coronavirus and freight: bracing for a u.s. epidemic · andrew cox research analyst...

PASSPORT RESEARCH March 2, 2020 | 8:37 PM EST

Coronavirus and freight: Bracing for a U.S. epidemic Overview Coronavirus cases have been confirmed in 65 countries; there are self-sustaining outbreaks (“community transmission”) in three large complexes, including Asia, the Middle East and Europe. We anticipate severe demand-side shocks to global supply chains driven by modest changes to consumer behavior as people avoid public spaces, travel, and brick-and-mortar retail. In our base case scenario derived from Goldman Sachs estimates, U.S. GDP growth goes to 0.9% in the first quarter, is flat in the second and mounts a substantial recovery in the fourth quarter of 2020. Trans-Pacific ocean freight has already been drastically affected by workplace shutdowns in China, leading West Coast import shipments to fall 10% below last year’s Chinese New Year trough. China’s economy is reactivating, though, and we expect West Coast port volumes to begin their recovery in three weeks to a month. Air cargo rates will post a robust snapback due to capacity constraints, which depend on consumer demand for flights. Airlines won’t add flights without passengers, placing an artificial limit on belly cargo and driving rates up. Intermodal rates and volumes will be challenged by loose trucking capacity. Our base case for trucking is that anemic volumes will keep rates low, even as absolute capacity contracts.

Infections by country/region

China 80,026 South Korea 4,335 Italy 2,036 Iran 1,501 Diamond Princess 705 Japan 274

JP Hampstead Director, Passport Research [email protected] (865) 388-1708 Anthony Smith Lead Economist and Director, Market Experts [email protected] (480) 430-6930 Seth Holm Senior Research Analyst [email protected] (404) 840-2064 Andrew Cox Research Analyst [email protected] (615) 495-4507 Hunter Carroll Research Associate [email protected] (423) 650-5702 Tony Mulvey Research Associate [email protected] (423) 637-1940

1


Epidemiology Recent developments in the now-global Wuhan coronavirus (COVID-19) outbreak are worrisome. Since our last coronavirus update on Feb. 10, overall infections have increased by 122% and deaths increased by 239%, to 90,284 infections and 3,085 deaths, with a mortality rate of 3.4%. Note that confirmed infections are biased toward more severe cases: The number of infections is likely higher and the mortality rate is likely lower. Coronavirus cases have been confirmed in 65 countries, including cases in the United States that have no identifiable origin. Certain aspects of the virus have become clearer. We now know that presymptomatic patients can transmit the virus, and we understand better the linear relationship between patient age and mortality. A preprint in The Lancet confirmed the coronavirus incubation period as five to six days and said the rate of new infections in all Chinese provinces except Hubei (which contains Wuhan) had slowed significantly.

South Korea (4,335 cases, 28 deaths), Italy (2,036 cases, 52 deaths), and Iran (1,501 cases, 66 deaths) have the most serious outbreaks outside of China and have taken control measures of varying degrees. The South Korean outbreak is centered in Daegu, home to a controversial church whose members have spread the disease. South Korean officials have urged citizens to stay home and avoid public gatherings. Italy has the most cases of any country outside Asia; Delta canceled flights to Milan but said they would resume on May 1. The graphic to the left, from McKinsey & Co., compares the reproduction number and fatality rate of the coronavirus to other outbreaks. As of Monday afternoon, the United States had 100 confirmed cases and six deaths (the majority of those deaths were residents of a single Washington state nursing care facility). Infections have been confirmed in 13 U.S. states: Washington, Oregon, California, Utah, Arizona, Nebraska, Texas, Wisconsin, Illinois, New York, Massachusetts, Rhode Island and Florida. In our view, it’s reasonable to expect that the virus will spread across the rest of the country in the next few weeks.

There are, however, some reasons to be optimistic about the coronavirus outbreak and its effects in the United States. The U.S. is much less densely populated than China (90 people per square mile vs. 375 in China and 820 in Hubei province) and has a higher average level of nutrition, air quality and medical care.

