Market Intelligence—12.01.10
12/01/2010
Macroeconomics
First of all we would like to wish all readers of World Leather Business Week a very happy and prosperous new year. It seems there are still a few bumpy roads ahead in the economy and we wish everyone luck in handling the challenges of 2010.
Last year ended pretty much in the same pattern we saw at the beginning of December. Speculators continued to reduce their speculative positions for their balance sheets at the end of the fiscal year and that meant, in particular, a reduction of US dollar short positions and some liquidations of long positions of commodities. Oil fell into the early 70s before recovering due to the cold weather in the northern hemisphere. The dollar saw a strong recovery, reaching levels of 1.425 against the euro, which seemed to be the level when, in 2009, speculators started to bet against the greenback without any fundamental reasons why.
Speculators also got triggers to liquidate their position by the financial problems in Greece, were many were afraid that not only a potential failure of Greece could be a problem for the euro area, but other countries such as Ireland, Portugal and possibly Spain could follow and this could become a final threat to the EU currency. The problems in Dubai, despite the assistance of Abu Dhabi, have also shown that the global financial difficulties are not totally over yet.
What was there to learn from 2009 and what can we take into 2010? The balance of economic power has shifted and although the winners from 2009 will also have their problems eventually, the ‘old’ economies will have to accept that their domination and pole position in the global economy are more than threatened.
The US, Europe and Japan suffered most. Russia and the former Eastern Bloc took also a beating while China, India and possibly also Brazil were able to handle the crisis pretty well for different reasons. China, like other countries, used massive cash injections to maintain industrial production and to boost domestic consumption. And it should not be forgotten that manipulation of the exchange rate of the yuan also took place, giving China massive advantages not only in Western markets, but also against other Asian competitors on the export markets. This is an aspect that is also harming the leather industry outside China.
For 2010 most are cautiously optimistic as far as the global economy is concerned. While statistics may see some improvement the daily realities for many could be rather less positive.
While in 2009 in many countries government programmes served to protect a lot of jobs, 2010 will be another tough year for the ordinary person in the street, possibly even tougher. Even with some of the expected moderate growth, production will not return to levels anywhere close to those we saw in 2008. The best many countries can hope for is not to lose more jobs; they will be happy if unemployment doesn’t become substantially worse. Despite all the stimulation programmes and promises made by politicians, the national budgets in many countries have become so burdened that one has to expect taxes and public charges to rise and eat into disposable income.
Some of the above-mentioned positive indicators have been in evidence at the start of this new year. In particular the indices for measuring the mood of the purchasing managers in the US and Europe went up and led people to believe in better times. It remains to be seen if this is real improvement. The US unemployment numbers, which had been quite positive in December, were more sobering again in January leaving the labour market rather stagnant at the start for the year.
Market intelligence
The leather pipeline has been acting pretty much as expected since mid-December. Market activity started to cool down with a few possible exceptions, but in general all available reports were talking about quiet and seasonally adequate trading activity.
This was most likely the result of the development we saw in the last quarter of 2009 with sharply rising prices and volumes of sales which were fairly high. This was nothing unusual for a fourth quarter in normal times, but most people in the trade were still so affected by the crisis and the general economical turbulence that the market performance left a very strong impression towards the end of 2009.
Just going back another year we had quite the opposite scenario at the end of 2008 and, with this in mind, it’s perhaps possible to understand why packers and processors were so relaxed leaving for the the holidays at the end of 2009. At the end of 2008 they faced contracts not honoured, prices in freefall and warehouses already bursting with stock. Owners and producers of the most valuable by-product were starting to consider burying hides or using them for fertilizer, gelatine or collagen production. Many may remember that they had given up hope of lower quality hides coming back into the leather pipeline in any foreseeable period of time.
Exactly a year later the same people left their desks with empty warehouses and a full order book and—now we come to the central point of the story—already secretly dreaming again of the era of record prices seen in early 2008. Many are polite enough not to threaten tanners with these ideas yet, but many are already setting the new targets.
Many of them believe it would be fair and adequate compensation for the losses and pain experienced during the crisis. This position is, of course, just a question of perspective and not of too much help when one is trying to think about future prices and market trends, which are not set by budget targets or dreams, but by the simple rules of the market.
Simple economics
At this stage it can’t be said frequently enough that the hides and skins market is still in the fortunate and comfortable situation of not being driven by future markets, but just by physical supply and demand.
