OUTLOOK '08 Hard to Read

Jan. 1, 2008
Truck fleet managers driving for success in 2008 will have to keep eyes and ears wide open to steer successfully through an economic landscape whose features at year's start appear sketchy at best. If not quite the fog of war it is certainly that of restive times. Highly cyclical as trucking is, this year the industry will be buffeted by a volatile economy that itself is being impacted by multiple

Truck fleet managers driving for success in 2008 will have to keep eyes and ears wide open to steer successfully through an economic landscape whose features at year's start appear sketchy at best.

If not quite the fog of war it is certainly that of restive times. Highly cyclical as trucking is, this year the industry will be buffeted by a volatile economy that itself is being impacted by multiple factors. That will make it hard for individual fleets in virtually every sector to read and react to the opportunities and the risks on the road ahead.

The economic picture is murky to be sure, but that is mainly because it appears to be of at least two minds. Yes some are starting to screech “Recession ahead!” but other calmer voices argue the economy is fundamentally strong.

So if you are a pessimist the crystal ball will look darkly empty and oppressive; an optimist though will see at as, well, half full but brimming with opportunity.

Consider that expert panelists, including Jim Meil, chief economist for Eaton Corp. and William Strauss, senior economist for the Federal Reserve Bank of Chicago, at an FTR Associates conference back in August presented a “majority opinion,” reports FTR, that concluded “the near term economic environment is uncertain with downside risks having risen significantly in the weeks just prior to the conference. The freight environment depends primarily on developments in the industrial sector; and while the outlook for industrial production and manufacturing is more robust than prior outlooks, the housing situation is likely to hurt the transportation industry well into 2008.”

At the time, FTR, which forecasts freight by mode, stated that it expected truck ton-miles would decline 2.2% and rise “only a miniscule” 0.7% this year.

What's more, FTR reported that the shippers' panel it convened indicated they assumed “freight-hauling capacity will remain tight over the long term due to the demographically challenging driver shortage, increased levels of highway congestion and ever more stringent government regulations affecting transportation.”


Another key indicator of the health of the freight market is the American Trucking Assn.'s (ATA) advanced seasonally adjusted For-Hire Truck Tonnage Index, which decreased 0.3% in October. On a seasonally adjusted basis, the tonnage index slipped to 110.9 (with 2000 = 100) in October. Tonnage was also down 1.5% percent from a year earlier. Year-to-date, the tonnage index was 2.2% lower than during the same period in 2006.

With only two months of data remaining for the year, according to ATA, the 2007 decrease could wind up the biggest annual drop since a 5.2% drop in 2000. The index fell 1.7 percent in 2006.

ATA chief economist Bob Costello attributes the October reading to continued softness in truck tonnage. He notes that while the weak freight environment is broad-based, the hard-hit housing segment was a big contributor to the falloff and still affects flatbed carriers.

“We anticipate truck freight volumes to be lackluster for the next couple of quarters,” says Costello. “There is nothing on the horizon that points to an acceleration in truck freight.” He expects freight levels will stay “soft” until this year's second half-so long as the economy doesn't slip into recession.

Recession is more than a definition — a significant decline in economic activity-it is a psychological drag on the economy. Face it, no one likes calling a recession simply because there is always the fear that declaring one exists will only prolong its presence.

Yet let's be realistic. For one thing, the seasonally adjusted Credit Manager's Index (CMI), prepared by the National Assn. of Credit Management (NACM) fell for the third consecutive month in November. It lost 0.7% thanks to declines in both the service and manufacturing sector indexes.

“This is the first time that there has ever been more than four components indicating contraction since the inception of the CMI in 2002, and it could well be a harbinger of things to come,” according to Daniel North, chief economist for credit insurer Euler Hermes ACI.

North lists the current negative conditions affecting the economy to be high fuel prices, low housing prices, a “crumbling” dollar, plummeting consumer confidence, holiday sales that are “mixed at best,” rising tide of foreclosures and bankruptcies, and a “decaying” employment situation.

He says that adds up to a “potent combination, which could lead the economy into a recession in the first half, yet both the economy and the CMI have remained resilient so far. “However, cracks are starting to show… In all likelihood, the Fed will have to continue to cut the Fed Funds rate well into 2008, perhaps as low as 3.5%.”

