30% to a new all-time high. As fuel and other essential goods become scarce, prices will increase, and production instabilities will grow. For example, global shipping firms must raise rates as power becomes more expensive, eventually forcing goods-sellers (retailers, etc.) to raise prices even more.

Next to the energy shortage, I argue that global shipping is among today's most critical economic issues. Indeed, fuel costs, shipping costs, and the substantial cost of shipping fuel are closely linked and often exacerbate inflationary pressures. The "HARPEX" container shipping rate index is currently at the highest level in many years at 4,586, over twice its average value of 1,984 and its minimum current value of 412 (set just two years ago). See below:

Harper Petersen Charter Rates Index (Harper Petersen)

Container shipping rates have risen by more than 10X since reaching a minimum level in 2020. There were some signs that shipping rates would decline late last year, but rates continued to increase over winter. However, many logistics companies recently suspended deliveries to both Russia and Ukraine due to transportation dangers, creating yet another global dislocation in overseas transportation. In general, this change is expected to result in further increases in a container and dry bulk shipping costs. Of course, a surge in goods prices worldwide is also likely to result in a decline in economic demand. As such, key shipping companies like Danaos Corporation (NYSE:DAC ) may have been pulled into another very choppy period.

Like most shipping stocks, Danaos was stuck with abysmal cash-flows and a negative outlook before 2020. In the years leading up to 2020, there was a significant global glut of containerships, causing spot rates to decline into deeply unprofitable levels. Then, 2020's various black-swan events caused a severe shortage of new shipping containers due to increased demand combined with manufacturing slowdowns, high metal & fuel prices, port congestion, and general labor shortages.

Fortunately, there was a boom in container production last year, and recent data has shown a slight decline in container prices, implying the shipping container shortage is finally easing. There have also been some declines in U.S port congestion levels as imports lull. Even more, the White House has decided to pursue actions to decrease ocean carriers' market pricing power, increasing the risk of regulatory constraints for shipping companies like Danaos. These trends suggest that container shipping rates may be nearing their peak. Rising fuel costs and labor constraints may continue to push container shipping costs higher, but it appears that the acute factors causing extreme container shipping rates may be fading.

Overall, I believe the Russian invasion of Ukraine has created both bullish and bearish factors for Danaos and other container shipping companies. Russian and Ukrainian seafarers make up 1 in 7 of the global workforce, meaning shipping labor issues may exacerbate cost pressures. At the same time, the meteoric decline in shipping activity in the critical Black Sea region has caused a considerable spike in port congestion throughout Europe. Danaos only has one of its many ships listed as being positioned in the Black Sea, so this issue indirectly impacts the company. While it may initially cause port congestion in Europe (bullish for shipping rates), eventually, it may also free-up additional container supplies that can be redeployed elsewhere, potentially pushing shipping rates lower.

Even more, I expect the inflationary impact of higher fuel and commodity prices to result in declines in global discretionary spending. If this decline is significant enough to cause a global recession, container shipping rates would likely eventually decline. Fundamentally speaking, shipping rates and inflation are high because there is more global demand for goods than goods produced (and transported). Thus, the only way inflation will decline is for demand to decline. While it may take time, I believe it is virtually inevitable that we see this decline in consumption habits that helps normalize international shipping rates.

During periods of high uncertainty, there are few actions investors can take to avoid volatility. It is perhaps best to try to "ride the waves" and, instead of looking to avoid volatility altogether, simply minimize exposure to those assets that can sink quickly. While it is virtually certain that DAC and other shipping stocks will experience significant shocks, the company has far more capacity than most to weather a brutal storm. Since 2020, Danaos has substantially reduced its financial debt and dramatically increased working capital. Despite this, the firm is still trading just below its book value. See below:

Over recent years, Danaos has gone from surviving to thriving, backed by a significant decline in leverage and an increase in earnings. The company also increased its vessel count by 9% in 2021 by reinvesting its newfound cash flow. The firm recently raised its dividend, but many investors feel the firm should pay more of its income out as dividends. DAC's dividend yield could indeed be much higher than ~3% (where it is today), given its current EPS. Still, the company can likely generate a more robust ROI by expanding capacity than investors would find by reinvesting dividends.

Current analyst consensus EPS estimates suggest Danaos is expected to continue to see sky-high income through 2023. Its 2022 expected EPS is $24.3, while its 2023 is even higher at $26.7. The firm is also anticipated to see some small revenue growth. This gives DAC an extremely low forward "P/E" ratio of ~3.5X, which is roughly in line with that of Costamare (CMRE), Global Ship Lease (GSL), and Navios (NMM). However, DAC has generally lower debt leverage and greater working capital than its peers, making it a potentially better investment. Danaos also has a significant capacity to boost shareholder returns via repurchases or dividends, though it may find more considerable profit growth from investing in new capacity.

Overall, I believe investors could consider Danaos as a relatively attractive hedge against global supply-chain instabilities. The HARPEX container shipping index has floated ever higher, meaning Danaos will continue to see solid profits over the coming timeframe. Even more, the firm has a very attractive valuation and has made balance sheet improvements that limit its downside risk in the event of another decline in charter shipping rates.

Of course, the conflict in Ukraine has thrown a wrench into the global container shipping market. On the one hand, there is an acute increase in port congestion due to rerouting throughout Europe, which may cause shipping rates to climb even higher. However, eventually, I believe this will result in some excess container capacity in some shipping markets, which may have a negative impact on rates. Additionally, the conflict may exacerbate fuel and labor shortages, which negatively impact the firm's profit margins. Finally, if the conflict lasts long enough or prices rise enough, I expect global economic demand for goods to decline, negatively impacting charter rates.

In my view, there are numerous downside risk factors facing Danaos stemming from the Russia-Ukraine conflict, both direct and indirect. On the one hand, these risk factors may negatively impact Danaos's profitability over the next two years. That said, its valuation is so low that DAC's value seems unlikely to fall too dramatically. Thus, I am neutral on DAC from a short-term standpoint but believe the stock is among the better long-term "buy and hold" investments available today.

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Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.