2


On the other hand, it is unlikely that American government officials, whose power is devolved across national, state and local bodies, will respond as quickly or decisively as the Chinese government without the declaration of a national emergency. Civil disobedience is more socially acceptable in America, which may lead to difficulties enforcing movement restrictions if they become necessary. Fear of high medical bills may discourage symptomatic people from checking into hospitals and getting tested. All things considered, in our base case assumption, confirmed infections in the United States rise into the thousands, concentrated in large cities. Supply chains will be severely affected by a modest change in consumer behavior away from brick-and-mortar stores, including restaurants. In our best case scenario, current containment measures prove effective and are aided by the onset of spring and the U.S. outbreak fizzles in a few months. In our worst case scenario, the outbreak takes its course over a yearlong period (perhaps with a break in the summer, as in the 1918 Spanish influenza), infecting tens of thousands of Americans with a severe flu that causes a lethal pneumonia in elderly patients. Coronavirus impacts to the macroeconomy Consumer spending is the backbone of the U.S. economy, making up roughly 70% of total GDP. Consumer spending contributions to the U.S. economy have been amplified over the past few quarters as other segments of the economy faltered. The pressure on consumer activity to shoulder the rest of the economy is more intense than ever due to the coronavirus outbreak. Manufacturing The industrial segment was already in a tenuous position before the outbreak. The trade war ramp-up between the U.S. and China through 2019 rattled the sector, creating an environment of uncertainty within manufacturing and discouraging investment. Producers scrambled to find alternatives and make adjustments to avoid tariff woes. The uncertainty reduced business investment, and now, the coronavirus adds another layer of difficulties to an already struggling industry. Capital goods and components that go into manufacturing and have ties to China will undoubtedly be impacted. Whether components are sourced or assembly is completed overseas, there will be added difficulties. The Federal Reserve revealed that industrial production declined 0.3% in January, a weak start to the year for manufacturing and the second consecutive month of decline. Manufacturing accounts for over 70% of the index and dropped 0.1% from last month. This is also 0.8% below the year-ago level. Manufacturing is off to a slow start and will face headwinds from the ongoing coronavirus woes and weak business investment activity. The expansionary status for the Purchasing Managers Index (PMI) from the Institute for Supply Management has yet to translate to

2


tangible results. However, the index is forward-looking and can point to some increased activity in the second quarter should growth persist. However, PMI respondents from almost every major segment of the manufacturing industry are citing the coronavirus as the chief concern. The impacts on the supply chain will likely cause significant delays to production. This means more weakness for manufacturing going into the second quarter of the year. General expectations for manufacturing are low going into the second quarter. The lack of traction for manufacturing will be a drag on freight volumes, put downward pressure on rates and loosen relative capacity. Carriers and brokers should identify which segments are expanding to target growth areas. Retail Retail activity will be crucial in the coming weeks and months. Most major news networks are blasting up-to-the-minute updates about the coronavirus, stoking fear around the outbreak and potentially affecting consumer confidence, but to what extent? U.S. consumers have remained resilient all through 2019 despite constant changes in the trade war with China. There are no fundamental changes for consumer conditions; in fact, the latest numbers for personal income from the Bureau of Economic Analysis shows that there was a significant 0.6% bump in January after a weaker 0.1% gain in December. Further, unemployment remains low and there hasn’t been a notable rise in the pace of layoffs in the economy. However, these favorable conditions mean nothing if consumers are not confident in making purchases. The latest results from the Conference Board show that consumer confidence remained high in February, but the gain in confidence was lower than anticipated. Further, the cutoff for the index does not include the most recent week of the rapid rise in the coverage of the coronavirus in the U.S. Consumer electronics that are produced and assembled in China are susceptible to disruption. The effects of seeing that a

product is unavailable for purchase or an increase in prices will drive the reality of the situation home for many and could be a potential hit to consumer sentiment. However, we have not seen any widespread shortages, just yet. If consumers begin to curtail their retail activity, that will take away from freight volumes that typically haul these goods throughout the country.