In December, the Federal Reserve Board reported a recovery in industrial output-certainly music to trucking's ears. The Fed said production by the nation's factories, utilities and mines climbed 0.3% in November, rebounding nicely from the 0.7% drop recorded in October. Output in the manufacturing sector increased 0.4% while the output of utilities dropped 1.3%, because of a decline in electric utilities, and output at mines increased 1.1%. Capacity utilization for total industry edged up, to 81.5%, a rate slightly above its year-earlier level.

Numbers like those may be enough to hold off recession talk but they are far from anything to shout about.

30% vs. 70%

Jim Meil, Eaton's chief economist, pegs the probability of a recession arriving this year at 30%.

“The main reason is that even now we aren't quite sure that all the bad news is in on housing,” he explains. “The housing retrenchment poses three key risks: a ‘wealth effect’ from hurting household asset values; a financial impact from harming credit markets and forcing credit problems on everyone, and a direct impact from lower new homebuilding. So, fewer homes [means] fewer construction jobs, less freight. In combination with the ever-present risk of higher oil prices, this is a real challenge for the economy.”

Meil argues, sensibly enough, that “a 30% chance of recession implies a 70% chance of not having one.” He says the argument for no recession is built on lower interest rates, consumer resilience and the fact that enough sectors are doing well to offset those that are not. “And overseas economies and customers are lining up for U.S.-made airplanes, farm machinery, grains and foodstuffs, and the list goes on. It will be a close call, but our best guess is the economy dodges the recession bullet.”

According to analyst Chris Brady, president of Commercial Motor Vehicle Consulting (CMVC), “first quarter [trucking] activity will depend on the holiday season. Retailers [before the holidays] were being conservative on sales forecasts. The risk is that if retails sales are below expectations, then there would be a decline in first quarter shipments due to inventory correction. Basically, it comes down to whether we are going into a recession or just experiencing slow growth.”

“Our best assessment is that the economy will have a very slow start in 2008 that will feel close to a recession for some goods-producing sectors — some manufacturing businesses and home-building,” contends Eaton's Meil. “However, the Federal Reserve is engaged in an active interest rate easing program, starting with a 0.5% rate reduction in mid-September, another easing in October and one more in December, likely to be followed by one more when they meet again at the end of January.”

Meil says the impact on the economy of the Fed's moves to ease interest rates lags two to three quarters. Therefore, the central bank's recent actions should be felt this spring. “After the slow first quarter,” he relates, “2008 should see a spring pick up and grow at close to average rates in the second half,” he predicts. “Adding it up, that means we are forecasting the economy should have stronger GDP growth — about 2.6% — in 2008 than in 2007, when it saw 2.2%.”

CMVC's Brady figures that the “optimistic scenario would be 2 to 2.5% GDP growth for '08,” but he hastens to add that “motor carriers want to see any growth.

“One of the real bright spots in the economy is growth in exports due to the low dollar and the general growth of the global economy,” Brady points out. “That will be the major thing that will keep us out of recession. And it's good for trucking — manufacturing means freight plus the movement of the final goods [being exported].”

“There was unusually wide disparity in segments of the economy in 2007,” observes Eaton's Meil, “and the same traits will probably stay in place through 2008.

“You can define the situation [in the goods-producing sector] as opposite poles-the ‘weak’ pole is housing and automotive. The closer you get to housing and auto the weaker your 2007 was and your 2008 will likely be. So housing-related construction, building materials, furniture and household appliances, and auto and auto-parts were soft in 2007 and will stay that way in 2008.

“The other pole, the ‘strong’ pole, is commodities, high-tech, aerospace, exports and non-residential building,” he continues. “Commodities prices are at or near all-time peaks — think about energy goods, industrial commodities and metals, and agricultural prices. So any business that benefits from exposure to these businesses and their pricing power is prospering. High tech is doing well in a global environment favorably disposed to the build- up of high-tech infrastructure.”

CMVC's Brady says that while residential construction is down 20%, public and non-residential construction segments are both up 16%. “What will happen in ‘08 is residential will continue to drop but the other construction segments will continue to rise but at a slower rate.”

So the bright spots for freight are there even if they are not always easy to see. Eaton's Meil admits that correlating how the economic slowdown will impact truck freight has been “one of the thorniest problems” faced by trucking analysts. “Different metrics point to truck freight being on a down trend through 2007. Also, statistics show that intermodal freight has also been on a downward trend in the last year. The key point is that if truck freight is declining, it has performed significantly worse than the economy or the manufacturing sector. After all, both GDP and manufacturing output have grown in the last year, just at disappointing below-average rates of growth.”

