Market Intelligence—18.10.22
Macroeconomics
We are at the moment in a geopolitical phase that is taking us into uncharted territory. There have been several quite dangerous situations of tension after World War II, but those were either localised military conflicts or concerned the interests of the two major blocs. In those previous cases, it was almost always about the limits of territorial influence, but in the end there was still a dialogue and the tensions de-escalated.
At present, the situation is much more complex. First, we have the classic dispute between the West and Russia over territorial influence in Ukraine, but also tensions between the US and China over influence in Taiwan. In addition, there are disputes over raw materials and energy and ongoing tensions in the Middle East, with the possibility of additional military confrontations coming from them. There are also the activities of North Korea. This review is not even complete. There has not been as much sabre-rattling for decades as we are seeing at the moment.
The times of compromise for the benefit of all parties are over for the moment and many players are now engaging in confrontation, with great deliberation. At stake is military power on the one hand and control over raw materials and energy on the other. It can be seen in the example of the group of oil producing countries, OPEC+, under the leadership of Saudi Arabia. The supply of crude oil to the world market is being reduced. If one considers the close connection between the US and Saudi Arabia for the purpose of stability in the Middle East, then this decision, which essentially benefits Russia, should be viewed with great attention.
To sum up, we simply have to accept that the phase of goal-oriented negotiations between the major players on this planet has come to an end and has given way to a time of confrontation and the use of supposed strength.
It is always amazing how long it takes the so-called experts to come to terms with and accept the realities. In the last few weeks, the issue of recession has been discussed seriously for the first time in many countries and regions. In the meantime, organisations and governments have come to accept that it is almost impossible to prevent a severe downturn in economic activity and that the mixture of inflation and geopolitical crises will not only cause very deep and far-reaching but also long-term strains on the global economy. This will not only affect businesses and consumers, but many nations may also find themselves in serious trouble under the weight of their debt, falling government revenues, necessary aid projects and, of course, possible currency crises. The spiral has started: one can only hope that the momentum of the gyrations does not become stronger than it already is.
The war in Ukraine is beginning to become what all wars do when there is no quick end: they end up being. Dirty and with an increasing number of innocent victims and unnecessary destruction. It does not seem, at least at this stage, that there can be any calming, easing of tensions or genuinely serious negotiations in the short term. As much as some politicians want to get themselves into the game, it does not look at the moment as if anyone could really be accepted as a serious mediator and lead talks to success.
This time we will spare ourselves a look at the statistical data, which at the moment no longer give any real indication. The good news is that in most countries at least the labour market is not yet in trouble. As long as there are no major insolvencies (the risk of which is high), companies are trying to hold on to their workers as long as possible, knowing that it would not be very easy to replace them if the situation eases.
The start of the heating season in the northern hemisphere and OPEC’s decision to cut production pushed oil prices and their deviates up again. However, the rise was very short and also less than feared. In Europe the weak euro and local supply bottlenecks continue to push prices for the oil derivates for the consumer higher. Of course, the world market is also relieved by Russia’s sales to countries that do not participate in the sanctions. The sanctions have not prevented the export of Russian oil, but only diverted it. The very negative outlook for the global economy is also weighing on the markets and that is why the oil price has settled back in the region of $90.
The US dollar remains strong against the euro. One should not forget that the strong dollar also has an effect on other currencies and makes imports, which are traded in US dollars, significantly more expensive.
Stock markets remain under pressure as most companies’ earnings outlooks for the next few years continue to deteriorate. Rising interest rates, rising energy costs, declining purchasing power are not good news for companies and equity investments.
Gold also continues to be unable to profit from all crises, of which there are many at the moment. The price of an ounce remains in the range of $1,700 or below.
Leather Pipeline
The past two weeks were, again, difficult for gaining insight into the market situation. This was mainly due to the fact that there were a lot of public holidays in Asia and, in the case of China, relatively long ones. Now, some people point out that public holidays have never prevented Chinese entrepreneurs from being active in the markets or from using the production-free days to travel to customers or suppliers abroad. All that has been cancelled for now. Everyone may come up with their own reasons, but in the case of travel, the Chinese government’s covid-19 policy can clearly be defined as the cause.
All in all, the almost complete standstill in travel to and from China has become a great burden. Contacts and the quality of information exchange are deteriorating the longer the isolation continues. Furthermore, many people are looking forward to the Chinese Communist Party’s Twentieth National Congress with great expectations. They hope that appointments to key political posts and the speeches that President Xi Jinping will give will provide clear insight into how Chinese politics will continue. There is the question of relations with the US, but also the question of domestic economic policy, and the question of how China is positioning itself in the dispute over Ukraine. Whether it will make a clear statement on the Taiwan issue is also of importance.
