The Economics of Freight
The Relationship Between the Economy & Class 8 Fleet Growth
The transportation industry starts and ends with the consumer. Almost every physical product made or sold in the US economy moves through the commercial vehicle (CV) market.
Class 8 vehicles are the primary haulers of freight in North America (and the world). Booming economic activity results in more freight needing hauled. Hence, freight generated by the economy creates demand for new equipment. It's no fluke that Class 8 demand generally follows the path of the broader economy. Keep in mind dollars of economic output are not equal to freight generated. Consumer spending on nondurable goods and services represents most US economic activity. But durable goods consumption, manufacturing, and residential and business investment drive freight generation and Class 8 market cyclicality.
Why are Class 8 trucks the choice for almost all domestically-produced finished goods? Flexibility, timeliness, reduced damage claims, and often, an absence of transportation alternatives. Department of Commerce (DOC) data show trucking was responsible for about $610 billion (78%) of the US economy's $828 billion freight bill in 2019. From a tonnage standpoint, truckers haul around 2/3 of the freight. We like the old axiom: if you bought it, a truck brought it.
In the past, there was a tight relationship between US gross domestic product (GDP) and the total Class 8 population. This relationship continued for three decades even as the economic landscape evolved.
Between the 1970s and 2000s, the US economy transitioned from:
regulated to deregulated,
low to high tech,
heavy manufacturing to outsourcing,
inventory holding to just-in-time (JIT),
a regional to a national to a global focus,
and brick-and-mortar to e-commerce.
The one constant through the long period of relative economic and Class 8 fleet growth was disinflationary transportation costs. That key factor allowed truck fleet growth to mirror the rate of economic growth for those three decades. Much of the productivity explosion that began around 2007 relates to freight rate inflation. Transportation providers were troubled with rising bottom lines. Rising freight rates, starting in late 2003, drove much of the freight density revolution. That revolution continues to impact Class 8 fleet requirements relative to economic activity as shippers work to offset higher transportation costs.
Per former Federal Reserve Chairman, Alan Greenspan, freight generated by the US economy has grown in volume (cube) but remains stable in tonnage on a per capita basis. Even with more "stuff" today, people still consume about the same amount per year as they always have. So, more people = more stuff. Freight generation per capita is steady over the long term. Slower population growth has longer-term ramifications on economic activity and freight generation. Freight tends to grow fastest early in the economic cycle, as businesses grow and add inventory, and tends to slow later in the cycle. The freight cycle tends to last about two years on the upside. Downturns tend to last anywhere from a few months to two years. There have been six such cycles over the past two decades.
An effective way to think about supply and demand in the truckload (TL) market is the concept of a pendulum. When demand grows faster than capacity and the supply of drivers or tractors is short, the pendulum swings to the capacity owner and prices rise. When supply growth outpaces demand growth, the pendulum swings to the shipper and prices fall. Trying to match long-term businesses with short-term fluctuations in freight demand is cyclical. New entrants respond to loud but short-term price signals meant to attract fleets in tight markets, to meet fluctuating demand. A prime example is the increase in new entrants in 2022 and the subsequent excessive used truck prices. As capacity develops, consumer spending patterns shift and inventory is restocked. Freight demand is then reduced.
Freight rarely grows for more than two years before hitting soft spots. Soft spots, or freight recessions, happen more often than broader economic recessions. There are a few reasons freight is more cyclical than the broad economy.
Freight is more sensitive to the inventory cycle than the total economy. Due to e-commerce, the retailer trend is to add more inventory closer to consumers. This strategy works to meet demand for faster delivery. Growing e-commerce warehousing networks support higher levels of inventory.
Private fleet dynamics are always at work. Most freight data series focus on the for-hire market, which is under half of the US truckload industry. We caution against reading “truckload industry” conclusions from “for-hire” data because roughly 53% of the industry is private. For private fleets, higher for-hire rates justify greater internal fleet investments. Higher private fleet capacity took freight away from the for-hire market in 2019, as the for-hire TL market is the swing supplier of transportation capacity.
The US industrial sector generates an enormous amount of freight, and it is more cyclical than the broader US economy. An industrial recession occurred in 2015-2016 but did not cause an economic recession. The consumer and service sectors carried us through, though a freight recession did occur.
Truck & Trailer Replacement Cycle
For the most part, fleet buyers today buy and hold a truck for approximately three to five years, sell the truck into the secondary market, and upgrade to newer models with updated technology and features. This trade cycle is based on many factors including existing warranty coverage, increasing costs of repairs and maintenance, vehicle uptime degradation, and the condition of the truck, including repairs to cab interiors. Fleets use similar considerations for deciding when to replace their trailers, but trailers have a different responsibility than the power units do, so the trade cycle varies accordingly. A general rule of thumb for truck and tractor replacement is every 500,000 miles. For trucks, depending on the application this could be three to five years, but trailers, with a trailer-to-tractor ratio of 3:1, usually are traded every 12 years or so. Additionally, replacement for trailers will vary by application or use. Dry vans, for example, likely will be traded more often than a more specialized trailer, like a tanker.
