Largest TL carriers continue to add capacity faster than next tier

The largest TL carriers continue to add capacity at a faster rate then the next tier of carriers, taking advantage of a more favorable pricing and truck utilization market, and low interest rates. Excellent data from Avondale Partners indicates that in each year from 2008 through 2012, the four largest TL carriers (Hunt, Schneider, Swift, and Werner) reduced capacity more quickly than the next 7 largest carriers during the recession and then added capacity more slowly through the tepid post-recession recovery. That changed in 2013, with the largest carriers adding capacity at a significantly faster pace (10.2%) than the second-tier group (3.3%). In the first quarter of this year, that pattern continued, with the largest carriers growing by 1.9% over Q4 totals, while the next tier grew by only 0.4%.

Despite the addition of trucks, the largest TL carriers collectively have 5% fewer trucks on the road today than they did at the end of 2007. The second tier have added 3% to their collective capacity over that time frame, but have not added as many trucks as the largest carriers have cut.

The trucking industry is highly fragmented with an estimated 167,000 active for-hire carriers, and these 11 carriers operate less than 10% of the industry’s capacity so it is difficult to draw definitive conclusions about capacity additions going forward. It is also a highly entrepreneurial industry, with a history of small carriers becoming medium-sized and medium carriers becoming large. The biggest carriers behaved more conservatively during the contraction and the slow-growth recovery, but they have become more aggressive in the current tighter-capacity market as they have greater financial ability to add trucks. The addition of capacity may indicate a belief among industry executives that freight volumes should continue to steadily grow over the next few years, and that pricing power will remain with the carriers. That pricing power will be a requirement to fill the seats of the additional trucks through higher driver pay.

The lack of growth among the second-tier carriers may be a result of uncertainty over the effects of federal regulations like the Hours-of-Service rules and CSA. The largest carriers are most capable of absorbing regulatory shocks and the associated increased pressure on margins. Despite the recent large carrier capacity additions, shippers must continue to develop strong relationships with the second-tier of asset-based carriers because they will grow quickly once they gain more confidence that the pricing environment has tipped in their favor. Shippers should also be using one or two large 3PLs/brokers to gain access to the tens of thousands of small carriers that are always seeking to gain market share, but lack the sales resources and name recognition to do so directly.

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Manufacturing index highest since March 2011

The Institute of Supply Management (ISM) reported that the Purchasing Managers’ Index increased to 59.0 in September, the highest level since March 2011 (59.1) and solidly above expectations. The New Order Index and Production Index were particularly strong at 66.7 and 64.5 respectively. After hovering between 54.9 and 57.0 during the second half of 2013, the PMI fell considerably during January and February of 2014 as winter weather forced plant shutdowns and hampered new orders. Although the economy contracted significantly during the first quarter, the manufacturing sector continued to grow as the cost of operating domestic factories is becoming more competitive with Asia. An index over 50 indicates growth while a PMI under 50 represents contraction in the manufacturing sector of the economy. The index reached a low of 32.5 in December 2008 but then recovered more quickly than other areas of the economy. The vertical bars in the graph represent recessions.

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East coast ocean rates reach new high

The major shipping lines continue to have greater pricing power to east coast ports than west coast ports. Spot rates to the east coast are at their highest level since we began tracking the series in 2009. The Shanghai Containerized Freight Index (SCFI) for west coast ports was $2,178 per TEU and to east coast ports was $4,344 on August 29. Prior-year comparisons highlight the pricing disparity between the west coast and east coast ports as west rates are up $213 (10.8%) over 2013 and east rates are up $966 (28.6%). The disparity between the coasts had been fairly consistent over the past year, but spot prices to the east coast have spiked as volumes have risen due to both peak-season shipping and diversions from west coast ports due to labor concerns. The SCFI reflects spot market rates for the Shanghai export container transportation market.

 

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Refrigerated capacity is tight

Morgan Stanley’s refrigerated freight index indicates that refrigerated capacity remains tighter than normal for this time of year. While the market is not as capacity constrained as during Q1, capacity did show the normal seasonal tightening through the end of Q2 and now is tightening again as we approach September. The index is nearly as high as at any point during 2013. The refrigerated index rose to historic levels throughout the first quarter as severe winter weather caused thousands of trucks to sit idle. The lack of excess reefer capacity significantly magnified the winter capacity crunch. Refrigerated rates will likely continue to rise faster than the broader truckload market as no significant capacity is entering the industry despite steadily rising demand. Demand for refrigerated transportation is less correlated to economic fluctuations than dry van or flatbed freight, so the future robustness of economic growth will not necessarily determine demand in this market. The index measures incremental demand for refrigerated truckload services compared to incremental supply. The higher the index the tighter is capacity relative to demand when compared to a prior period.

 

MS reefer 8-26-14

Graph reproduced with permission from Morgan Stanley. For more information contact: Adam Longson at Adam.Longson@morganstanley.com or Bill Greene at William.Greene@morganstanley.com

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Dry van capacity-demand balance favors the carriers

Morgan Stanley’s dry van truckload index indicates that van capacity remains tighter than its recent historical average. Steadily rising demand, coupled with regulatory-driven truck productivity hits have prevented the dry van market from fully normalizing after the winter weather spike from the first quarter. Carriers are still adjusting to the 3%-5% effective capacity reduction under the new Hours-of-Service rules that reached their first anniversary on July 1. The economic decline in the first quarter produced lackluster freight volumes but second quarter economic growth was strong and with the fall pre-holiday shipping season upon us, it is likely that van capacity will remain tight for the remainder of the year. The index measures incremental demand for dry-van truckload services compared to incremental supply. The higher the index the tighter is capacity relative to demand when compared to a prior period.

