Shippers, fasten your seat belts. The cost of moving goods is about to get a lot higher. Analysts are forecasting a market reversion that will send spot rates soaring above contracted ones for the first time in over a year.

For some observers, the reversion represents a return to normal. “Typically, your last-minute, spot purchases should be more expensive than your contracted ones,” notes Chris Caplice, chief data scientist at DAT Freight and Analytics who also serves as the executive director of MIT’s Center for Transportation & Logistics and is the founder of the MIT FreightLab. “But freight markets started softening in early 2022 and inverted in April of that year, as spot rates dropped below contract ones.” Rates continued to slide for the remainder of 2022. Most recently, net line hauls (shipping costs exclusive of fuel surcharges), hit $1.60 per mile, down from a more typical $2.30 of early 2021. All the while, shippers gained more negotiating leverage.

Market Reversal

As the saying goes, what goes down must come up. And various indicators now suggest the freight market will invert in a way not to the benefit of shippers. After bouncing along the bottom for the past few months, the price for making a last-minute deal is showing signs of renewed vigor.  “Spot rates bottomed out in February of this year at about 34% lower than the same time of the prior year,” says Kan Adamo, chief of analytics at DAT. “And they've steadily climbed to about negative 15% year-over-year. So, they've cut their margin in half.”

There’s an important related phenomenon to consider: a decline in contract rates. “In every previous freight market cycle, spot and contract year-over-year rate changes had to intersect before the market entered its next cycle,” says Adamo. “And that's happening right now.”

All signs, then, point to a pending market flip. The analysts at DAT expect the market to tighten considerably in the fourth quarter of this year, then flip in the first quarter of 2024.

Higher Capacity

Understanding the present shift requires revisiting last year's downward pricing pressure. “A drop in spot rates typically means more capacity is coming into the market,” says Dean Croke, principal analyst at DAT. “There are more trucks than loads available.”

And why more trucks? Because more carriers entered the market during the pandemic. And that upsurge in players was caused by three forces. First, windfalls from government assistance supercharged new enterprise growth. Second, consumers started buying more stuff, much of which came from e-commerce websites, and all of that had to be delivered by truck. Third, lower diesel prices made it easier to rack up profits with a truck.

It all came together to create a healthy operating environment for carriers, sparking an upsurge in the number of trucks on the nation’s highways. Now, though, things are changing. The economy’s post-surge decline in demand has led to the aforementioned spot rate decline that now challenges truckers’ very survival. Rates have been dropping in an environment in which carriers are paying a lot more for used trucks, diesel and insurance. “Trucking companies cannot support themselves on what’s coming in,” says Caplice, noting that costs now largely soak up the dollars truckers are receiving.

Little wonder there has been an exit of carriers. “We have gotten to a point of market equilibrium where rates roughly reflect the demand levels on the available trucks,” says Croke. Right now, capacity is dropping faster than the decline in demand that has come about by the rise in interest rates and fears of recession. The data shows that we are at an inflection point where shipping rates will start to increase as volumes pick up.

Get Ready for Change

While they still have some operating leverage, shippers should start preparing for the market turn. “The best thing a shipper can do while it's sunny out is to make sure the roof is fixed,” says Caplice. “Shippers need to keep in mind that while they may be getting good gains now, they will pay the price when the market turns. So now is the time to strengthen relationships with asset-based carriers as well as brokerages, so they will be on your side when things change.”

One way to strengthen relationships is to reinforce arrangements with incumbents. “Now’s not the time to shuffle a shipper’s carrier base,” says Caplice. He suggests taking a portfolio approach. Similar to managing a portfolio of investments, shippers should arrange for the right mix of transportation relationships. Some carriers will have trucks dedicated to a shipper for specific lanes; others will be set with contracts, and still others will be used for dynamic or spot shipments.

Some moderation in financial arm twisting is also in order. “How you treat your carriers now is how the carriers will treat you later,” says Caplice. “Even the big carriers are struggling a bit right now. When the market turns, the natural inclination will be to return whatever pain you have caused them. If you were driving down their rates on certain lanes, expect prices to come back up.”

For the C-suites at shipping enterprises, successfully negotiating the rougher operating terrain will require a deep understanding of their changing market position. And that will require careful processing of industry analytics. Caplice notes that there are many ways analytics can help. One is to gain a more realistic forecast of when the market will flip. Another is to identify lanes that are in trouble, that have insufficient capacity, or are characterized by prices that are out of line with the market. A third is to know how any changes in their prices compare with the larger market. Maybe rates went up by X percent on a certain lane. But is that good or bad? How does the increase compare with other rate increases in that region?

The emphasis should be more on determining the most productive steps to take in response to rising freight rates, rather than on figuring out how to push rates downward. “This is a cyclical business,” says Caplice. “The transportation executives shouldn't take too much credit for the soft spot market, just as they shouldn't take too much blame when the market tightens. The market sets the prices, and everyone rides the wave.” 

Shipping operation teams, too, must prepare for the flip. “For traffic departments, the freight calendar is very important,” says Adamo. “We are coming into the busiest time of the year. So the frontline needs to realize that because a lot of capacity has exited the market, it will be a little more difficult to cover freight than it was last year. It might be a little tougher to get trucks.”

Preparing for Disruption

Shippers, of course, aren’t the only market players that need to up their game in response to market changes. Truckers must also secure their business relationships. “Carriers need to know that the market will turn again, and they will get their pricing power back,” says Croke. “But in the meantime, they need to understand that shippers are now looking to lock in capacity as conditions tighten. So carriers need to take advantage of that mindset and build very solid relationships with their customers. The reason to do so is to benefit not from the market cycle that is now developing, but from the next one, when the economy once again slows down.” 

One technique is to lock in revenue streams to increase business predictability. Another is to build relationships with big brokers that can provide regular loading on preferred lanes. And then there’s driver supply to consider. “Even though I may have an excess of drivers right now because the market is soft, I would want to be building a very solid foundation around driver retention,” says Croke. “I may have to pay a bit more. I may have to offer a better benefits package. But I'm going to need more of them next year.”

Brokers, for their part, face a special challenge. “This is the most dangerous kind of market flip for brokers,” says Adamo. “Their business model involves locking in capacity with shippers at fixed rates, then covering that capacity in the spot market as the need arises. And that need can arise in one day or in some cases a year from when a contract is signed.” 

Such risk has to be addressed with higher contract rates. And that can be a hard sell to shippers, who have become accustomed to favorable pricing conditions. Clearly, it’s time for brokers to do some enlightened outreach. “Many of the big brokerage houses have started doing mutually beneficial shipper-facing education,” says Adamo. “And it’s not just a matter of educating them when the market's in the broker’s favor. Brokers can make money in any market, and having shippers well aware of what's coming is only a good thing for the brokerage industry as a whole.”

The most successful brokers, of course, will make the most accurate predictions of where the market is going to head. That is just the kind of competitive advantage that can be obtained through enlightened interpretations of data analytics. “The absolute best thing brokers can do is blend their internal assumptions with external data,” says Adamo. “They need to build a scenario of where costs are going to trend over the life of an agreement, then bake that understanding into their cost basis.”

Resource Link: https://data.dat.com/Empower_iQ