3


The amount of internet traffic regarding the coronavirus has diminished considerably, according to metadata from Predata. The amount of attention was highest in late January to early February. Activity is now relatively lower, hinting toward less attention going to the outbreak. However, the same data source powers SONAR’s digital momentum data points, and the digital momentum for Global Recession Fears elevated significantly over the past week. Ultimately, it takes much more to spook the U.S. consumer than the Chinese consumer, but if it happens, the U.S. economy is almost certain to slip into a recession. Construction Construction is one of the shining stars of the U.S. economy and is on a tear after demand built up throughout 2019. Supply-side issues plagued the industry last year and some of those issued slipped into 2020. The lack of adequate supply translated to a rise in prices for homes, especially for entry-level homes, one of the hottest segments. Sentiment toward buying a house is high, starts are ramping up, permits indicate more activity in the future, and mortgage rates are low. Additionally, consumer conditions are stable. These are sturdy underpinnings for continued growth

within the segment. It’s unlikely the coronavirus will hamper demand in any significant way. The main factor that may impair activity is related to the import of building materials from overseas. The lack of inventory is already driving up prices, and further

increases can price potential homebuyers out of consideration. If certain building materials cannot make it into the U.S., that can impact the industry by halting construction and adding to supply-side issues. Coronavirus impact to financial markets The financial markets’ reaction to the coronavirus last week was swift and severe (a top-five sell-off in history) and resulted in $4.6 trillion of losses since equity markets peaked on Feb. 19. The market had shaken off the risk of the virus in the prior month, but an inflection point was reached when cases rapidly spread to Italy, South Korea and Iran, which led the market to begin to price in a global pandemic and the resulting impact to global growth. The nail in the coffin was the Centers for Disease Control and Prevention (CDC) declaring it a matter of when, not if, the coronavirus would become a pandemic in the U.S. Some market observers believe the severity of the sell-off can also be partly attributed to rising momentum for self-described democratic socialist presidential candidate Bernie Sanders and the

4


fact that the market was “priced to perfection” in the days leading up to the sell-off, leaving it particularly vulnerable. All this worry and uncertainty resulted in the “fear gauge” (i.e., the CBOE volatility index or VIX) hitting nearly 50 intraday last week — which implies the S&P could fall by 50% in the coming year — and marking an all-time high, outside of the peak reached in the midst of the financial crisis in 2008.

(FreightWaves SONAR: CBOE Volatility Index vs. S&P 500)

Impact to US equity markets The impact to equity markets was intense, with all five days last week deeply in the red with almost no cessation in selling pressure. The S&P 500 finished the week 11% lower, and relative to their peaks on Feb. 1, the Dow Jones Industrial Average is now off 14%, the S&P 500 is down 13%, and the Nasdaq is down 13%. Last week’s sell-off was in the top five most severe weeks all time for the U.S. equity markets, rivaled only by the bone-chilling sell-offs of the Great Depression and financial crisis in 2008. It was only the fourth time since World War II that the S&P 500 was down over 10% in one week. Finally, last week marked the shortest time in history that U.S. equity markets went from 52-week highs to 52-week lows (in just seven trading days); this is an incredibly rare phenomenon. That said, 12% sell-offs occur once per year on average in the U.S. equity markets, so this is not an unusual event; the extraordinary nature of the coronavirus sell-off was its rapidity and lack of a counter-trend bounce. We have not yet reached a classical “bear market,” traditionally defined as a sell-off of 20% peak to trough. However, we are nearly three-quarters of the way there. Historically, when the U.S. equity markets are off by 20% or more (compared to about 15% off of peaks now), investors are generally pricing in an economic recession for the U.S. economy. And when we do get a 20% sell-off, the equity markets accurately forecast a recession about two-thirds of the time. Therefore, it is clear that the equity markets have come close to discounting at least a shallow, short-lived recession in the U.S. in 2020. On that note, J.P. Morgan (as of Feb. 28) noted that the five-year U.S. Treasury bond is predicting an 86% chance of a recession while the S&P 500 is discounting a 57% chance.