MS van 8-26-14

Graph reproduced with permission from Morgan Stanley. For more information contact: Adam Longson at Adam.Longson@morganstanley.com or Bill Greene at William.Greene@morganstanley.com

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Flatbed capacity much tighter than normal

Morgan Stanley’s flatbed freight index has risen in recent weeks and is far above normal levels for this time of year, indicating a very tight capacity market for flatbed equipment. The index is higher than in all recent years. Typically, earlier than this time of year flatbed capacity tightness starts to ease and that appeared to be the case in mid-July, but since then capacity has again tightened.  After mirroring its recent historical average at the beginning of this year, flatbed capacity began to tighten more than normal at the end of May. That upward move came later than was the case in 2008, 2010 and 2011. Clearly, capacity-demand balance favors the carriers over the shippers much more so this year than in the previous two years. Flatbed capacity was readily available throughout 2013 despite increased oilfield production and the uptick in housing starts. The flatbed market was particularly hard hit by the recessionary decrease in housing starts, but gained ground in 2010 and 2011 with the resurgence of the American manufacturing sector. The index measures incremental demand for flatbed truckload services compared to incremental supply. The higher the index the tighter is capacity relative to demand when compared to a prior period.

MS Flat 8-26-14

Graph reproduced with permission from Morgan Stanley. For more information contact: Adam Longson at Adam.Longson@morganstanley.com or Bill Greene at William.Greene@morganstanley.com

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Auto assemblies rev up in July

Annualized U.S. assemblies of autos and light trucks increased sharply to 12.85 million units in July (seasonally adjusted), 13% above June’s pace of 11.36 million units and the highest level recorded since May of 2000. Year-over-year growth in July was 27.3%. Our graph is a three-month moving average of seasonally adjusted annualized assemblies. Using this moving average, year-over-year growth was 12.1% in July, a highpoint for 2104. The full year 2014 was anticipated to be robust for auto manufacturers, and after a disappointing start to the year, the July increase is an indication that those expectations could be met. The auto industry has come a long way since assemblies bottomed at a 3.6 million-unit annual pace (seasonally adjusted) in January 2009. Average monthly seasonally adjusted assemblies were 11.4 million from January of 2001 through December of 2007, 5.3% above the average assembly rate for all of 2013 but well below July assembly volumes.

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Retail sales flat in July

Seasonally adjusted real retail sales were down slightly at $184.9 billion in July, still approximately equal to the all-time high. (Note that actual sales are deflated using CPI 1982 – 1984 = 100). July’s sales were 1.6% higher than the prior-year period. Nominal (unadjusted for inflation) retail sales totaled $439.8 billion in July (second graph), representing virtually no change from June and a 3.7% year-over-year improvement. The minimal increase in July was below consensus expectations of a 0.2% increase, but most economists have not turned pessimistic based on July’s data. We focus primarily on real retail sales because they are a better indicator of freight volumes than the inflated figures.

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New home inventories continue to climb

New home inventories rose to 205k (seasonally adjusted) in July. Inventory levels have been slowly increasing throughout the first half of 2014. July’s new home inventory was well above the prior-year level of 171k, and inventories are at their highest level since August 2010, but new home inventories still remain low by historical standards. Inventories rose from 149k at the beginning of 2013 to 187k by December, following a year of remarkable stability in 2012 where the absolute inventory of new homes remained within a consistent range of 142k – 150k. Seasonally adjusted new home inventories rose to 6.0 months of supply in July, the highest level since October 2011. Prior to July 2013, the months of supply figure had remained below 5 months since February 2012. The average months of supply over the last 50 years is 6.1, so current new home inventory is at “normal” levels. For the 9-year period of 1997 through 2005, the inventory level averaged 4.1 months with relatively little volatility, despite the dot-com boom and subsequent recession, and we are well above that level today. Growth in the rate of sales had driven down the months of supply even at higher absolute inventory levels, but that no longer seems to be the case. One silver lining is that inventories are broken into 3 categories - Not Started, Under Construction, and Completed. Inventories remain low for the Completed and total of Completed and Under Construction categories. The vertical bars in the graphs represent recessions.

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Housing starts soar in July

Housing starts exceeded estimates and increased by 15.7% in July to 1,093k (seasonally adjusted annual rate – SAAR) from a total of 945k in June (Note that June starts were revised upward significantly). July’s year-over-year growth was also strong at 21.7%. Single family starts totaled 656k, an increase of 8.2% from June and 10.1% from prior year. July housing starts were the highest since November of last year and the second highest since housing starts collapsed during the recession.  Coming into this year, many economists had anticipated that a surging housing sector would propel broader economic growth, but the sector has not fully lived up to these expectations up to this point. There were 585 thousand total housing starts during the first seven months of 2014 (not seasonally adjusted), up 9.1% from the 563 thousand during the same period of 2013. Severe winter weather was a notable headwind that plagued the housing industry and the broader economy during the first quarter. The Census Department reported total 2013 housing starts at 925k, a robust 18.5% above the 781k housing starts recorded in 2012. There remains a lot of ground for the housing sector to recover from the recession. Housing starts are still far below the average of just over 1.5 million per year over the last 40+ years, and even farther below the 2.2 million peak of the most recent housing boom. Since 1968, the U.S. population has grown from 200 million to over 300 million. Total starts reached a low point of 478k (SAAR) in April of 2009, while single unit starts bottomed out at 353k in March of 2009. A low housing starts figure not only impacts transportation demand for building products but also for appliances, furniture, and other related items, so continued improvement in the housing sector should lead to rising freight volumes. One analyst estimates that each housing start generates 8 truckloads of freight. The vertical bars represent recessions.

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