Under these conditions, trade with China has become more and more clouded and it is no secret that all companies that are in a position to do so are looking for alternative production locations for their international business. Those companies for which the Chinese domestic market is of considerable importance (automotive industry and global brand manufacturers) have a particular problem here: they can potentially influence their business and positions in China for good or for ill with individual decisions.
All these circumstances are, without question, of considerable importance to the leather industry. In the automotive industry it is the investments in China. In the furniture and footwear industry it is the dependency of many Chinese companies on exports and business abroad. Every day there are more and more reports about the relocation of production to other parts of Asia and the Middle East.
In the end, of course, it is right to point out that it does not necessarily matter where products are made for the entire supply chain in the leather industry, as long as the products are made and come to market. Nevertheless, these phases of upheaval and relocation are always accompanied by problems, especially if it takes place in a phase when sales are shrinking. The exit from one location and the creation of new production capacity somewhere else are rarely synchronous.
With relatively little activity in Asia, it was correspondingly difficult to get a clear picture of the situation. On the one hand, there were those who pointed out quite intensively that there were still talks and deals despite the holidays. This is seen as a particularly positive sign, because things could have been much worse. On the other hand, there are those who point out that now is actually the time when order decisions for the coming months have to be made. Activity has been far too low to raise hopes of an active winter half-year.
In such situations, it is always advisable to take a look at the raw materials market as the earliest and most volatile indicator. That is where it all begins and without raw material, of course, there is no production. Once the orders are placed, everyone tries to secure supply of the crucial raw material for the production of leather. This should be especially true in the present time as most raw material is at historically very low price levels. So anyone blessed with a certain optimism and a reasonably full order book would take the opportunity to secure as much raw material as possible.
However, there is not much sign of that at the moment. It remains the case that the luxury goods and specialities sector is little affected, but all other sectors are not really sending positive signals.
There are reports of stable purchases from the automotive industry, but on closer inspection, we believe that this thesis cannot be upheld either. There are regional differences. There is positive news and sales figures from China but, otherwise, the industry is trying to keep production as stable as possible for the rest of the year within the framework of component availability. It is also true that in many markets buyers have become very cautious and extensive cancellations are taking place. In the current environment, one is naturally very careful with one’s money. We also hear that private buyers are no longer ordering expensive extras as generously as they used to.
We reported in our last issue on the sharp increase in Nike’s inventory. The same can be said of other consumer goods producers. And all over the world there are reports of sharply declining sales and massive discounting, especially in the textile and apparel sector, so that on the one hand liquidity has to be created and on the other hand space has to be generated for new goods.
At this point we would like to use the results for the third quarter that LVMH has published to document once again how differently things have developed in the leather pipeline. LVMH was able to report sales growth of over 20% or over 30 %, depending on how you take currency effects into account. Of course, these are luxury goods, but still, it simply has to be accepted that the fact that they are made of leather does not stop the buyer from buying them. It just depends on the right marketing. In the meantime, the rest of the leather industry has allowed itself to be pushed so far towards justifying its own existence that it is almost no longer possible to turn this trend around. It remains the case that leather is a material that is significantly more complicated to process and carries significantly higher risk of complaints. This is not good news for retailers and internet platforms that are committed to taking goods back without asking.
We cannot report any new findings from the split market, so we can only repeat what we have known for some time. Speciality products have their markets and find their price levels. Also, the production of split is affected by the decline in leather production and that this has a corresponding impact on the supply chains for gelatine and collagen. However, it is only a matter of time before this sector is compensated by directly processed cattle hides; their products then will still reach the market, no matter what is going on in leather.
There is also relatively little change in sheepskins. On the positive side, fashion collections for the current autumn-winter season in the northern hemisphere have considerably more leather jackets, especially in the men’s sector. Very good quality leather jackets are being offered at prices between $200 and $250 without discount and if the look on the street does not deceive, there are a solid number of men who are willing to wear such jackets. In the women’s fashion segment, there were a lot of products made of leather on show at the runway presentations again. They probably won’t find their way into department stores this time either, but it shows that designers continue to use leather as a material without shying away; they find it attractive.
In terms of business in the raw materials market, more and more are reporting somewhat improved demand, which at the same time, of course, is being met with significantly reduced supply. In so many countries the collection of lambskins has been almost completely stopped, but there is certainly no shortage yet. Rising interest and demand could improve the market situation significantly after so many years of drama.
The coming weeks will certainly give us more information about developments until the end of the year. We maintain our opinion that hard times are ahead for most of the leather industry. This is especially true for those who have to produce in countries where problems with rising energy costs are particularly severe. Otherwise, the next few weeks will show whether the usual seasonal recovery in leather demand will be enough to bring some stability to the market, or whether the uncertainty about consumer behaviour will dominate and have a correspondingly negative impact on business.