In last week’s sell-off, consumer staples was the best performing sector (up 8.3%), while energy was the worst

5


performing (-17.5%). The average truckload stock was off 15% or more, and the transportation subsector as a whole was down 13.7%. The worst performing subsectors were those deemed most exposed to the coronavirus; for example, airlines (-22%), hotels (-19%) and casinos (-19%) were among the worst-performing industry groups. The best performing subsectors were pockets of health care (such as biotechs developing commercial coronavirus vaccines) and “stay-at-home stocks” (such as Clorox, Netflix, Peloton, Zoom Video Communications, Costco, etc.) Impact to valuations, earnings and growth for the S&P 500 In terms of the impact to U.S. economic growth, in the base case, Goldman Sachs has revised down its assumptions to U.S. real GDP and now forecasts economic growth of 0.9% in the first quarter, 0% in the second, 1% in the third and 2.3% in the fourth. In such a scenario, the U.S. will narrowly avoid a recession, but the downside risks that could prevent the base case from coming to fruition are immense and highly uncertain. The S&P 500 is now trading at 17.9x 2020 earnings per share (EPS), down from its recent peak of about 20x, which is in the 95th percentile historically. Goldman Sachs is now looking for 0% EPS growth in 2020 followed by a 6% rebound in 2021. The 0% forecast in 2020 embeds negative year-over-year EPS growth in EPS in 1H20, followed by a rebound to positive growth in 2H20. Consensus EPS forecasts are still way too high and will need to be revised downward in coming weeks, looking for 7% EPS growth in 2020. Goldman’s chief U.S. equity strategist David Kostin noted, “Our revised profit forecasts reflect the severe decline in Chinese economic activity in 1Q, lower end-demand for US exporters, disruption to the supply chain for many US firms, a slowdown in US economic activity, elevated business uncertainty, and a shift in consumer behavior.” Therefore, the base case impact to 2020 earnings for the S&P 500 embeds significant negative impacts to firms with revenue and supply chain exposure to China and a modest degradation to U.S. consumer spending. In the bear case, Goldman assessed the impact of a severe pandemic, a more prolonged business disruption and a U.S. recession. In a recessionary scenario, S&P 500 EPS would fall by 13% to $143 in 2020 before rebounding by 10% to $158 in 2021, in Goldman’s view. The FreightWaves research team believes the bear case EPS scenario would be more consistent with a low-teens earnings multiple for the S&P 500, suggesting more than 40% downside at a 12x forward price to earnings (p/e) multiple on $143 in 2020 S&P 500 EPS. Nonetheless, after last week’s severe sell-off, the market is beginning to look considerably more attractive on several metrics. For example, the “earnings yield” (the inverse of the S&P 500’s p/e multiple) compared to the 10-year U.S. Treasury bond has widened to a very attractive 4.5% spread, considerably above the long-term average gap of just 2.3%. Furthermore, the dividend yield on the S&P 500 is 1.8% and exceeds even the yield on the 30-year U.S. Treasury bond of 1.63%, an extreme rarity.