Meil says there's “no single reason for this disconnect between freight and the economy-we can only make a few guesses. One, housing and auto are disproportionately large generators of truck freight, even more important proportionally for trucking than they are in the overall economy. Two, some of the sectors that are doing well, like high-tech, aerospace, chemicals and petroleum-refining and farm commodities, are not freight or truck-transportation intensive. Three, exports are great but downstream transportation needs through the wholesale or retail distribution channels get done offshore, not in the U.S. or NAFTA. Four, transportation costs are going up — fuel, labor, regulatory, all make for a tough environment and force shippers to seek new ways to cost-out and trim their transportation needs. So it's a combination of ingredients that appear to be making truck freight under-perform in a not-very-robust economy.”


For the slowdown to end, Meil says the Fed must keep acting to ease interest rates. “Bringing them down will mitigate the housing crisis and promote activity in interest-rate sensitive sectors like automotive and capital goods. Once housing and auto bottom out, which we think will happen in the spring, the drag from declining sectors will diminish. Yet the growth in segments doing well will continue to do well, maybe even better with the interest rate assist.”

Geoff Robinson, director of sales & marketing for Daimler Truck Financial, the captive finance firm that serves Freightliner, Sterling and Western Star buyers, says the reality for all fleets is they must come through a difficult freight market, no matter how long it lasts, with solid financial results.

“We went into '07 with the expectation that the second half would be strong,” says Robinson. “And certainly, '08 will be a challenge- it's a soft market and no one sees that changing. It could be a slow year past the first half.”

Robinson says conditions in the trucking market do “impact how we structure or rewrite contracts as we work with customers on a consultative basis.” In general, he recommends that despite the sluggish freight market that fleet buyers “consider that new tractors offer greater efficiency, including higher fuel mileage and longer service intervals — consider regarding costs with a focus on the long term.”

“We expect '08 will be a lot like '07,” says Todd Renehan, Ryder's executive vp of fleet management solutions sales & marketing. “It will be another year in which we can't look to economic factors to help us out but will have to watch and drive down costs.”

He says that thanks to the price of steel, rubber and other commodities, the cost of equipment will increase as will the cost of environmental compliance, insurance and labor, especially that for retaining technicians and keeping them trained.

Renehan says not to overlook the contribution drivers trained on fuel efficiency including idle time and safe operating can have on both fuel and insurance costs.

He notes Ryder has launched its RideSmart program that uses telematics to help drivers improve their performance.

“A consistent preventive maintenance program, which is the foundation of our system, is crucial,” says Renehan, including close attention to tires. “We feel tire makers are getting better at striking the right balance between fuel efficiency and long wear but with the cost of rubber driving up tire prices proper maintenance is essential.”

While he points out Ryder does not buy trucks without a signed contract, industry-wide he does not expect a significant pre-buy of trucks this year ahead of the next round of EPA-compliant engines due in 2010. “In the past, there was the effect of high freight levels contributing to pre-buying. Given the reduced freight demand forecast for '08, we don't anticipate a huge pre-buy” this year.

That view tracks with that of 59 for-hire, private and government fleet managers who responded to the Q4 2007 Fleet Sentiment report prepared by CK Commercial Vehicle Research (www.ckcvr.com).

While the majority surveyed (78%) plan to buy power equipment in 2008, many will be waiting until Q2 or later and for 32%, the number of power units to be purchased will be “less than a typical buy”.

Fewer fleets surveyed (64%) plan to buy trailers in 2008; of those, 68% indicated their purchases would represent a “typical” number of units for their fleet. A small percentage of those surveyed indicated their equipment purchases in 2008 may be “more than a typical” number; 14% for power units and 11% for trailers.

Chris Maccio, director of sales for Paccar Leasing (PacLease), agrees that the transition to 2010 won't trigger a big pre-buy. “We anticipate seeing the pre-buy volume increase in the second half of '08 and be strong in '09, but it will be a more planned, less frenetic event.”

Maccio sees fuel pricing as remaining unstable and says already the “cost of diesel is rivaling that of the driver” for many fleets.

“As an OEM full-service leasing company, fleet managers depend on us to spec for fuel economy as well as maximum vehicle life and lowest overall cost of operation,” he remarks. “Bear in mind a horsepower reduction to save fuel does not necessarily mean a speed or torque reduction.

