Macroeconomics

Despite the normal flow of economic data, the global financial community was much more affected by ‘exogene shocks’ or external influences again.

The expectation of a second big hurricane to hit the south of the US, not only threatening human lives and homes but also the US oil industry, led to a rise in oil prices again, However, at the end of the day, prices did not reach the record levels already seen earlier this season and fortunately it seems that ‘Rita’ has caused much less damage than ‘Katrina’ before.

High costs to hit consumers

High energy costs will hit the global economy hard according to a study by the IMF which considers that global growth could slow by about 0.5% as a result of this. Well, we know from the past that the forecasters are always too optimistic and if energy costs are not corrected quickly and substantially, we would be surprised if the effects are not even more profound.

So far, the global community has not really reacted to the situation and neither businesses nor private households have changed their attitudes yet and in most cases it is a ‘business as usual’ status. This might be a serious mistake, as there is no question that eventually higher oil prices are going to convert, with the usual time lag, into a massive burden on budgets and costs.

It will also affect the lifestyle of many people when monthly bills for oil-related expenditures eat deeper into their income. So, one can only hope that the price for oil and fuel – which seem to have a strong speculative component in it – will fall soon and significantly.

We also think that the elections in Germany might have a wider effect than just for the country as such. While the Japanese have given clear support to Mr. Koizumi to continue his way of reforms, has Europe’s lame duck missed an historical chance to revitalise the country by missing the opportunity to give a clear vote for change? And as a result the period of paralysis continues. This is not good news for Europe as a whole, where Germany still plays an important role in its overall performance.

Interest rates raised again

From the statistical economic data released in the last two weeks the Fed’s decision to raise interest by another 0.25 % was probably the most important one. Although financial analysts were a bit uncertain about the decision in view of the expected economic slowdown due to the hurricanes, the Fed has remained on track and continued its policy to tighten money supply. This, in conjunction with the election results in Germany, gave the US$ another boost and the short period of weakness is temporarily over. The trend was also supported by the decision of the Chinese National bank to widen the spread of trading in non-US$ currencies versus the US$.

All this has combined to brighten the outlook for the greenback for the short tem, although the negative arguments (i.e. the trade and budget deficits) are still in play and one may be well advised to watch currency positions carefully. Entering the last quarter of the year, the US$ could look more vulnerable again, because this has been the trend for many years. Some say this trend is due to the need of exporting countries to budget and hedge currency positions for the following year. One can be sure, at least, that the currency market is going to remain an important issue for the rest of the year.

Market intelligence

The past two weeks generally delivered what had been expected. A lot of trading was still left over from the Shanghai Fair and the published numbers of sales spoke for themselves. Besides the official statistics, other less official sources confirmed that the volume of sales was quite acceptable.

So, the question had to be raised as to why the market remained uncertain – it is fair to say that most of the standard markets were weak-to-steady as far as prices were concerned. Even with the good number of sales and the volume, sellers – with very few exceptions – did not have enough confidence to change the direction of raw material prices.

Market remains uncertain

The arguments have already been stated many times and most recently in our last issue and may just be recapitulated:

-         Calculations of consumer products are entirely downstream these days.

-         Due to the severe competition and over-capacity in manufacturing, retailers and brand names still have enough options to choose from.

-         The rising cost of energy and chemicals has to be compensated somewhere and if it can’t be the selling price it has to be the raw material.

-         While concentration in the retail market is keeping prices under control this also applies to the sellers of raw material. They may be fewer, but due to the bigger size of beef producers, their goal is also to find clients who are in the position to absorb larger, more regular quantities and perform financially.

Price developments

Looking at the price developments over recent months, we have a fair reflection in the raw material markets of the situation. As already mentioned several times, this is something new in the raw material markets. In the past most people in the trade would have agreed that the price development for finished leathers and raw materials were not directly dependent on each other. We have seen the raw material market go in an entirely different direction from leather prices on many occasions.

Industry follows same trend

Meanwhile, we can see that the concentration process in industry and the decreased number of different leather articles have definitely increased the direct dependency between finished product prices and raw material levels.

