A Rate Index is for Suckers

A Rate Index is for Suckers


Motor Carrier Rates - Contract and Spot


There are two pricing markets for moving freight by motor carrier; the contract market and the spot market.


The contract market is where long term contracts are priced. These contracts typically span a year or more and are usually between a shipper and a carrier. These are contracts where fuel surcharges are necessary due to the volatility of fuel prices. The fuel surcharge is added to the base price of the contract rate to adjust for the cost of fuel during the life of the contract. Contract rates tend to be less volatile than spot market rates since the contracts are for a much longer period of time than spot market deals. Spot market deals are arranged for on short notice and typically for one move at a time.


The spot market is where most small carriers get their loads. This is the realm of load boards and brokers. Although there are contracts involved in the movement of freight in the spot market, the spot market is differentiated from the contract market primarily because the pricing is on a load by load basis and often on short notice. Fuel surcharges typically aren't warranted in spot market deals because the deals typically occur just before the freight is to be moved, therefore the price of fuel is known, price fluctuations are unlikely to affect the cost of moving the load, there is no base price to add a fuel surcharge to and the spot market is almost entirely driven by the supply and demand relationship of loads versus capacity.


Rate Index Prices


A rate index has numbers. But if you just want some numbers how about buying a subscription to my email list. I'll email you numbers every day. You might get loads using my numbers or you might go bankrupt using my numbers. But at least you'll have some numbers. Hopefully, you caught on that my imaginary email list is worthless because I'd be sending you completely arbitrary numbers.


To use data, or results from data, certain conditions need to be met. Trust is needed in the end result in order to depend on it. To trust the end result is to trust the analysis or process. To trust the analysis or process is to trust the data set or sample size. To trust everything listed so far is to trust the raw data and it's method of collection. In other words, everything from the start has to be right and trustworthy for the chain of events that end in a result that is going to be depended upon.


If I am going to use a rate index to influence my pricing then I need to trust the index. In order to trust the index I have to understand it. To understand the index I have to understand the data set, where it comes from, and evaluate it both quantitatively and qualitatively. I need to know the source of the raw data, the sample size, the age of the data and how the calculations are performed. If I don't know these things then I might as well throw darts at numbers on a wall because it's just as untrustworthy and arbitrary.


Can You Trust a Rate Index?


What do we know about the rate indices? If you're trusting your pricing decisions to a rate index you should ask some very pertinent questions about the index and its data set. What is the source of the data (prices)? Who is reporting the data (large carriers or small carriers, brokers, factors, and so on)? How are they reporting the data? How old is the data? If the data is current, how fast is it collected and how is it collected so fast? How reliable is the data collection method? How is the reporting or collection verified for accuracy? How many data points are collected? Is the process and/or data audited? How are the numbers calculated? What is the range, the average and the median of the price points? How are outiers handled? If you're told anything along the lines of "it's proprietary" or "and a miracle happens" then how can you trust it?


If the rate index is used for the spot market, it has to reflect spot market prices. If it reflects prices for a different market then it's irrelevant to the freight spot market because it's simply not a spot market index for pricing the movement of freight by motor carrier on the spot market. A price index that reflects contract rates is a contract market index, a rate index for stock prices is a stock market index and a spot market index for freight has to be the prices of the spot market. Spot market prices are the price conditions of right now. Not prices from a month ago, not prices from a week ago and not even prices from yesterday. The spot market happens in the present. Does your rate index reflect spot market conditions? If you use some critical thinking skills and do your own investigation I think you will find that many of the rate indices do not reflect the current spot market and are, at best, history reports.


All Rate Indices Are History Reports


So is there a rate index that gives today's spot market prices? Not that I'm aware of. Although some large companies could have their own. A large broker may have an internal system to calculate prices and conditions up to the current time as possible, but that's probably their competitive advantage over their competition so they're unlikely to sell that to others. But even in such a system, the data comes from completed deals and other data that probably results in a history report. Although an up to the minute history report is better than a up to yesterday history report.