“In general terms,” Maccio adds, “using technology is key to controlling costs. Deploying telematics is especially helpful as you can't improve what you can't measure.”

Drivers remain perhaps the thorniest cost issue for trucking operations but one that individual fleet managers can influence far more than they can the cost of fuel, tires, insurance etc., especially if they take a long view of the issue.

Consultant Duff Swain, president of Trincon Group, contends that “every time the economy goes soft, people think the driver problem is better. It isn't — it's just hidden from view for awhile. The driver problem has to do with sources of labor, not just economic conditions, and you can't tackle it with your head in the sand.”

Swain sees the driver shortage clearly reflected in the number of “under-utilized trucks” or what many would call the trucks parked by the fence. “The failure rate for carriers will only climb if the economy remains the same so why create debt for under-utilized assets? Pre-buying,” he adds, “amounts to buying trucks you do not need and for a big or small fleet, that does not make sense.”

Savvy fleet managers will also make greater use of technology than ever to negotiate the current economic straits. “More and more fleets are buying software that generates management information rather than buying technology just to please shippers,” observes Swain. “That surge will continue.”

He sees fleets with roughly 50 to 200 trucks as being “heavily threatened by not having made money” in the sluggish freight environment. “It's a very difficult time for these carriers unless they can move into a specialized niche.

“The trucking market is becoming sophisticated, expensive and technology-oriented,” Swain states. “As capital-intensive as they are, truck fleets need higher profit margins.

“So many fleets had a couple of decent years that they got fat and happy, he continues. “But staying ahead will require using technology to work smarter and to get the right freight.

“Along with the drivers and the right utilization a fleet must know how to market its services to the right customers,” Swain adds. “Marketing is really the final key — you can no longer expect the customer to come to you.”

Indeed, there's no time like this year for steering hard and fast to manage costs and to be where all the freight opportunities are.

Still over a barrel

According to Oil Price Information Service (OPIS) markets editor Denton Cinquegrana, the U.S. Energy Information Administration (EIA) in December put out its most aggressive forecast ever for crude oil and refined products' prices. EIA predicted that both motor gasoline and diesel will average over $3/gal. in 2008 — and that figure takes into account a “spring peak” of above $3.40/gal. for gasoline pump prices.

“EIA is calling for $85.00 crude oil in 2008,” points out Cinquegrana. “That's the highest we have ever heard” [from them]. He says crude prices in that range will assuredly keep diesel and gasoline running high.

On a brighter note, though, he observes that “what could save gasoline [from going higher] in ‘08 is that ethanol is staying relatively cheap thanks to the high production levels. There is a glut of ethanol and blending it with gasoline brings down the cost of gas.” He notes this blending is now mandatory in many states and even rural markets that have been receiving only straight gasoline are now started to see ethanol blending.

But that won't help diesel one bit. “Diesel will remain expensive,” advises Cinquegrana, “given high heating oil demand here and the fact that it is the fuel of choice around the world.” He says the diesel situation has not been helped by recent European refinery issues that even led to diesel being exported here to there. “Diesel supplies will remain especially tight over the next few months till those refineries come back on line,” he points out.

Round, black-and more costly

It should be no surprise given the run up in the price of the commodities that tires are made of — rubber, steel, oil and sundry chemicals — that the indispensable rubber doughnuts will cost more to buy this year.

Indeed, several major tire makers have not been shy about stating the tire price increases they are instituting result from costs they cannot fully control and must pass along.

Yokohama Tire Corp. in December said that in response to continued record increases in raw materials and energy, it would increase the price of medium truck tires and light truck commercial tires up to 4% effective January 1st. “In addition to raw materials, we're also seeing record-high transportation and energy costs,” noted Dan King, Yokohama vp of sales. “Unfortunately, Yokohama's pricing must reflect these costs.”

Likewise, Continental Tire North America announced it will raise the price of its tires up to 6% effective February 1st. In November, Michelin North America said it would increase prices by up to 6% on Michelin and BFGoodrich brand replacement tires and by up to 4% on MRT retreads sold in the U.S. effective January 1st. The Goodyear Tire & Rubber Co. back in November increased the prices of its Goodyear, Dunlop and Kelly brand commercial tires up to 5%, citing “continued increases in raw material, energy and transportation costs.”

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