6


In terms of direct revenue exposure to China for the S&P 500, according to FactSet, the average sales derived from China is just 4.8%. The input cost and supply chain exposure is not disclosed and is much harder to gauge. In addition, even if the manufacturing of products and services is not conducted in China, often the raw materials required in the manufacturing process are sourced from China and hence can result in bottlenecks and lost sales regardless. However, American companies can draw down on existing inventories and have achieved significant progress in diversifying their supply chains over the past several years in the wake of the trade war; therefore, for a major and sustainable negative impact to S&P 500 companies’ top lines to transpire, the U.S. consumer must be dragged down and quarantined. We do not consider this to be a base case scenario, but the likelihood of such an event occurring is undoubtedly growing by the day. Company reactions FactSet published findings from the 364 S&P 500 companies that conducted Q4 earnings calls between Jan. 1 and Feb. 13. Thirty-eight percent of companies cited the term coronavirus during Q4 earnings calls, but 34% of those companies stated that it is too early to quantify the financial impact or are not including any impact from the coronavirus in their guidance. On the other hand, 25% of companies included some impact from the coronavirus in their guidance or adjusted guidance in some capacity due to the virus. Several major U.S. companies including Microsoft, Apple and Mastercard have lowered guidance for the first quarter in response to the coronavirus. Airlines like United Airlines have pulled their guidance entirely as a result of the uncertainty and loss of business. Federal Reserve In a rare and unexpected move, the Federal Reserve chair, Jerome Powell, issued a short statement Friday afternoon reaffirming that the central bank would use its tools and “act as appropriate to support the economy.” While Powell said the fundamentals of the U.S. economy remain strong, he also noted the evolving risks the coronavirus poses to economic activity. Investor expectations for the Fed to cut rates have skyrocketed in lockstep with the number of coronavirus cases outside of China. As of Friday, CME Group’s FOMC rate move probability measure implies a 100% probability of a rate cut in March, and the fed-funds futures market was pricing in cuts totaling at least 75 basis points by the end of 2020. The bond market has front-run the Fed’s potential cutting of interest rates, as demonstrated by the 2 Year U.S. Treasury bond trading at a yield of 81 bps. The 2 Year is the traditional proxy for Fed interest rate policy, and the fact that it currently trades at a yield of 81 bps compared to the current Fed Funds target rate of 1.5-1.75% suggests that the bond market is baking in at least 75 bps of interest rate cuts. Furthermore, the entire Treasury bond interest rate curve is trading below the current Fed Funds target range, magnifying the bond market’s implicit feedback that the Fed needs to cut. The Federal Reserve's next meeting is scheduled for March 18, during which a cut of at least 25 bps is already being priced in. The futures market is looking for 75 bps of cuts by end of year, bringing the target range to 0.75-1% from 1.5-1.75%.

7


Bonds As we noted, the U.S. Treasury Bond market appears to be discounting an imminent recession in 2020. U.S. Treasury bonds, along with the U.S. dollar, are the biggest safe haven assets in the world in times of economic and financial distress. Investors often refer to bond investors as “the smart money,” at least relative to equity investors; time will tell whether the bond market is correct in its forecast. In bull markets, investors focus on the income statement, in asset bubbles on revenue growth (and “story stocks”) and in recessions and downturns, on the balance sheet. If only for a week, balance sheets and companies’ cash flow generation have come back into vogue. The bond market’s feedback last week was loud and clear. First, the yield curve is now inverted again, which is a classic recessionary indicator; the Fed can unwind this (at least short term) by cutting interest rates on the short end to re-steepen the curve. Last week, as the equity markets sold off, the 10 Year U.S. Treasury bond yield dropped more than 80 bps off of its recent peak (or 42%) and reached an all-time low of 1.07%. The 30 Year U.S. Treasury bond dropped nearly 80 bps as well, also hitting an all-time low of 1.63%. The former suggest real yields (after inflation) are now negative, or conversely the bond market could be forecasting deflation is on the horizon. To put bond yields in context, Treasury bonds now yield less than they did in 2008 and 2009 in the financial crisis when the global economy was on the verge of utter collapse. The junk bond market is more sanguine, with the average junk bond yield still hovering at less than 6% and forecasting just 25% odds of a recession. This is good news for the average trucking company, which typically employs a lot of debt and financial leverage to finance its operations. Commodities Demand The International Energy Agency (IEA) slashed its oil growth forecast by 30% from its previous forecast in January. The IEA warned of a 435,000-barrel-per-day drop in demand for the first quarter — this would represent the first quarterly drop in oil demand since the height of the financial crisis. There are no kindred comparisons for the coronavirus impact on global oil markets. The closest is SARS in 2002-2003, but China’s oil demand has more than doubled since then. The IEA says China accounted for more than three-quarters of global oil demand growth in 2019. Supply OPEC is likely to deliver a large production cut at its meeting later this week. Analyst expectations vary slightly, but Ehsan Khoman, head of MENA research at Mitsubishi UFJ Financial Group, said his “baseline scenario” is an OPEC production cut of 1.2 million barrers per day from Q2 through the rest of the year. Khoman believes if OPEC were to disappoint by cutting anything less than 1 million barrels per day, oil prices will fall further. WTI currently sits at $45.88, which is down from a recent peak of $55 on Feb. 20. Freight Impact

