Market Intelligence - 17.06.08
17/06/2008
MARKET INTELLIGENCE—14.06.08
Macroeconomics
The general trend of the financial markets and the macroeconomic picture was pretty directionless. Inflation is still the focus of discussion, and record prices for energy and the increased prices for food are now showing their effects around the globe daily.
National banks are clearly preparing to increase interest rates. Ben Bernanke, chairman of the Federal Reserve in the US, has changed his wording; he, too, is now showing more concern regarding inflation and the markets are expecting an interest-rate hike in the US sooner rather than later.
The European Central Bank has already prepared the market for an interest-rate hike in July, but national banks are also starting to react and so has the Reserve Bank of India, which has already increased the base rate there by 0.25 %.
National banks are starting to experience a dilemma, which comes as no surprise. Economies are starting to slow down and at the same time inflation is starting to rise. So, under normal circumstances interest rates should be lowered to stimulate the economies, but with their main duty to look for financial stability, they are forced to do the opposite and to increase rates to fight inflation.
Unemployment on the rise
In view of these problems, unemployment numbers are starting to rise, mainly in the economies which had been thriving on rising and high property prices which have already or starting to deflate. The UK, Spain, Ireland and of course the US are examples where economies are slowing down, property prices falling and unemployment rising. This, in combination with rising interest rates, is becoming an explosive mixture.
Pundits are starting to notice parallels with the big economics crisis in the 1970s after the first oil-price shock. With increased prices for energy and food, workers need to ask for significant pay rises, triggering the classical wage-price spiral.
Although most politicians and experts still deny the problem and talk about an easing of the situation later this year, most consumers and businesses know better already and it might be advisable to prepare well for a situation that could hurt us all in the near future.
Commodity commotion
In this situation the ongoing discussion about commodity prices is becoming more important.
Are investors or, to be more precise, hedge funds pushing prices up and should governments regulate commodity investments? Since we are enjoying almost free markets and support the idea of free trade in the western world nobody can really support the idea of regulation and control.
In the end, control has never done better than the market itself. However, nobody can ignore the fact that commodity prices are driven by investors. With a lack of other promising investment possibilities, the rising demand for commodities from the emerging markets is a safe bet, accelerated by further liquidity which were also looking for investments.
Producers of commodities—governments or private companies—are also interested in increasing prices and they are, in addition, a factor because they re-invest their profits into the futures markets to sustain a favourable price trend. All this has certainly not made the trend, but it is amplifying price trends and making money for the speculators and investors by taking it from the pockets of normal consumers and businesses. This, in turn, is pushing inflation up because it requires rising wages and prices for products and services.
Oil on troubled waters
In the meantime, oil prices hit new record levels, but so far the $140 mark has been defended with prices falling back after coming close to this figure.
The dollar fluctuated again, but still seems to be on the way up, while the euro is retreating a bit. The renminbi continues to rise and has reached new record levels against the dollar. Although this is economically good and reflects better the realities, it is adding to pressure on retail prices as the downward price spiral brought about by cheap imports from China is stopping; quite the reverse—the prices of Chinese goods are starting to rise.
Market intelligence
The market situation is still dominated by the weak performance of the upholstery market and the situation in China.
Although there are hardly any global statistics available for the sale of leather upholstery, one has to assume that sales have been falling for some time.
Retailers are certainly experiencing difficulties. This was clear from the news of problems for a second UK retail group, ScS, dealing with leather upholstery (see the news section in this issue of World Leather Business Week) and we mentioned the situation affecting the famous brand name of Natuzzi last week.
Separate sources are reporting that other manufacturers in the south of Italy are facing similar problems to those of Natuzzi. Most of this industry, which has been a success story since the 1990s—built on a weak Italian lira, government and EU subsidies and cheap labour costs—started its descent with the decline of the dollar and seems now to be entering the final lap.
As long as the main question in production was to search for cheaper production locations, it was just a problem of globalisation. The producers who did not realise that their cost advantage was disappearing and that they too would lose the business to even cheaper producers are facing problems.
But there is more to the situation today than this. Even a few years ago we were having discussions on whether the demand for leather furniture would be damaged by ever declining prices and quality. The statement which carried a question mark at that time could be finished today with an exclamation mark.
Leather furniture lost a lot of its shine. In volume production it has just become a commodity and this, combined with the general problems of the retail sector in the main consuming markets, has created troubled water for most players and manufacturers.
The rapid creation of production capacity in China in combination with expansion of production capacity in Italy in the first years of the new millennium has led to massive over capacity in production, which has led to an intensive price war. Lower prices have forced manufacturers to use and produce less quality. Over a period of time this message has become implanted in the mind of consumers, who are now no longer willing to spend money for questionable pleasure or return.
While this is only to be expected in mature markets there was still some hope that emerging markets would compensate. This held true for some time, but for a year or so now these markets have also been showing some signs of fatigue. This is not just because of the general situation, but also a result of the fading image of leather furniture for the reasons stated above.
