As shippers plan out freight and logistics costs for the year (or more) ahead, a major part of the decision-making process involves spot rates vs. contract rates. These two most prominent freight rate options - and which one a shipper leans on the most - have a great impact on how much a company pays in shipping costs. Perhaps now more than ever, it's important to know the difference, and whether to use spot rates vs. contract rates more.
What are spot rates in shipping?
Spot rates in shipping are the rates on the spot, as in the price a freight service provider offers at a specific point in time for a specific load and a specific route. Supply and demand - and the interaction between these factors - directly influences spot rates in shipping. When a given route has plenty of freight resources available with fewer shippers using it, spot rates go down. When the reverse is true - resources are scarce and demand is high - they go up.
While a spot rate quote may be good for a day or two in some cases, the market is so dynamic that spot rates can change even hour to hour. Companies that tend to utilize spot rates in shipping most often are smaller shippers lacking the volume for an annual contract. In addition, larger shippers that encounter unforeseen needs or have shipping demands their contract carriers are unable to meet also turn to the spot market.
What are contract rates?
Contract rates in shipping are prices set between a freight provider and a shipper over a long-term period - usually one year - for a particular freight lane. These contract rates are negotiated and agreed upon based on projected volume and shipping requirements over the length of the contract, rather than based on just one moment as spot rates are. Unlike contract rates in other industries, contract rates in shipping are prices only. They do not guarantee that a carrier will have capacity for every load a shipper wants to ship, when they want to ship it.
Contract rates are on a first-come, first-served basis when the carrier has the capacity. Otherwise, carriers leave room for spot loads to ensure their resources don't sit idle awaiting the next load from their contracted partners. That lack of guaranteed capacity makes planning ahead key for shippers to get more of their loads transported under contract rates. The early shipper gets the worm - that's the saying, right? It also means companies should have multiple contract agreements for their most important freight lanes to have backup options outside of the spot market if one provider lacks capacity at a given time.
Are spot rates higher than contract rates?
Spot rates can be higher or lower than contract rates. They are completely dependent on freight and shipping supply and demand at a specific point in time, but on balance, using spot rates leads to significantly higher shipping costs than contract rates. And their volatility makes budgeting a nightmare. In the comparison of spot rates vs. contract rates in shipping, both are influenced by market conditions, but contract rates take a longer view, smoothing out the highs and the lows found in the spot market while providing cost certainty. For a shipper, it's impossible to guarantee that in a moment of need, the spot market for your particular shipment will be at a low point, even if demand is generally dipping. An exclusively spot rate strategy is not a gamble worth making.
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