Take note of these sobering statistics:
- Since the beginning of the year, full-vehicle spot freight rates have fallen by nearly a third, while full-vehicle contract rates have risen.
- The spread between the spot price of a finished vehicle and the contract price is close to an all-time high.
- The spot rate is always ahead of the contract rate, usually around three months.
- Shippers (companies that buy freight capacity from trucking companies) buy most of their capacity on the full-vehicle contract market, which means they are not seeing a drop in freight rates just yet.
- There are signs that full vehicle contract rates have peaked (collected through a combination of surveys, channel checks and exponential models).
- Truck freight contract rates may drop by $0.35/mile.
- With diesel costs doubling, contract rates would need to fall by more than 12.5% for shippers to see lower freight costs compared to the beginning of the year.
Bank of America investigation of shippers
Freight rates are set for a bigger pullback, according to Bank of America’s (BoA) bi-weekly survey of shippers. That’s bad news for trucking companies, but good news when it comes to inflation.
FreightWaves has well documented the slump in freight spot rates, but contract rates have so far remained unchanged. That could change soon, at least according to the results of a survey of the nation’s second-largest bank shipper.
The BoA Shipper Survey sought to capture the forward-looking sentiments of 1,300 shippers, quantifying their perceptions of demand, capacity and rates. Consumer-related shippers accounted for 53% of the survey (retail and CPG), while industrial, manufacturing, materials and healthcare shippers accounted for the remainder. Survey results are aggregated every other week and have proven to be very reliable predictors of the future direction of survey metrics.
Beginning in late February, survey results showed an increasing number of negative views on demand and interest rates. This is in line with freight market data reported by FreightWaves over the past two months.
These metrics are reported as a diffusion index, which measures whether participants believe the metrics will increase or decrease. In terms of rates, any value above 50 indicates that the shipper believes rates are about to rise. Below 50 means the shipper believes that shipping rates will drop.
Analysts at Bank of America wrote, “The rate gauge, which measures shippers’ perceptions of truck rates, fell further from April’s slump, falling again to 38.0 from 38.8 in the previous survey, the lowest since May 2020. level.”
Since most shippers buy all or most of their capacity based on contracted rates, we can safely assume that shippers’ forward views of rates are primarily related to their expectations of contracted rates.
Spot exchange rate falls in 2022
Spot rates for truck freight peaked on January 14, 2022 and have since fallen 30%, according to the National Truck Freight Index – Linehaul (NTIL.USA), which measures the base van spot rate minus fuel Rate. The index topped out at $3.01/mile and is currently at $2.09/mile.
On the other hand, the contract rate has actually increased by 3% over the same period and is now $2.90/mile.
Over the same period, on-road retail diesel prices, as measured by the U.S. Department of Energy’s weekly survey (DOE.USA), rose 54% to $0.30/mile for operators operating at 6.5 MPG. As of January 9, 2022, the national contract long-haul rate for vans was $2.80/mile, with fuel increases increasing the contract rate by 11%.
When you combine fuel rates and long-haul rates, a shipper operating entirely in a contract market will see a 14% increase in trucking costs.
The surge largely explains Target (NYSE: TGT) CEO Brian Cornell last week describing the unexpected increase in shipping rates the retailer has experienced so far in 2022 (over 10 in total). billions of dollars).
The spread between the spot rate and the contract rate
The spread between spot and contract rates is almost as wide as ever (only slightly less than the depth of the April 2020 COVID lockdown). Spot on contract spread, minus fuel (RATES.USA) – $0.80/mile. The largest spread in history was April 2020 – $0.84/mile.
Looking back at 2019 (when the last freight downturn occurred), the average spread for the year was -$0.43/mile. This means that moving loads at spot market prices is on average $0.43/mile cheaper than contract prices.
Truck carriers will argue that truck contract rates do include some fuel, and the spread is fair from that perspective, with spot rates having the same smaller fuel base as contract rates. On a $1.20/gallon basis (RATES12.USA), the spot contract spread is $0.63/mile. On a $2.00/gallon basis (RATES20.USA), the spot contract spread is $0.51/mile.
Regardless of the value used for the fuel base, the relationship between the current number and the previous number is relative. So the -$0.43/mile change in the spread between 2019 and 2022 will be consistent as long as the fuel base remains consistent between the two periods.
With such a wide gap between spot and contract, why are we not seeing contract rates drop?
The best explanation is that the drop in freight spot rates has taken almost everyone by surprise. We enter 2022 with optimistic expectations that the economy and shippers experience the highest levels of supply chain disruption in history. Few expect the economy to slow, and even fewer expect freight capacity to ease so quickly. Many shippers, stung by 2020’s chaotic route guidance, are understandably wary of hasty reductions in contract rates in response to spot market volatility.
But with bid rejections falling below 10%, the collapse in the spot market has shown usable capacity has quickly returned to the market. Shippers now expect contract rates to follow spot rates and reject rates, as the Bank of America survey shows.
Contract rates have historically followed the direction of spot rates, with a delay of about three months. We are now past the three-month mark since the spot rate peaked.
Sobering Channel Inspection
We know from channel checks that shippers are taking action to cut contract freight rates. Over the past month, we’ve heard:
- A major shipper asked its 3PL to reduce the rate on its contract bids by 25%, but asked for the reduction to come from brokerage deposits rather than spot carriers. The shipper said the 3PL will be audited to make sure this happens.
- A trucking company was awarded a contract from a major retailer but was notified that the business would be moved to the retailer’s in-house fleet. The retailer told the carrier it had too much inventory per store and didn’t need as much rental capacity because of its large private fleet.
- A major consumer goods company has awarded contracted truck fleets a 12 percent annual rate increase, but recently required the same operator to return at least half of it.
- A large beverage shipper has moved at least a third of its shrink volume out of the route deflector and onto its internal loading plate.
While each shipper has different needs and risk tolerances, truck carriers should expect lower contact rates in the second half of the year. The price cuts may not happen until after the end of the second quarter, and shippers may be cautious about shifting some cargoes to cheaper carriers to hedge against the possibility of another tightening in the freight market.
If the market were to match the 2019 spot contract spread, the contract rate could drop by $0.35/mile, or 12.5%. Shockingly, if long-haul rates have dropped so much, the recent surge in diesel will bring shippers’ contract trucking costs back to where they were at the beginning of the year, and it doesn’t feel like much of a reduction.
That’s not good news for trucking companies, as any drop in long-haul rates comes directly from their operating profits. However, it’s good news for consumers and businesses that have had to contend with a surge in shipping rates over the past two years. A large part of inflation is due to supply chain issues and transportation costs.
With logistics accounting for 12% of the global economy, freight costs have a huge impact on inflation.International Monetary Fund estimate Freight growth in 2021 will add 1.5% to the economy’s headline inflation this year. If freight rates have peaked and at least one inflation factor has stalled or peaked during the COVID cycle, that will provide some relief, which is welcome news for everyone.