The National Private Truck Council (NPTC) shows 2022 trade cycles for trailers are up slightly, with 12.6 years for dry vans, 12.8 for reefers, 17.5 for flats, and 18 for bulk tanks. The American Transportation Research Institute (ATRI) shows the overall average trade cycle in 2021 was 15.4 years. Life cycle, or replacement, is determined by the customer, often by a set rotation, but sometimes determined by financing rather than equipment needs. Over-the-road trailers trade, on average, five-seven years because they're used more often. A grocery or private fleet might keep their trailers longer, like 20-25 years. It all depends on the duty cycle and how freight is loaded into the trailer. Owner-operators may trade when the warranty expires in five years, but most trade after 20 years. Large fleets are more on a three-, five-, or seven-year cycle.
ACT also maintains stock-replacement (population) models for US vocational trucks and tractors. Because of substantive differences in mission and upfront vehicle costs, mortality and return to market assumptions for tractors and trucks differ. Because of fewer miles driven annually and because they are purpose-built for a specific job, trucks tend to not only last longer chronologically, but they also tend to spend more time with the original equipment buyer.
Vocational vehicles, with the addition of a body, have higher upfront costs compared to tractors. So, the first owner needs to keep the vehicle longer to achieve payback. Not only does the unit cost more, but because vocational units run a fraction of the annual miles compared to tractors, the speed of payback is also slower. If the average tractor is running 80,000 to 85,000 miles per year, it takes around six years to get to 500,000 miles and trade-in. At around 35,000 miles per year, it takes a vocational unit more than twice as long to accumulate the same mileage.
Big new-truck-buying fleets typically buy new trucks on a consistent schedule. Fleets that rapidly turn equipment are not set up to do the maintenance on high mileage vehicles. Likewise, fleets equipped to keep their tractors for extended periods are unlikely to start rapidly flipping equipment. Ditto for vocational buyers who keep their expensive, purpose-built, low-mileage trucks meaningfully longer than tractor buyers.
Weak sales from 2007-2011 triggered a period of elevated valuations for late-model used trucks. Strong sales from 2012-2015 and a new “must have” spec change starting in 2016-2017 weighed on valuations for older trucks in 2019 and 2020. Drivers that influence used valuations include:
the price of late-model trucks relative to residual valuations,
fleet profits impact on new Class 8 demand (new sales usually come with a trade-in attached), and
the spot-contract rate spread (DAT data) showing the direction of contract rates, and by extension, carrier profits.
The first-owner model helps us understand pressures at the front end of the market. But it does not recognize the vehicle quality that exists at the second-owner level. At the same time, the total population model counts trucks still in the fleet but no longer working every day or capable of reliable long-haul service. ACT estimates around 500,000 old Class 8 tractors are serving as seasonal workers for US farmers.
The active model offers a “Goldilocks” solution. The first-trade model? Too hot. The total population model? Too cold. The active population model? Just right.
The active population model tries to find the piece of the market doing the bulk of the work and representing the majority of new vehicle demand. This model shows the uptime-adjusted, 15-year-and-under population. The uptime adjustment applied to the 15-year population turns it into the “active” population. Newer trucks have the capability to do more work than older trucks.
The first-trade model shows potential peaks and troughs in underlying trade-in pressure. The active model shows the population doing the work. The total-population model is a benchmark in comparison to external statistics. The total-population model moves extremely slow, so it does not factor into day-to-day market analysis.
Will autonomy change the replacement cycle?
The traditional replacement approach is expected to change with the implementation of autonomous vehicle (AV) technology. Fleets will tend to hold onto an ACV longer than a conventional truck, in part to maximize the payback on the initial higher investment. The expectation is that an autonomously driven truck will be driven in a more regulated, modulated manner, with less wear and tear on the truck. Less wear and tear on the interior cabin, mirroring the frequency of actually being driven by a human driver, will be minimal. Some fleets may opt for a faster trade cycle to get that latest technology. The expectation is that improvements and upgrades will be available for ACVs over their useful life, though there could eventually be some limitations.
But eventually, even with the expectation of longer life and the ability for AV system upgrades, the ACV will be traded out into the secondary market. And what will that secondary market be for a previously owned autonomous truck? Trucks should be designed and developed for flexibility to enable use either as an ACV or a conventional driver-in.
Second-life autonomous trucks can still drive autonomously. AV systems would still be checked and certified to be in proper working condition. The AV system providers would continue supporting the hardware and software under a transferred contract with the new owner. System upgrades would still be available to that second owner. The second life of an ACV could just as easily convert to a driver-in use, with the AV system becoming disabled and no longer serviced or supported by the AV systems providers. Because the truck will have been designed to still accommodate driver-in operation, the second life can revert to driver-in, most likely used in local haulage for first- and last-mile types of haul.
The Driver Shortage
The driver is perhaps the most critical job in trucking. The need for quality, qualified drivers is always at a premier. Still, there are certain times in the truckload cycle when driver availability is limited, and driver shortage becomes a pervasive topic. We don't see it the same way; we look at the driver shortage differently at ACT Research.
The Classic US Truckload Cycle
The Truckload Cycle explains where we are and what to expect next to strategically prepare for the road ahead. From spot rates to driver capacity, the Truckload Cycle leverages historical insights and market data to guide business decisions.