Transportation stocks have been hammered over the past week.

The iShares U.S. Transportation ETF (IYT) has fallen 13% since last Friday. They dipped to a 52-week low this morning.

 The IYT tracks an index that invests in companies defined as transportation. This includes air freight & logistics, airlines, airport services, highways & rail tracks, marine, railroads, and trucking.

The move raises a red flag as the industry is a harbinger of the economy. The obvious headwind stems from rising gas prices which is a primary Cost of Goods Sold. Supply gluts and labor shortages provide an added layer of difficulty to operations.

Still, recent commentary- LEVI, STZ, and CAG earnings this morning as one example- suggest demand remains stable and the companies continue to see pricing power. So what is happening that has investors jumping ship?

On Friday, Freightwaves CEO Craig Fuller wrote an article that garnered investors’ attention. Freightwaves provides near real-time information and forecasts on how these developments will impact the logistics market and participants. It is highly regarded in the investment community. The title of the article was ‘Why I Believe a freight recession is imminent’.

Fuller discussed the 2019 trucking debacle which saw thousands of small and mid-sized trucking companies fail.  This is part of the normal cycle for the sector as barriers to entry are low. Fuller noted a trucking cycle tends to be three years. High rates generally lead to increased participation which eventually leads to oversupply with too many trucks chasing high-paying spot freight and high load volumes. The primary problem is capacity expansion always continues well past the peak.

Fuller argues tender rejections, a leading indicator of spot rates and thus contract rates at a lag, provide the best insight into real-time supply/demand in the truckload sector. A high rejection rate means trucking companies have more customer options, a low rejection rate means carriers have fewer options.

This rate was 18.7% at the beginning of March. It has declined to 13.9%. The end of March is a seasonally strong period for carriers, so it is surprising to see this wane. This suggests weakening demand in the trucking industry and, potentially, overall demand in the economy.

The article caught the attention of Wall Street and was credited for the 4% sell-off in the group last Friday. Broader market weakness played a factor in the downward momentum. The ETF broke below key support at $255 which further muddies the water.

IYT Chart:

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The IYT Industry breakdown is as follows:

  • Railroads 31%
  • Air Freight & Logistics 29%
  • Trucking 22%
  • Airlines 16%
  • Marine 2%

One can argue that Trucking is only 22% of the ETF. An article cautious on the trucking industry should not impact all the other sectors. The bigger problem presented in the article is the idea that we are seeing a slow down in demand due to inflationary pressures. A slow down in demand may help the Fed lower inflation, but it points to a weak performance in the transport industry while it deals with rising prices.

Digging further into the IYT, the top holdings include:

  • Union Pacific (UNP) 19%
  • United Parcel Service (UPS) 17%
  • CSX Corp (CSX) 7%
  • Uber Technologies (UBER) 5%
  • Norfolk Southern (NSC) 4%

The top 5 holdings make up 50% of this ETF. There are a total of 52 holdings in the ETF. UNP makes up an incredible 19% of the portfolio. Its weighting is nearly as much as the entire trucking industry!

Shares of UNP were breaking out above resistance at the $270 area at the end of March. It witnessed a nasty reversal after hitting an all-time high of $278 on March 31. Shares have tumbled 14% in April. Now we see them come into key support levels around $240.

UNP Chart:

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Do we want to buy the IYT since UNP is coming into support? No, not yet. The warnings from Freightwaves should be respected. The good news is that we will be getting commentary directly from the companies once earnings season kicks into gear.

Companies should provide some clarity on the demand cycle. The overall supply chain, worker shortage, and high gas prices will all play important factors. This group will be an important read for the economy and investor sentiment.

Fedex (FDX) is the sixth-largest component in the IYT. It reported results on March 17. The stock fell 4% in reaction to its report. The company missed EPS expectations due to lower volumes resulting from Omicron-related labor issues and higher costs. The company said that volume trends started to recover in early March, but the Freightwaves article suggests that may have stalled. FDX also backed away from its double-digit margin guidance from freight due to higher costs, particularly on the wage side.

Shares of FDX did find support at $212 the day after earnings. It rallied to the $240 area on March 29 before seeing shares fade. The stock has fallen 14% to trade at $204. The $200-psyche, which also happens to be the March lows, will be the key area to watch for support.

Here are the important early earnings reports for us to watch:

  • Delta (DAL)- 4/13; Airline trends.
  • B. Hunt (JBHT) 4/18; First major trucker.
  • CSX Corp (CSX)- 4/20; First major rail play.
  • United Airlines (UAL) 4/20.
  • UNP (UNP)- 4/21; This is 20% of the IYT.