8


The coronavirus has vastly impacted trans-Pacific and global trade. The Freightos Baltic Index from China to North America West has fallen ~10% since Feb. 14 due to the longer-than-expected Chinese New Year trough and the impacts of quarantines on Chinese workers. We continue to expect rates to remain lower until summer at the earliest. The impact hasn’t been contained to West Coast ports; the Freightos Baltic Index from China to North America East has decreased ~8% since Feb. 14.

The Ports of Los Angeles/Long Beach are lining up to be the hardest-hit ports in the United States, due to their exposure to Chinese imports. U.S. Customs data shows import volumes were slashed by ~69% from Jan. 30. On the East Coast, import volumes into the Port of Savannah have contracted by ~21% since Feb. 6.

According to the Journal of Commerce, ~10% (2.04 million TEUs) of the world’s container ship capacity is idle. To put that in perspective, during the 2008 financial crisis, the largest drawdown in TEUs was 1.59 million. Falling demand is also evident in the number of blank sailings, which have drastically increased over the past month. Our base case is that volumes out of China will likely pick back up and accelerate in the near term as more Chinese citizens return to work, which would result in a slow grind higher in port volumes across the West and East coasts. Outside China, countries are likely to see a rapid increase in cases and deaths until summer.

9


Best case is that volumes out of China rebound quickly from pent-up demand while countries ex-China contain the virus before it reaches epidemic levels. This scenario is looking increasingly unlikely due to the fact that infections are multiplying in Japan, South Korea and Italy. Worst case scenario is that China sees another outbreak due to its citizens going back to work prematurely. Couple this with a failed attempt at containing the virus outside of China, and the world economy looks increasingly likely to head into a recession. Maritime volumes would likely stay significantly lower year-over-year through 2020. AAR data shows United States Class I intermodal volumes down 6.2% YTD through week 8. The railroad that has been hit the hardest is Union Pacific, which is not surprising given its exposure to the Port of Los Angeles. As we highlighted in our last intermodal report, we continue to think that Union Pacific, BNSF and Canadian National will be the most-impacted rails due to their West Coast exposure.

Intermodal rates out of Los Angeles deteriorated week-over-week with a decrease of 5.96% on the LAX-DAL lane and a decrease of 6.9% on the LAX-CHI lane. Railroads have prided themselves on their ability to keep intermodal rates steady amid a decline in volumes, but it appears they are increasingly willing to sacrifice pricing power to protect volumes. Railroads are in constant competition with trucking companies. If the spread between intermodal and trucking rates becomes too large, shippers will shift their freight from intermodal to trucks to save money. Although dry-van truck rates have been on a steady decline most of this year, intermodal had been able to keep rates relatively steady up until the past week. Base case for intermodal is that it will be the slowest form of transportation to recover. We expect volumes to remain weak for the foreseeable future. This will likely result in lower rates and profits for rails and intermodal marketing companies. Worst case scenario is that port volumes remain weak for the entirety of the year and volumes are unable to rise for intermodal providers. This would likely result in intermodal providers such as Hub Group and J.B. Hunt feeling financial pressure. Best case scenario is that intermodal volumes rebound this summer from pent-up demand in China along with containment in the United States.

