Transportation share prices have been under pressure since the Silicon Valley Bank crisis on March 10, sparking concern about a potential recession, given the historical nature of transport averages leading the broader market. Freight transport shares underperformed in the fourth quarter of 2022. However, they had been outperforming from Jan. 1 through the banking crisis, up 6% compared to the S&P up 3.4%. They are 3.2% higher in the month of April, outperforming the S&P’s 0.4% return.
What Does This Mean?
We sometimes go back and forth on whether the trucking sector can be used as a key economic indicator. However, the current economic indicators suggest that it is. We prefer to look at a checklist of indicators that an economic downturn is on the way. Truck tonnage leads to rail carloads, which leads to industrial production, which leads to corporate profits and GDP.
While no single indicator is infallible, it is interesting to take inventory of some key leading indications of activity and see where the tea leaves take us. The Institute for Supply Management’s ISM index is an indicator of U.S. economic activity based on a survey of purchasing managers at more than 300 manufacturing firms. It had dropped to 46.3, well into contracting economy status. This normally leads to truck tonnage by two to three months. This index turned negative four months ago, and the American Trucking Associations’ truck tonnage was down 4.6% in March. The Index of Leading Economic Indicators also typically leads truck tonnage by about six to nine months. This indicator is down 7.8% and had been negative for nine months.
High inventories, even though inventory growth has slowed, are still rising at a 9.1% rate, in excess of business sales. Declining industrial production, while not negative yet, is precariously close to zero growth and continues to slide lower. Rising interest rates, which the Fed continues to raise, likely won’t stop until the summer.
What Other Factors Point to a Recession?
In the meantime, 5% short-term rates have caused a financial crisis already, but we are only starting to see the impacts of tighter credit. S&P earnings data started the year with an expectation of 7% growth. Now, earnings are expected to decline by 4% this year and are falling. Corporate profits are the lifeblood of job growth, wage growth, capital spending, and travel/entertainment. While some segments of the economy remain relatively vibrant, these important leading indicators all have a seat at the “negative table.”
The only factors that we didn’t check off on our list are declining payrolls, equipment cancellations, and lower orders — which, if truck profits continue to decline, will come in time. Economic and trucking industry indicators are pointing toward worse times ahead, and trucking/freight leads the general economy.
While we are heading into what may be the best-telegraphed downturn we have seen in our careers, that doesn’t mean we yet know the depth, duration, or pace of decline that lies ahead. Nor do we know what the recovery will look like — only that the storm clouds are gathering.
What Does the Purchasing Manager’s Index Say?
When you compare the Purchasing Managers’ Index with the American Trucking Associations’ tonnage numbers, you can see the PMI tends to lead truck tonnage in a fairly accurate direction. In mid-March, many less-than-truckload carriers reported quarter-to-date tonnage and yield results that had volumes down about 6.2%, below expectations. Freight volumes were slightly above expectations in January and below expectations in February, which we attribute to better-than-expected winter weather across much of the country in January.
Cass shipments declined 3.2% in January from the previous month, but normal December-to-January drops are about 8% — so shipments improved versus normal seasonality. Meanwhile, spot truck rates were relatively stable, even as winter came back with a fury on the West Coast and the northern states.
Rail volumes have been a tale of two cities, with commodity volumes (excluding coal, grain, and intermodal) showing surprising strength (up 2.3% through February). But intermodal volumes were down about 8.2% year-to-date, owing largely to the inventory-reduction efforts going on with retailers. We also have seen weakness in chemical volumes on inventory destocking (although that is improving in recent weeks), lumber (on housing), corrugated boxes (destocking), and coal (warmer winter).
Is it a Recession or Merely an Inventory Clear-out?
Despite these ups and downs, we believe much of what we have seen so far is not the weakening economy, but a meaningful inventory destocking of the large inventory builds a year ago. Nonetheless, many retailers have been reporting that their inventory adjustments are close to complete, and some of the retail-facing trucking companies we speak with believe more normal seasonality will begin to kick in sometime during the second quarter.
However, we haven’t really seen a meaningful slowdown in the economy yet related to the Fed’s interest rate increases. The Purchasing Managers’ Index from the Institute of Supply Management, while not a perfect correlation, tends to lead truck tonnage in a fairly accurate direction.
We get a similar graph if looking at the leading economic indicator index or the Cass Shipment Index. However, the PMI tends to lead truck tonnage with the greatest predictive value. The continued weakening of this index suggests that we could be in for slower truck tonnage in the quarters ahead.
Are Used-Truck Sales Another Indicator?
Along with this, we expect to see a further weakening in used-vehicle prices as truck OEMs ramp up new-truck production. This means buyers of truck equipment won’t have as much collateral to trade, in addition to facing rising interest rates. Lower freight rates indicate that demand has not yet recovered.
In our view, growth risk remains to the downside, as the Federal Reserve continues to raise rates to battle inflation and the cost of equipment continues to rise. We expect comparisons to improve from destocking-related weak levels, but perhaps the weaker economy remains ahead of us.
To sum it up, transportation share prices are under pressure, and indicators suggest the economy is heading toward a downturn. Freight transport shares had been outperforming the S&P up until the Silicon Valley Bank crisis on March 10. High inventories, declining industrial production, and falling interest rates are all pointing to economic trouble.
What’s In Store for the Future?
Looking ahead, while we haven’t seen a meaningful slowdown in the economy yet related to the Fed’s interest rate increases, continued weakening of the PMI suggests slower truck tonnage in the quarters ahead. In addition, lower freight rates indicate that demand has not yet recovered, and growth risk remains to the downside.
Furthermore, several freight transportation indicators are signaling a potential recession. Increasing truckload empty miles, lower truckload miles per truck, and falling LTL weight per shipment are all pointing to lower demand for transportation services. Spot rates and truckload rates are also declining, and rental fleet utilization is falling. Railroad carloads are also negative, which could indicate weaker demand for commodities.
Moreover, transportation company margins are under pressure, with some of the largest margin declines since the Covid lockdowns, and on par with past recessions. Truckload margins are down about 7 percentage points so far this month in reports. All of these factors suggest that the trucking and freight transportation industry is currently facing challenging market conditions.
It’s important to note that while transportation share prices and freight transportation indicators can be useful in predicting economic downturns, they are not infallible. No single indicator can accurately predict the future of the economy, and there are always unexpected events that can impact the markets.
In conclusion, the transportation sector is currently facing challenging market conditions, and indicators suggest that the economy may be heading towards a downturn. While there are some positive signs, such as retailers reporting that their inventory adjustments are close to complete, the continued weakening of the PMI and other leading indicators suggests that caution is warranted. As always, investors and businesses should stay vigilant and keep a close eye on the markets to make informed decisions about their investments and operations.