Quite a number of beef producers are still of the opinion that whoever buys the by-product from them is stealing their money. No matter what the price is, it is not enough, because whoever gets it will make a profit from it. This is so unacceptable to them that many have only one ambition and that is to try to claim the margin for themselves at whatever cost. This has become such an emotional issue over the years that a serious discussion about the subject is hardly possible any more.
This is one part of the equation and the second is, that there is no way to figure out what the fair value of the raw material is. An economist would say that this is easy. The fair value is the price buyer and seller are able to agree in their negotiation. This is, at the moment of the deal, the reflection of all influences on the price from both sides and reflects, consequently, fair value of the product at that moment.
Why have we entered into this kind of philosophical kind of discussion? Well, because we feel that the market finds it very difficult at the moment to find a fair level again. Tensions are growing after we had seen such extremes a year ago and in a way the situation is pretty similar to the situation we had after the ‘mad cow’ crisis of 2001, except the opposite way round. Prices were then pushed to the other extremes on the upside and they also needed to find their levels again after the by-product had seen record highs in response to the fear that hides could become a luxury item to produce leather and would be hard to come by with beef consumption seemingly coming to a halt.
All of this taught us the lesson that there is something like a corridor for prices and that was also the reason why we said in our last issue of 2009 that we believe that we are beginning 2010 at what we might call a start-again position. All the price increases we saw leading up to the end of 2009 were just a correction of the extreme.
However, the dynamics have again blinded many. Buyers who failed to buy and stock up on hides when they were cheap think they are already far too expensive and sellers who took big losses and dumped their material in the first half of 2009 still believe they are far too cheap because they still haven’t been able to recoup their losses. Both positions, however are not the basis on which to judge the value and price fairly.
Leaving emotion aside
For people like us who have the great fortune not to be forced to buy and sell hides ‘at the right’ (profitable) price, it is a bit easier to look at things without emotion, and from our perspective we have returned to price levels that are pretty close to the average and do reflect too much of an imbalance. A number of players will not agree.
However, from our standpoint the conclusion is reasonably easy. For the short term any attempt to push prices far away from present levels will not be too successful or will be punished at a later stage. It is pretty obvious that the presently empty pipeline and the low stock position of sellers is favouring higher prices, but at the same time it is also pretty clear that the leather industry cannot afford more rises at this moment. Not to speak of the fact that a lot of the strong recovery was down to the performance of the Chinese market, driven by speculation and easy money. This factor too has a limit. At the same time, a correction on the downside can only be expected when stocks start to rise in sellers’ hands again and that is not too likely in the first quarter with the forward positions most of them are still enjoying.
The split market has not shown much activity recently. Fashion had been a strong factor and the rising price of hides will support price levels of splits too. However, the gelatine and collagen market are showing some fatigue. So, the leather demand could still support the market for a while, but we would not be surprised if the split market could also calm down a bit.
Skins are still performing well. Many skins, mainly lamb and sheep, are still looking like a cheap option for leather production. Consequently, skins were the only item we could trace in the past four weeks for which prices really showed much activity. European lambs have gained 20%–30%, easily, since the beginning of December. That sounds like a lot, but in view of the low levels we came in at, it is less impressive. It is still purchasing season in China until the end of February and it seems that some of the large importers are building up stocks. We are not sure how this is going to progress when the purchasing season is over and things return to normal.
For the coming weeks we think that the market will fundamentally remain steady to firm. Good quality and heavy hides are still experiencing strong demand from the automotive tanning industry, which has—after the disaster of 2009—regained a bit of momentum and can’t get hold of enough adequate material. Whether this can be sustained will depend entirely on exports of luxury cars in 2010. New models and low stocks are supporting this market segment at the moment. Chinese tanners will go for their New Year break soon (SAY WHEN) and we get the impression that their aggressive appetite is fading or calming down a bit already.
The price levels we have reached in the meantime are not tempting them to buy aggressively any more without higher leather prices or further indications that domestic demand is going to remain as high as it was. Normally, things slow down after the New Year in China and we would not be surprised to see things moderate in China too after the bonanza of 2009. So, we don’t expect any correction yet, but a continuation of the bull trend with more significant gains in the short term is not an option for us either. It might be wise to think already about the market in the second quarter 2010.
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