10


Combine this with tightening relative trucking capacity, and rates could turn higher, improving yield and earnings year-over-year in the third quarter. Air cargo has come under heavy pressure already. Available air cargo capacity, measured in inbound air cargo tons to the U.S., has increased by over 200% in February. The major airlines, like United, have canceled flights into major Chinese cities like Beijing, Shanghai and Chengdu. United Airlines has reported that demand for flights into China has decreased by almost 100%, while the other trans-Pacific lanes have decreased by almost 75%. The removal of the flights has taken roughly 5% of 2020 capacity out of the market as the world prepares for a possible pandemic. The majority of air cargo travels via belly cargo on passenger planes. Airliners that operate freighter planes will have quicker recoveries than passenger planes in the best, base and bear cases. The best case scenario for air cargo is that the coronavirus is contained by the summer and consumer demand for flights on trans-Pacific routes returns faster than anticipated. Air cargo rates will recover quicker than other modes of transportation due to the fact that volumes will artificially constraint capacity. The development of the antidote and/or vaccine for the virus will have a positive impact on air cargo as well — pharmaceuticals are one of the most important commodities for air cargo due to their high value and time sensitivity.

(FreightWaves SONAR: Air cargo rates from Shanghai to North America)

The base case scenario is that the coronavirus is not contained or treated quickly and there is no GDP growth and company earnings are flat. Consumer demand for flights will slowly ramp back up to normal. The capacity constraint on high-end consumer goods out of China will drive the price per kilogram up from the low of $2.51 from Shanghai to North America.

11


The bear case is that the coronavirus will spread throughout the entire world, causing a global recession with negative GDP growth. Consumer demand for travel will continue to deteriorate even domestically. Air cargo rates will continue to walk the x-axis as there is decreasing demand for air travel.

(FreightWaves SONAR: Outbound tender volume yearly change for Los Angeles and the U.S.)

Relative trucking capacity continues to remain loose as outbound tender rejections remain under 5.5%. The coronavirus is starting to impact the trucking industry as spot rates have collapsed, especially coming out of major port cities like Los Angeles. Outbound volumes out of Los Angeles are 21.63% below year-ago levels while national levels are only down 1.22%. Los Angeles is the beating heart of the U.S. freight market, and with low outbound volume and increased inbound rates, the heart is struggling right now. Morgan Stanley analysts released their survey of 350 shippers on the impact of the coronavirus on their supply chains. The survey found that currently, ~60% of shippers are seeing some impact on their supply chains as a result of the virus. Of the 210 shippers that are feeling the impact, ~70% stated that the current impact was low.

12


(FreightWaves SONAR: National dry-van spot rates)

The best case scenario for the trucking industry is that capacity is forced to leave the market while volumes are depressed and trucking rates bounce back to a higher-than-normal range. Volumes will bounce back, but congestion at ports will lengthen detention times in a high-volume environment.

(FreightWaves SONAR: Used truck prices in USD)

Our base case scenario for trucking is that carriers will exit the industry quicker than normal in a weak freight environment. Used truck prices will continue their deterioration as carriers aren’t adding new trucks to their fleets and the trucks leaving the industry will flood the used truck market, driving prices even lower. The bear case is that negative GDP growth will brutally force capacity out of the market and that surviving carriers will struggle to find freight. Just a 5% volume pull-back will put operating ratios in

13


the truckload sector over 100% for an extended period. Net revenue per loaded mile and asset utilization will be near the lowest point they have ever been as carriers chase freight for extremely low rates. Brokerages will continue to struggle to maintain margins while growing revenue in the current environment as supply outpaces demand. In the Morgan Stanley shipper survey, one broker said, “Demand appears to be really impacted by the virus. Hoping to see a resurgence in a few weeks as Chinese New Year comes to an end and coronavirus begins to be more contained and controlled.” The less-than-truckload market will see some capacity leave the LTL sector and move back to the truckload sector as truckload rates bounce back earlier than other sectors. LTL carriers have shown in the past that they typically don’t waver on price due to the service they offer their customers. In our LTL bear case scenario, LTL companies will see revenue per hundredweight and overall tonnage decrease.

14

coronavirus and freight: bracing for a u.s. epidemic · andrew cox research analyst...

Documents