Market Intelligence—07.09.10
07/09/2010
The financial markets are busy trying to evaluate the daily data coming in from the various markets and the main reason is to figure out if the US, Japanese and European Union economies are in recovery mode or preparing for further trouble. This is garnished with the debate about whether the Chinese economy is in bubble status and when the bubble is going to burst. We refrain from discussing and reporting any individual data at the moment as the markets are not interpreting any of them according to the fundamentals.
Numerous ‘experts’ are publishing their theories and everybody can find something for every taste and position. However, in one thing most are in agreement: if the US Federal Reserve and the Japanese government are still talking about and initiating further stimulus activity, things cannot be too bright in their countries. The biggest concern in the United States is definitely the labour market—the markets celebrate when the data on jobs is not as poor as expected—followed by the problems in the property market.
The situation in Japan is definitely not much better. The problems are different ones, but the consequence of an ageing society, declining incomes and uncertainty about the outlook for jobs are making the consumer unwilling to spend more money.
Europe is still an area of mixed emotions. Germany is showing the best performance thanks to its industrial base and its strong core industries, machinery and automotive. However, the German recovery is not seeing any significant improvement in consumer spending so everything depends on export, and with the grim outlook in many markets except China the recovery is pretty fragile and could be badly hit when exports tumble because of fears of recession in some of the main markets. Other EU countries such as France or Italy are pretty flat, while the problematic ones like Greece, Spain or Ireland are not really taking off yet. Not to forget the UK, which is also still struggling to get back on track.
In China things are still set for good times ahead. The government claims to have things under control and the bubble risk can be handled. Growth is expected to slow down in the next quarter to 7%, but this would keep the 8% target for the whole year still intact. The government is predicting this level of growth for the next ten years. The people love to hear this and such a positive outlook is keeping them busy in buying property and consuming in the stores. However, there are also warning voices. Many feel, that the property market at least in the ten biggest cities is set for a sharp correction. They mention the large number of apartment and office blocks that are vacant. Their argument is striking: how can prices rise when there is actually not enough demand. Many of the buildings are financed and one day the credits will have to be paid back. Another issue is the ageing society. The one child policy is showing its long-term effect and could put a damper on consumption in a few years with elderly people being less consumption-oriented than the younger generation.
The financial markets have been quite unimpressed by these long-term considerations and have remained in the pretty narrow ranges we saw all summer. Oil, stocks, gold and also currencies are hardly moving and show little sign of building any clear new trends. Only the yen is advancing and perhaps the speculation on the shortage of foodstuffs could be mentioned as being a bit unusual. We believe this might be the quiet before the storm and one has the gut feeling that more volatility could lie ahead in the autumn.
Market Intelligence
Over the last week the whole leather pipeline was gathering in or watching the news from the All China Leather Exhibition in Shanghai. Many took the chance also to visit the World Expo held in the same city. The event confirmed what we knew before the show, although we were never really sure if we were right.
Visiting China confirmed that the success story hasn’t ended yet. Despite all the concerns about property bubbles and bad loans given by the state banks, the country is still thriving and people are still pretty happy to spend and enjoy what they make. This might be related to the property boom, and it might also have an end the same way everything has an end. For the time being one can hardly find anyone in China who believes that any big problem is on the horizon. Right or wrong this means that possibly growth rates are slowing down, but just slowing down and not turning negative.
Streets are full, shops are full and one can hardly count the new outlets that are opening up every month. Car sales jumped for the month of August and there are many who predict that despite all the concerns there are still enough Chinese people willing and in the position to consume at a high rate. It is always impressive to see the sheer number of people and the level of consumption every day.
This does not mean that every consumer product can be sold at whatever price; not all products are consumed in the same pattern. In China today one can see again how much luxury and commodity are drifting apart. The few rich and also a good number of the middle-class are willing to pay almost any price they can afford for prestigious products. But they are at the same time super price-conscious when it comes to products that are just day-to-day needs. This applies to some leather products too. Despite the positive impression one still has about private consumption in China, retail pundits are confirming the trend that we have seen in other markets as well. The middle price section is continuously eroding. In the case of leather this means that the concerns we have had for some time—that leather could be substituted by alternatives, reduced in the consumption per production unit or at best just downgraded in price or quality—seem to be confirmed.
At the show in Shanghai almost all of the tanneries were not complaining about the orders they have, just about the margins they are facing. They feel that the more they produce, the more they lose. Our concerns about raw material prices started to show some evidence during the show. Most raw material suppliers were reporting strong resistance from their buyers to accept the levels established during the summer. The US market, which is still the main benchmark for the international industry, has eroded in the past weeks and trustful sources were admitting that further discounts had to be taken during the show. The biggest problem arising from this is that tanners need to buy cheaper, but at the same time they also need to protect their leather prices and the increases that they are asking for in negotiating at the moment with their customers.
