Market Intelligence - 29.06.2010
Macroeconomics
During the last two weeks the financial markets have been totally undecided about whether the global recovery is safe and steady or whether the double dip scenario could lead to another fundamental crisis and downturn.
It seems that the economic leaders in the old economies (the US, Europe and Japan) are still having problems accepting that their market importance in the development of the global economy is shrinking. They are still the biggest economies, so their situations still have a major impact on the situation, but their influence is rapidly shrinking as they are increasingly caught up with their own problems which are, as we all know, pretty overwhelming. Those with money and the ability to invest, however, are looking for opportunities, particularly in other regions. The BRIC countries (Brazil, Russia, India and China) are at the front of the queue with South America and suddenly also Africa edging into the limelight.
The old economies are so busy dealing with the aftermath of the financial crisis they have no time (or money) to focus on restructuring and modernisation. The G20 and G8 summits gave another interesting example of how different the opinions and positions are. The debate focused on saving (Europe) and spending (US), regulation (Europe) and free markets (US), state responsibility (continental Europe) or individual responsibility (US), which make forging common strategies almost impossible.
The general master plan for the next decade(s) is not yet in place and there are very few signs that political systems are capable of coming up with one. The corporate level is, in the meantime, busy reshaping businesses for the future and in many cases it seems they have been reasonable successful. Global or regional, innovative or traditional, mass or niche are where some of the key questions lie. There are a number of other issues that are driving owners and managers these days and this is reflected in the discussions within the leather pipeline these days.
The financial figures were pretty mixed again during the last two weeks. In general, it was the negative ones that dominated. News from the US property market was particularly discouraging. New house sales fell by 18.3% in May compared with the same month a year ago and, considering the great importance of the real estate market for the US economy and private consumption, this was pretty negative.
Equity prices were also vulnerable but in general stock markets were falling. Commodity prices were rising and oil prices also went up by around 10%. The currency market saw the euro regain a bit of strength and the focus is shifting a bit from the debt crisis in Europe to the possible budget problems in the US. While the US government is still focused on spending with the programme for growth on the agenda, some experts in the financial markets are worried the budget situation could force the government to save more.
Most of the global economy is now entering into summer mode. With the first-round matches of the World Cup over and with fewer countries desperately supporting their teams, football is losing some of its attraction. In just two weeks it will all be over again and the industry in the northern hemisphere will finally start preparing for the holidays.
Market intelligence
June and July are traditionally the low season and although productions are still running in full the general purchasing and active selling activity is already fading as summer gets into full swing. With the elimination of a number of World Cup football teams from countries linked to the tanning industry, some of the excitement has already faded. Consequently, the market reports will become shorter until activity rebounds again or until after the summer.
The leather pipeline is still fighting with the problem of profitability. Other than that the situation hasn’t changed much. Shoe and automotive tanners are still enjoying reasonable order books and productions are running between good and absolutely full. When you speak to tanners in this segment today the discussions are pretty mixed. Contentment about the level of production, which is good for the cost structure, is mixed with complaints about negative margins. Over and over again we are hearing people ask how it can make sense to produce at full capacity when they are losing money on every square foot invoiced. This problem differs from tanner to tanner. Selling prices are different, as are stock valuations; however, when it comes to replenishment costs the situation is the same for everyone.
Different viewpoints
Consequently, there is not much new in the market. Raw material prices have seen some erosion from the peaks we saw between mid April and the end of May, but not enough to match leather prices. Some grades such as ox and steers have even seen some increases since the market correction. While part of the raw material market is still backed by high production and stable orders (shoe and automotive), the rest of the market is in strife (particularly upholstery). This is also reflected in the behaviour of the market players. Sellers are looking at the positive market segments and buyers are focusing on the negative ones and both are hoping that the situation will influence the market in the way they want.
However, the fundamental problem persists. Leather prices and margins are not sufficient and this needs to be resolved for the rest of the annual production season. It seems that it will be related to the general situation in the global economy. Although we pointed out in the macroeconomic section that the US, Europe and Japan are possibly losing some importance, they still account for a large and important part of the global consumption of consumer products. Any decline in consumption or orders would have an impact on production and raw material demand. This is certainly not only related to the demand in the ‘old markets’, but also of course to questions over whether the consumer market in China can preserve the level and heat it has shown.
We believe it is not only a question of the present supply (kill) and demand situation, but also a question of if and where stocks are already available along the pipeline. We think there are some. It is possibly not what and where it is needed and this is definitely not true across the board, but almost every day one hears about inventory and about people who are discreetly trying to check whether there might be buyers for their material. Most of it is still in the sidelines and few of the offers look honest and serious, but it is obvious that at the present price levels some suppliers would rather sell than hold.
Corruption tale continues
The latest news from Italy about the VAT story was also a bit worrying. More people are believed to be implicated and in the meantime tax advisors and other outsiders have been accused of being part of the game. More operators are involved and it is becoming obvious that the competitiveness of a great part of the Northern Italian tanning industry in recent years is owed to the evasion of VAT payments. Since one has to assume that this is over now, it is not only a matter of what will be cleaned up from the past, but also that the industry is no longer fully competitive without the assistance of the unpaid VAT.
For the Italian industry restructuring time has been short. The descent of the US$ until this year and cheaper production costs in Asia made the calculations for Italian commodity tanners extremely difficult and the VAT evasion was a means of escape for many. Most of the tanners involved did not see it as an illegal operation to maximise their profits, but as a defence mechanism to rescue their companies. The more tanneries that have to close or reduce their operations as a result of the investigations, the more the supply and demand balance will be affected.
Time will tell
The splits market did not offer much news again. Prices remained almost stable and interest from the gelatine and collagen industry is fading seasonally. However, this is having a pretty limited influence so far.
The skins business was possibly the most active market. There is constant interest for new season lambs and even the Turkish tanners continue to be active buyers. China has become a bit picky now it is summer and is only buying from places it trusts to provide decent quality at this time of year. Goats are also still enjoying decent demand from the shoe industry, so the market is still in good shape. We hear that tanners and shoe factories are planning to use goats and skins next season and the segment seems to have reached healthy levels for the moment.
We are not expecting much change in the coming weeks. It seems that the market still needs more time to create the conditions for a new trend. Fundamentally, it could still be weeks before this happens. We still favour the idea that price adjustments will be on the downside rather than believing there is real upside potential over the summer.