Chinese snapshot
Anyway, the situation of the upholstery market is nothing compared to the situation building in general in China now. We mentioned a while ago that the Olympics could have a significant impact on the markets and this seems to be proving to be the case to a much larger extent than even we expected.
It started some months ago with the expected shutdown of polluting industries (including the leather industry) in the the locations where the Olympic competitions will be held. It has since become clear that the Chinese government harbours a hysterical ambition to present the country as a kind of Disneyworld.
Security issues have made it almost impossible to obtain multiple entry visas which are almost essential for business travellers and a lot of people are even reporting, that single entries are proving less easy to get hold of. Imports are becoming more and more restricted and a lot of chemical products (274 so far) have begun to be refused entry to the country.
The distribution of many materials is being either hindered or stopped and numerous businesses actually face closure because of a lack of materials.
Our sources in China are also reporting a lot of problems with road transportation. Trucks are not being allowed to fill up with diesel at all fuel stations any more, and often when they are allowed to refuel, the amount is restricted. Trucks now have to plan trips carefully and lose a lot of time queuing for fuel during trips.
So what we thought was action against some polluting industries only has begun to affect many businesses and is even touching the upholstery industry. The biggest problems of all—and this doesn’t not apply just for the semi-legal Chinese businesses, but is also hitting multinationals—is the problem that nobody knows when all this is going to end. If this situation persists until September after the Olympic Games have ended either a lot of money is going to be lost or many enterprises will go bankrupt.
Some leather related industries in the Hebei province are already feeling the pain with their complete cash and product flow stopped for a month already. Nobody expects this to change anytime before the end of the Olympics. The fact is that a great part of the protective glove industry, and also the garment sector, could have shut down for ever.
With the rising value of the renminbi they are not only losing market share, but the very cheap products are being hit especially hard on the international market because they are simply not competitive any more.
What applies to the cheapest products also goes for the next level on the price scale and Chinese mass-production is coming globally under more price pressure.
Although economists had been complaining for a while—with justification—about the undervalued renminbi, the fact that the Chinese government is moving now to correct the situation means that consumers globally have to prepare for slowly rising prices.
It also means that other nations and workers may have a better opportunity to compete with Chinese manufacturers, although the period of transition, until the low price productions have settled again and decided where to go, would mean a difficult time for the leather pipeline.
This comes at the wrong time, with the general market already facing problems with consumer demand in many parts of the world and the massive challenges the sharp rises of prices of energy and food have delivered.
Slower sales
The situation was also reflected in the market in the last weeks. Sales were slower although the US was still reporting impressive numbers.
Amid reports of slower demand and business in general, the sales figures still telling a different story. Weekly activity seems low, but the sales number are still on a pretty high level. With this discrepancy one could assume that the weekly statistics may still be influenced by long-term contracts, which might have been booked as frame contracts earlier this year and are now entering the weekly statistics in parts.
The weakest part of the market is still hides for the market sectors discussed above. Hides for the upholstery and garments industry, as well as the sidelines handled through importers for small tanneries, are suffering the most. Consequently it is hard to find a realistic market level for these hides. Hides closely connected to the mainstream shoe production are still holding pretty solid.
Automotive developments
In our last Market Intelligence we were still talking about a strong performance from automotive leathers. The picture, which was true for the first four months of the year, has developed a few cracks since then.
High petrol prices have hit car sales in the US and Europe. Consumers are wondering if they really need large cars or if they could cover their mobility and transportation needs with smaller cars that consume less fuel. Many have decided that they can, so sales for bigger cars have decreased substantially in western markets.
Apart from the really wealthy, it would also come as no surprise if this attitude were also to spill into the booming emerging markets soon. The most important question is, however, if buyers decide they want smaller cars but with the price difference going into better equipment and more investment in high-value interiors. The rest of 2008 will tell us how the consumer is going to react.
Splits still suffering
The split market remains in trouble. We understand that good volumes are moving, but only at low prices process for the leather industry. What we find still a bit odd is the fact that lime splits for gelatine have not yet had any benefit from sharply rising food prices.
If the trend for food prices does not reverse sharply we are pretty sure there will be a recovery of split prices. We should see less offer of splits due to the holiday season and the general trouble in leather production and at the same time rising interest form the gelatine and collagen production.
Skin trouble
The skin market is in trouble again. With the almost complete shutdown in parts of the Chinese market and non-recovery in Turkey and other centres of skin production, the present situation remains pretty quiet. Prices are descending and there is little optimism for the summer. However, with the general shortage of pigskins, sheep and lamb should be at least cushioned for the next season.
For the weeks ahead we have a rather negative feeling. Global economic problems, the situation in China, the upcoming holiday season in the west, rising interest rates, rising prices for chemicals and energy and an expected slowdown of the global economy for 2009 have created a pretty difficult environment for the leather pipeline.
Traditionally, our businesses are not well financed and the low season will reduce the cash flow again. For strong and successful enterprises, the chance to do well in the raw material markets will build and money could become the ruler of the market for the coming months.
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