Hardly anyone is really interested in reports of reductions in prices because this could put the buyers in a position to reconsider their price ideas for finished leather or even wiping away the price increases asked by the tanners for the next season. Most players were pretty cautious in their statements about what was being sold and at what prices. As far as public price reports go the declines have been pretty moderate in a range of 2% to 5% depending on origin and grade.
In particular in Europe suppliers are on high alert. It has come to the mind of some now, that a number of European hide prices have lost contact with the international market levels. The reasons are well known. There is always the day when things return to reality and in particular males, which had been so scarce in the early summer, are now fighting increasing supply to find their real levels in the international price ranking.
Demand stays strong
It is pretty easy to understand why sellers have such a hard time accepting falling prices because there is no particular problem with demand at the moment. So why should there be any changes and why should one except lower prices for material still needed and wanted by an industry? Well, it is the old problem of seasonality and the question of how much leather can really cost in the market. A lot of people still get wrong impression when overhanging demand due to seasonal budgets and contracts needs to be filled, or short-term variations in beef demand suddenly cuts the slaughter numbers and the availability of raw material. Both might have a short-term effect on the market, but no one can kill the logic of the price and value relation between leather and raw material. Raw material prices for mainstream leather production had been pushed too high and the consequences we are now seeing are adequate adjustments without any serious demand problem. If leather is too expensive it is either used in reduced amounts or it’s going to be substituted to keep the finished product price in keeping with the target levels of retailers.
The situation is not equally good everywhere. Upholstery leather demand is still the biggest problem and even in China domestic consumption of upholstery leather is substantially down. Manufacturers are hoping for a good recovery after October because they are betting on an increase in furniture sales towards the Chinese New Year. In the upholstery segment the image of leather has suffered in China as it has in Europe. Pretty poor quality has disappointed a lot of buyers who will think twice before buying leather again. The estimates of the decline of upholstery leather production in China are running from 10% to 30% against a year ago.
The boom product of 2009, bag leathers, are also suffering. The demand for bags is probably not declining, but as a result of the rising leather prices a lot of manufacturers have either designed smaller bags or they are using alternative materials. Maybe it is also just that the pipeline is too full and retailers are a little bit more conscious about reordering.
In the side leather business, most consider shoes as still being something that people will buy, either because they need them or they consider them as an affordable fashion item, and so it continues to be pretty steady. We couldn’t find anyone who thought that the demand and retail of shoes is likely to see any decline today or in the seasons to come. Again leather prices are the big problem. Shoe manufacturers and retailers are not willing to pay the increases needed on the basis of the recent raw material levels and we heard about some large names in the industry who are trying to lower the price per square foot for commodity leather types. Consequently tanners were trying to bid raw material prices down and since shoe leather production is still covering the majority of the leather industry this was recognised in the marketplace as an indicator of how things are and how they might develop in the next few months.
The automotive leather industry is still a segment on its own. Car sales have recovered but are still reasonably flat. The strong performance of the automotive leather industry in the past months was definitely too dependent on the performance of some individual markets. For the short term it seems that the endless growth of the Chinese market will continue and this should keep the premium manufacturers busy. Although we see a downsizing trend for cars globally, the growth in the luxury market in China is still strong, which should be enough to keep automotive leather tanners busy in the foreseeable future.
If there was anything really positive at the All China Leather Exhibition it was the interest in garment leathers. This segment is definitely not the biggest, but after many years of garment leathers not really being in fashion it was nice to see that there is some return now. This resulted in good interest for skins and for some specific types, though not all, the interest of tanners was satisfied. In addition to the garment interest, shoe and lining interest was high and the sellers of ovine skins, which had been struggling for a long time to achieve adequate interest and price levels for their material, were the happiest at the show.
Splits are facing a bit of a two-fold situation. On the one side they are profiting as usual from being a cheaper alternative to full grain leather. On the other side they are suffering from the trend of PU-coated splits being substituted by fully artificial material. It will be interesting to see what designers and production managers are going to decide for the next seasons as far as materials are concerned.
Economic logic
For the coming weeks it seems that the market is now finally set for the correction we were expecting for a while. Despite the few clouds around, the fundamental demand for leather is still solid enough to keep most places busy. At the same time there is no longer the raw material shortage many were seeing some months ago. Economic logic has come back into play and the market is reflecting realities again. This is good news as an industry that can correct misdirected trends is on a good path. In the coming weeks we will see many more shows and they will also tell us more about fashion and articles leading in mid-October to Lineapelle where, traditionally, a lot of decisions from the shoe and accessory industry for the next season will be known. The leather pipeline always has a lot of the unexpected to offer and in this respect we are still waiting for possible bad news from the financial side. The market is set for a moderate slide in bovine prices to continue to bring raw material prices back into line with leather prices. So everyone buying or selling this product should make a fair analysis of the value their particular product range has in relation to the leather made from it and the alternatives that are available. Sheepskins could see a better performance due to the better demand. It seems that we are entering a period of more economic logic in the leather pipeline. Long may it last.
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