In the past we still had some leather segments which completely outperformed others. Automotive leather, in particular, offered such high returns that hides related to this particular field were able to achieve substantially better returns. This attracted so many new players that competition became much more intense and in addition to this the difficulties in the automotive industry have also forced the industry to increase the emphasis on price reductions for leather as well.  Consequently, this field has also become a completely normal, competitive part of the general market.

So, except for small niches of luxury products, everything is now following the same rules. This has made the markets much less volatile, at least as long as raw material is abundant as is the case today. This also makes market reports more and more difficult to write, because there is less and less that can be called trading. Raw material traders around the globe will confirm this as everybody who is not a producer is singing the same song now.

A trader – if he can be called such - today finds himself in a position where he is not accepted by the producer or the buyer, as they now want to be in direct contact with each other.

However, the leather pipeline has to accept that the big producers are willing and capable of handling the marketing in all different markets and manufacturers and buyers believe that they can fulfil the expectations of the big producers around the globe. This has led to a very complicated situation. Everybody is claiming the same terms, prices, and conditions for himself that he hears on what is called the market today. This applies, in particular, to the market reports which are spread around the globe every week. Most of the prices quoted in these kinds of reports are taken as a base, while this base cannot reflect the conditions and price calculations for everyone. It seems that the leather pipeline will still need some time to sort this problem out and it will require that many players accept that the same cannot apply for everyone.

As long as this continues to take place, margins will be squeezed and the normal rules of the trade will apply and this simply means a case of survival of the fittest.

New markets?

What we have found quite interesting over the last few months or so, beyond these general statements, are the claims by many that there are new markets for leather production rapidly developing these days. For many years there were only isolated reports about growing businesses in the Middle East.  All the focus was on sellers in East Asia and in particular in China. However, listening in, more and more informed sources in the trade are quoting a growing number of leather producers in the Middle East. Here we are not talking about tanneries which are converting domestic raw material into a semi- finished products for export, we are hearing of solid manufacturers who are upgrading the quality of their productions, integrating into the international supply chain and consequently looking for higher quality alternatives to the local supply. While most people would just think of India, countries like Pakistan, Turkey and even places around the Persian Gulf have to be considered today. This doesn't even include the growing industry in the former Eastern bloc countries where more and more successful leather facilities are being established.

Reports of sales of cow hides, sheep and lamb into Russia, cattle hides into the Baltic states or into the Middle East are becoming more and more common these days. We might still be at an early stage of this development, but it seems that the exclusivity of China may be coming to an end.

Positive news continues from split market

Looking at the split market more and more positive news can be found. Higher quality material and splits suitable for suede production are finding more and more interest and so it seems that the split business is coming out of the doldrums a bit more. We cannot see that this has converted into higher prices, but here and there incremental increases are being quoted. We think that in Europe, in particular, reasonable stocks are still waiting for buyers, but if the leather season is going to favour splits again, it should give sellers the chance to get rid of the inventories which they are carrying today.

In the skin market quite a few mixed opinions can be found. While some are mentioning that there is increased demand, from Turkey and other Middle Eastern countries in particular, many others are still very much concerned and are complaining about sales in China. We remain of the opinion that there is a good chance that medium quality nappa leathers could regain consumer interest.  Although once again it is hard to believe that this can be converted into higher prices yet. Due to the higher kill of sheep in many parts of the world that is expected in the coming months, it is hard to believe that the general pressure on prices will be lifted soon. It will be a success in itself if the skins already produced can find enough buyers to avoid further increasing inventories and to keep the product flow intact.

For the coming weeks we still don’t think that the markets are sorted out completely. One thing is for sure, tanners are running much shorter inventories than they used to in the past. This forces them to purchase more regularly, unless leather orders continue to float in like they have done in the last weeks. One has to be concerned about the leather business and retail in the weeks to come, because of the rising interest rates in the United States, the concerns over the global economy, and because of high energy costs which are weighing on family budgets. The automotive industry is going to be an important factor as it is likely to be affected by the consumer's decision as to where to allocate the money. As far as raw material prices are concerned, we think present price levels will remain valid still for quite a while, at least until the market has digested recent events and the consumer has decided what fundamental changes to make due to high energy costs.

Share this story: