The last two weeks were again driven by the debt crisis in Europe and this time it was the problem in Cyprus that created a number of night-shifts for the politicians involved. The required credits were only released after a last-minute decision and once again it was a clash of opinions between the hardliners under the lead of Germany and the doves, mainly from the south of the continent. With Cyprus temporarily fixed, the headlines now ask who could be next. Slovenia is mentioned as a possibility in this never-ending story; the debt crisis is now in its fifth year.

Europe remains stuck with the endless problems and there is still no fundamental agreement on how the community should deal with the debt crisis. The north under the lead of Germany remains of the opinion that the main target is to reduce budget deficits. Saving and cutting national budgets to bring them back into balance as soon as possible is what they insist on. The taxpayers in these countries are not willing to pay for the wrongdoing of the past. The people in the troubled countries are expecting their governments not to save, but to spend more to save people from unemployment and relieve companies of extremely tight credit conditions.

The present situation gives another example of the different opinions in Europe and the US about the function of the state. In Europe people have been educated to expect the state to take care of them and they expect this now, while in the US the majority of the public still relies on their own private efforts. This possibly makes them more optimistic. The US economy shows signs of improvement. Property prices continue to rise and consumer spending – still accounting for the greatest part of the economy – also. The labour market, although still far from being good, seems to be recovering moderately.

In Asia and the emerging markets the situation is much better and people are optimistic about the future.

Consequently one has to be worried about Europe becoming a lame duck for a long time. It is hard to find any master-plan for handling the present situation, to increase production, to create jobs and to build a future. For the moment we have complaints rather than action.

The renewed problems in Europe have been weighing on the value of the euro, which lost about 2% of its value and traded at the end of last week around the $1.28 level against the US dollar. Most commodities remain in a pretty narrow trading range and prices have not moved by much in the past weeks.

Market intelligence

This publication comes exactly between two major leather fairs, one in Asia and one in Europe. While the one in Asia, APLF (Hong Kong, March 25-27), is actually a melting pot for the whole trade and mass-market producers, the fair in Italy, Lineapelle (Bologna, April 2-4), is more of a trendsetter for fashion and articles for the next seasons. However both of them have a function and market indication of their own and the meeting in Hong Kong, we assume, has been pretty interesting for most of the visitors and exhibitors.

The fair in Hong Kong has now been taking place for more than 20 years and many have actually already thought that it’s time is over. With manufacturing moving into mainland China and other countries in south-east Asia many thought that there is no real function and need for such an event in Hong Kong. Indeed the size of the fair has been shrinking and the number of exhibitors and the size of their stands too. For tanneries it is not really the place to exhibit their products and timing as far as the leather seasons are concerned is not perfect either.

Despite all these negative factors the show organisers in Hong Kong have managed to keep it alive and the number of exhibitors and visitors is not really shrinking any more. Combining the material show with a fashion show was possibly also the smart move. However, the main reason for many people to be in Hong Kong at the end of March is a different one. It is still an attractive place for people to travel to just for the sake of meeting and to talking. This applies to raw material suppliers, technicians, chemical suppliers but also to tanneries, giving their customers the chance to meet and to discuss whatever subjects may be considered important. It is still the case that the trip to Hong Kong offers the chance to speak to many people you would possibly otherwise hardly see. Consequently, concerns and negative statements about the event, mentioned so frequently in the past, have almost completely disappeared. One has to agree that the 2013 show was a success.

There will again be discussions about whether there were more or fewer visitors and if people were active or not. The impression was pretty good this year. The aisles were full and the booths were busy. Whether this started at 10 o’clock or at 11 and faded after four of five is hardly of any interest. Even the last day of the show was pretty well attended and when in the past years frequently people were packing up already around lunchtime we had the feeling this year that many people really needed all the hours available and packed up only up when the show was almost finished. We should not forget that the Easter break was pretty close and one would have expected people would try to leave as early as possible.

Getting away from the general comments about the show and looking at the specific impressions one got from the three days in Hong Kong, the majority of visitors, whether suppliers or customers, were looking for answers to their questions about the price trend for raw material, leather prices and leather demand. The constant rise of raw material costs is a worry for many players in the trade and many were trying to get explanations for what has happened and indications for the future. Although one can say that all the open questions have been clarified, many of the meetings and the general picture obtained delivered more explanations and arguments.

Starting with the most important news. Yes, raw material prices continue to rise; they even rose during the fair in Hong Kong. US and European hides rose by a few dollars and Brazilian wet blue hides by almost 10%. Everybody who was hoping for a break in the market ended up disappointed that many tanneries still needed to buy raw material and had to bite the bullet and accept more or less what suppliers were asking.

This is nothing new and those who were not just looking for ‘the deal of the day’ were actually sitting in private circles discussing the situation, trying to find explanations and looking for answers about what this is going to mean for the future. There are many different opinions and most of them are related of course to individual positions and interests, but everybody agreed that, eventually, the available supply has to come into balance with the existing demand or, better said, production capacities.

A majority of the people think that leather demand is so great globally that raw material supply in total is not sufficient. Full tanning capacity is being used; tanners are finding enough interest for their leather and have all drums in use, despite the price situation. Only recently, sharp gains in raw material prices have made a few more cautious, making them think about managing their businesses with the financial resources they have available. In their opinion prices will continue to rise due to the strong demand for leather in general and only slowly and step-by-step the weakest will stand aside to reduce demand in the long term.

Others see the changes in the structure of the leather pipeline as the main reason for the constant and hefty rises in raw material prices. Their argument is that supply control is today in the hands of the slaughter industry and they are not only willing to limit offers for the sake of price, but have also become producers of semi-finished and finished leather in their own right, reducing the available raw material for the traditional tanning industry. They have been joined by wet blue traders who are taking another sizeable part of the raw material available and converting it to semi-finished product for resale to the tanning industry. Consequently there is far less raw material available for the traditional full-scale tanners. This makes life pretty difficult for the big-sized operations that need regular coverage and supply security of standard raw materials. This situation makes it reasonably easy for the big players on the supply side to maintain control of the market and prices.

So far so good, but in the end it still leaves unanswered questions over whether demand has really increased by so much that the entire global supply is insufficient. Some see a great part of the so-called ‘shortage’ actually deriving from semi-finished inventories. Big packers producing wet blue use up raw material surplus and make money either by market variations or by adding value through supply-specific selection. If the theory is true, both of the suppliers carry stocks. One because demand is not as strong as many people say and inventories build to hold prices high. The other holds inventory because there is a strong demand for specific, high-quality selections, but for medium and low qualities the demand is far less and the prices asked are unobtainable on the market.

In consequence of this logic, big producers around the globe and large traders, in particular in China and Italy, have absolutely no interest in any market correction because this would become a threat to the valuation of their inventory, if they really are holding inventory.

Since we hear again and again about sizeable inventories in many tanneries and wet blue plants around the globe we are of the opinion that the real available raw material for the wider tanning industry is too small, so most tanners have to pay what is asked and this is increasing week by week.

If raw material is really short then the market has little risk on the downside. One just has to watch how supply and demand come slowly into balance, which will gently stop the rise in prices. If however, raw material is not in short supply, but is only being taken off the market for structural reasons with the consequence that inventories are building up in wet blue or crust and not in raw, the situation is different. The risk level is much higher. As long as interest rates are low, the inventories can be financed and suppliers don’t feel much market risk. One day the stocks have to be liquidated, for whatever reason.

So far the rising raw material market makes the inventory look like a good saving. The more prices rise the better the people who own the stocks will feel. The experienced reader will certainly ask why people don’t cash in and take their profits if the market is so firm. Are they courageous enough to bet on more?

Well, it seems not. Potential customers don’t want the material, either because they cannot use it or the price asked for the stocks is too high. At least in Europe, medium to lower selections are sitting in the yards of traders and tanners and the difference in valuation between sellers and potential buyers is between 10% and 20%. This material is not what the market wants, or certainly not at the prices asked.

If this is an accurate description of the situation, it would at least create far more risk potential. While packers have sufficient financial resources not to get nervous and possibly even the strong hands in wet blue trading, it is tanners who will become the weak spot in the equation. On the one hand they are being asked to pay more money constantly for raw material, while on the other they are being forced to tie up more cash resources in selections they have no market for and may be forced eventually to liquidate.

No matter what we think, we are sure that we are heading towards an interesting and challenging summer. Since the situation isn’t really new and so far nobody has shown any interest in the problem, it is unlikely that this is going to happen in the near future. This means that we just have to wait until somebody fails.

It will be important to see what kind of trends are in evidence at Lineapelle in Bologna this week. So far the tanning industry has always managed the situation by offering new articles that allow the consumption of lower grades. We all remember patent leather, prints, artificial finishes, metallic looks and so on. Everything that allows the consumption and liquidation of the lower grades, which usually pile up after periods of natural looks and strong demand for premium selections only.

That is exactly what we have had with the buying frenzy of luxury goods in the past few years.

If the premium brands don’t allow a shift and stick to their exclusivity it will be difficult to handle the situation and to find an outlet in the leathergoods and partially in the shoe segment for the selections that have built up. Next week we will know more what tanners and leather buyers have in mind.

The split market remains steady with surprising news coming only from China where local prices for lime splits are under pressure and have seen moderate declines. The main reason might be that China still doesn’t have a sophisticated collagen industry to absorb these splits at the levels of prices paid internationally. However, it is also true that more tanning in China and less in, for example, Europe has changed the balance of regional supply.

The skin market is in a bit of a stalemate. Buyers expect the seasonal Easter kill of lambs in the Northern hemisphere. The late, cold and extended winter was for many skin tanners a great relief. Retail and wholesale stocks have been cleared, which even in January seemed unlikely. Consequently demand for shoe lining and double-face is pretty good and some of the large players are actively securing product. For nappa, the situation is a bit different. Rising wool prices have made fellmongering more attractive in the past months, but strict pollution controls in Hebei province have halted production in one of the main consuming areas for the last 10 days and there is conflicting news about when production will resume.

For the moment this has had only limited effect on the market for nappa skins, but this could change quickly if there is no solution to the issue because there would be no short-term alternative to production capacity in the Hebei area.

After the Easter break the trade will have a look at the Bologna show and see if the fashion trend setters in Italy have new ideas, articles and colours to offer. As stated above, solutions for the lower grades can only be appreciated after the long-running focus on top-quality selections ends. There are some indications already with some of the high street brands telling their suppliers that they are not willing to accept constant price rises for leather, that this may be about to happen. They are looking for alternatives, although their margins make them the last to suffer. On the other hand, they are the ones who have the image and marketing strength to change. What is innovative, if they do it, would just look cheap if others did.

For the rest of the market it is again a question of how to deal with the latest price rises in raw material. New discussions with customers, counting the money and checking the cash management budgets as well as inventory management will be topping the agenda in the coming weeks. Raw material markets are going to remain affected by the recent market performance and suppliers will test how far they can still push it. We believe that trading activity will further decline without too much influence on the market as such.

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