Leads, Lags and Turning Points
The Market Place is Changing
What’s next? Will something change?
The trick to any forecasting is to give warning of turning points. A market is moving in one direction, with players adjusted to that movement, then something happens, and the market moves in a different direction, requiring a new set of adjustments. The players that make those adjustments early and well prosper. The others don’t. Those stakes are why economists are constantly looking for leading indicators ⏤ measurements of a market that give early warning of turning points.
We are fortunate in the U.S. trucking market to have two such leading indicators, both contained in Truckstop.com’s spot market data: their Market Demand Index and their spot market rate data. The two indicators are particularly valuable, given the current market’s peak conditions, conditions that will inevitably change. People want to know. “Tell me, how much longer can this last?”
Why look at spot market data?
In an important sense, any spot market data can be a leading indicator because, by their nature, spot markets are the quickest segment to react to changing market conditions. Contract markets, by their different nature, “lag” market events. That temporal relationship is one reason why Truckstop.com’s data is so valuable. It tells us what is happening in spot markets now and suggests what will happen next in contract markets.
We see that in the data from 2017. Spot market rates began their decisive move upwards in January of 2017, while contract rates only began theirs in June of 2017. As late as September of 2017, contract shippers were still discounting my forecasts of dramatically higher contract rates in 2018, even though spot rates were up by 30% at that point. “It’s just hurricanes,” they said. “Spot markets are giving a really strong leading signal,” I said. Nice to be right once in a while. I was right, in part, due to Truckstop.com’s great data and in part due to my understanding of leading indicators.
It all starts with market tightness.
The first of those indicators I was watching: Truckstop.com’s Market Demand Index, their proxy for capacity pressure. Such measures are classic leading indicators. When markets tighten, prices go up, and vice versa. You can see how smart Truckstop.com made me in the comparison of the grey and red lines in the accompanying chart. By mid-year 2017, the grey line was definitely rising above the red line, indicating that 2017 was getting stronger than the average of the previous six years. By September the gap was obvious, giving me the courage to contradict the still complacent contract-rate shippers.
Are we at a turn?
A year later, that same index is giving a different indication, this time enhanced by some statistical work added since a year ago. The accompanying graph shows the MDI in actual and seasonalized terms. The “actual” numbers show a wide variety of readings, highlighted by the recent spike, followed by a sharp drop off. When seasonalized, the numbers calm down substantially, allowing us to see three distinct periods for the year. The first featured falling readings as the market settled down, after peaking at the time of the beginning of the electronic logging device (ELD) mandate. The market established a new, roughly flat trend through the middle spring as participants were testing the effects of ELD enforcement. However, since Week 20, roughly Memorial Day, there has been a new and declining trend. (The bump-ups in weeks 23 and 26 have to do with the timing of holidays, not sustained market dynamics.) Since the current trend started ten weeks ago, the Index has lost almost 20% of its value.
I conclude that we have reached a turning point in the current capacity crisis. Ten weeks and the 20% drop are more than enough to substantiate that conclusion. This development is entirely consistent with the cessation of new regulation. Only the very strong economics in the second quarter have kept the decline from being more dramatic.
Capacity utilization leads pricing.
So, if the MDI is a leading indicator, when we should expect changes in pricing? History tells us that spot prices lag capacity measures by three to six months. However, the current data seems to be showing an effect sooner. From the last graph, we saw that capacity began to soften in Week 20. The pricing data suggest a turning point in Week 25 or Week 26. The data for the latest week is clearly down. A few more weeks of that and one could draw conclusions. Those possible conclusions? A steady slide back to “normal” spot pricing as the market equilibrates. Moreover, history tells us that an undershoot is likely toward the end of the adjustment. Keep in mind that the tentative language I have used in this paragraph refers only to the precise timing of a turn. The leading indications from the MDI tell us that a turn will come. All that’s left to analyze is the “when.”
Here’s the second leading indicator.
We should also conclude that same downward pressure will eventually impinge on contract pricing, perhaps with a further lag of six months. Spot prices are a leading indicator of contract pricing. Things will happen in contract pricing, caused by the same market forces, but not until later.
You can clearly see those lags in the most recent contract data, now available through the end of June. These prices are continuing to increase. Does that mean that capacity is tightening in this segment? Almost surely not, given what we have learned from history about the leads and lags of truckload pricing. Contract prices, especially as reported in public, clearly lag capacity conditions, sometimes by more than a year. I suspect the lag will be shorter this time, but pricing and profits will stay strong in the contract segment through the end of the year, at least, and perhaps through the end of the 2019 first-half seasonal peak.
Some people say up and some down. I agree.
Note importantly that participants in the contract market will have to reconcile strongly conflicting information. Pricing will remain strong even though the capacity fundamentals are softening. This means that short-term operating plans, still dealing with robust pricing, will be at odds with planning, which must account for weaker pricing (and volumes): a shift from good to bad for carriers and bad to good for shippers.
Of course, firms can continue the more common policy of simply adapting to whatever comes down the pike. I, for one, prefer to grease those adaptations with whatever foreknowledge I can find. The Truckstop.com data is an excellent grease.