Market Intelligence - 26.06.12
26/06/2012
Although the debt crisis is far over, the results of the Greek election have given a bit of relief to the financial markets in Europe. The narrow victory of the centre-right party and the new coalition that supports the idea of remaining in the euro has taken away the immediate threat that the euro could be at its end already. The currency was able to recover right after the results came out to levels well over $1.27 before correcting a little. However, the recovery remains fragile as it would still need little to raise market concerns again.
Several summits (G20, G8) have been taking place, all of them dealing with the EU debt problem because this influences the whole world. Europe is still divided into two blocks with the majority looking to socialise the debt and a smaller group still asking for budget cuts and austerity programmes. Austerity isn’t too popular for the majority of nations, so this position is far less popular than spending money that isn’t available. Instead of looking at the Latvian or Icelandic management of crisis, or other examples that have proved to be reasonable for smaller economies, the same people continue with the same instruments to try to prevent the unavoidable. The countries in trouble have to go back to offering competitive products and services to the markets. If devaluing the currency is no longer an option, just make better products with lower costs, higher flexibility and good education. If you don’t want to lower wages, people have to work more, another not very popular idea these days. If the whole discussion were less political and emotional, production costs and manufacturing competence would be the guidelines for the countries we are talking about because their competitors are not just in Europe any more but global.
The European Central Bank continues to pump more money into the system but is directing it towards the private banking sector rather than where it is needed.
The rest of the world has been reasonably quiet. The US economy continues to lag behind, which is not pleasing the current president, who is looking for re-election and the economy is one of the main drivers for votes in the US. One of the large rating companies rated some 15 of the largest global banks down, which isn’t adding to confidence.
Polls and business barometers in many countries are also showing weakness and fading optimism, which has led to a general opinion that the global economy is still cooling down and 2013 could see some growth problems again.
In the commodity market prices continue to decline and oil saw something like a small sell-off. With the deteriorating outlook, prices fell to levels below $90 per barrel, depending on quality.
Market intelligence
The last weeks have been relatively uneventful. We are still dealing with the problem of inelastic prices because buyers and seller are waiting for each other to move first. This game can still be played for a while yet.
The main issue is the fact that we are still – as we have been for so long – dealing with a totally different situation in the various segments leather is used in. In the high quality segment there is still more demand than raw material and whatever is offered as adequate raw material is absorbed. Tanners who are supplying successful brands and products need to deliver and to buy up the scarce raw materials that are of high enough quality. As long as the leading brands continue to sell successfully there is hardly any decline in demand to be expected.
The only risk, apart from a general decline in consumer spending, is material substitution if brands start to feel that the price and scarcity of leather could become a threat to their profits and growth. We have seen that already when one of the leading Italian brands left leather aside for a season and moved to canvas. It was not a great success, but the option is there.
For the rest of the market the situation is totally different. Cruising the shops at the moment might give a taste of what happens when mainstream materials become too expensive. Men’s shoes this summer have large amounts of splits, plastic, textile lining and rubber soles. This, by the way, is the result of orders placed last year when the global outlook was still strong and optimistic. Talking to tanners today, they are feeling the pain of the warm winter (2011-2012) as hardly any are reporting re-ordering for the next winter season. No surprise, thinking of the unsold stocks from last winter.
We are now entering low season of leather production and those tanners who do not have any supply gaps to fill are actually taking the chance already to withdraw as much as possible from the market. They see the summer break as their first and real chance to have an influence on prices and, wherever they can, they are starting to hide away from offers and suppliers at the moment. In Asia the general demand is also declining at the moment and tanners there are starting to put orders for raw material on hold. This applies more to the female selections than for male ones.
However, there is still a certain discrepancy between the official position of suppliers and the market situation as it is presented on a daily basis at the moment. Reports from Hebei Province are still talking about falling leather demand and we are hearing that leather orders are also a problem, independent of the higher raw material costs due to the higher import costs that are having to be paid there following customs investigations earlier in the year. However, imports are moving again and product flow is reasonably intact.
A big open question remains the size of wet blue stocks in mainland China. We have so far failed to figure out what the truth is. Some sources are reporting large inventories of all kind of hides, from veal to steers, from sheepskins to cows, while others are insisting that the individual stocks are nothing exceptional and, quite the reverse, that the general stock position is rather low. We tend to believe that China is like the rest of the global market: quality material is rather tight while mainstream products are in stock. Also when we consider that a lot of material kept in stock will be in wet blue and certain selections might already be sold, it will be the less popular articles that remain unsold.
That price is the issue in the majority of cases can also be determined by the information that buyers are, as many claim, now searching for cheaper materials and basically trying to source one quality step down. Even reputable names are mentioned as trying out cheaper alternatives, even quality automotive tanners who are trying to ease their margin problems by using other origins than those normally preferred. Generally this strategy hardly ever works unless the leather buyer is in the same boat and supports these attempts. Downgrading just for price reasons has hardly ever worked.
The leather pipeline is not running smoothly at the moment and there are a few obstacles in the flow. Considering the gloomy outlook of the global economy, and falling commodity prices including oil it is hard to foresee that the hide market can remain untouched and only in segments such as automotive, with model changes after the summer, and luxury, driven by the wealth in the emerging markets seem strong. The rest could possibly benefit from the global growing population and consumption, but it is more likely that price competition will take over and flat or declining private consumption will continue to weigh on leather prices; lower prices for oil-related products will add to the situation.
The split market faces price pressure too. In particular in China prices for wet blue splits are falling and only high-quality suede splits and lime splits for collagen production can hold their levels. This is strange, because one would expect that with the move to cheaper raw materials splits would have an easier time, but this might also be a reflection of subdued demand for summer 2012.
The skins market continues to see serious pressure. Prices have fallen by 50%-70% depending on origin and reached levels that can be considered to be extremely interesting again. However, buyers are still betting on lower prices and only those without expensive stocks or with sufficient cash resources are buying bits and pieces. In particular in Turkey some demand for quality double face and nappa skins can be found while Chinese buyers are more or less absent. Pessimists are still having the upper hand and are trying to push prices further down. We see the levels reached already as attractive and the global kill of lamb and sheep is falling than rising. For serious producers we think that prices have reached attractive levels again. For those confident of their suppliers and the quality, it might be a good idea to step in and secure raw material at present prices. Skins prices are pretty volatile and things can change quickly and the chance could pass. Smart money is already around and cherry-picking.
We think, that the raw material market for bovine material will have a difficult time ahead. Sellers may spread whatever story around about comfortable forward positions and so on, but the summer is pretty hot and there is little indication that the tanning industry in general is desperate to continue to buy in expectation of a busy second half of the year. We will certainly see the usual season uptick in production toward October and November, but nobody knows how much and at what price level leather will be used.
We think that one is well advised to buy hand to mouth and to take a gamble on waiting for the late summer and early fall. In many regions inventories are rising and if this continues over the coming weeks official prices may not be altered, but as the summer progresses, more private deals and bargains may be possible.
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