How current to the moment is your rate index? For every lane? It needs to be as close to now as is possible and it needs to reflect the spot market. If it's from a week ago or a month ago, it's too old to be of any use. If it's contract rates, it's simply irrelevant.


To be clear, historical data from the spot market is a spot market index. The problem comes when you're in the spot market today and pricing a load or capacity for today you need present data; not historic data. That old data is nothing more than a history report of what happened once upon a point in time and today is a different point in time with its own unique variables. Prices of the past are not future prices. It's just as true for the freight market as it is for any other market. You can look at the numbers and lines on a graph and see the line is trending one way or the other, but how do you know when the direction will change? You can read more about technicals (charts) and fundamentals (information) elsewhere, but do understand the deals happen in the present and indices report the results of those deals. It doesn't matter if we're talking about the freight market, the stock market or some other market. Market reports are market reports; historical reports of the action that already occurred. Prices are the results of deals that were already made. Sports scores are the results of games that were already played.


Irrelevance of Average Rates


Averages are often reported for the nation and for a given region. Aside from the fact that these numbers have the same inherent problem of the rate indices they come from, they're also irrelevant to small carriers and small shippers. At best, a national or regional average is only relevant to a national or regional operation (carrier or shipper). But if you're not a national or regional operation then they're irrelevant even if they're accurate.


By national or regional operation I mean your business is operating across the nation or a region simultaneously. If you aren't operating all over the country or all over a region all at once, then the average rate for that country or region does not matter to your business. Because you're not operating all over a given area at any time so it serves as no benchmark for you.


It's similar to buying a gallon of milk at the store. It doesn't matter what the national average price of milk is or what the regional average price of milk is. Because you're buying your one gallon of milk where you happen to be, at the time you're buying it; that's the price that matters to you and it's the only price that's relevant. A regional average price of milk would only matter if you were buying milk all over the region at once. The same goes for freight or capacity.


How to Price the Spot Market as a Carrier


If you don't have access to a reliable and trustworthy, up to the minute, spot market index there is still a way for you to find out the spot market conditions. Remember, as a small carrier you want to know the spot market for where you are and/or where you want to go in the near future. To get that data you want to find out about all the loads that are available that meet your criteria.


You're in the moment, the game has started and there is no result to report on until you close a deal. Post your truck on the load board and/or broker websites. Call on the loads you're interested in. During all of the phone calls take notes and do your negotiating. You will then have the current market conditions for the loads and lanes you're interested in within your current spot market. Not yesterday's prices, not last months prices, not some arbitrary numbers from a magic ball. Once you close a deal a price is created. This price is now historical and could serve as data in a rate index.


Spot Market Indices are for Suckers


So what's wrong with using a rate index for pricing? Aside from ignoring all other available information I suppose nothing. But that's being lazy. If you sell capacity and you always offer the average of the rate index; you'll never get any of the big wins on high priority freight. If you sell loads you might over pay a little or your high priority freight might be left sitting on the dock.


Some rate indices source of data is from factors. Who uses factors? I know many small, often one truck, carriers that haul for low rates and factor their accounts receivable. That's not the kind of numbers I want to use as a guide for my pricing.


I know of a major load board that sells a rate index that goes along with its load board, but they don't openly disclose that those are contract rates. So that rate index is completely irrelevant. But they make money selling it to unsuspecting carriers. To make matters worse, this can serve to suppress rates when those carriers rely on that data in the spot market where the contract rates are lower than the spot rates. I think that's not just bad customer service, that's downright insidious.


Some rate indices disclose how many reports they have and the age. Old data isn't of any use for understanding today's market. And a handful of data points often isn't a large enough of a sample size to be meaningful. Are three reports a meaningful sample of a given lane? What about fifty reports? How many loads are available in the lane?


If you decide to use a rate index for your pricing, I suggest you fully investigate it before depending on it to any degree. After all, if you just want some arbitrary or irrelevant prices I can create an email list or database for you to subscribe to.

 

I'm not advertising for anything. Perhaps you should reread the section you're referring to.