Market Intelligence—29.07.08
29/07/2008
Macroeconomics
The summer holiday season affects the financial markets too, and activity in general is starting to slow down now.
The US dollar made another attempt to leave the range of trading between 1.53 and 1.58 to the euro and set new record lows of above 1.60 to fall quickly back to the upper end of the recent trading range.
Oil prices also tried to reach the next magic figure of $150 per barrel, but have failed so far and it seems that here too the endless bull market is coming to an end.
Energy-saving is an issue today and investments into alternative energies are not only promoted, but also now quickly converted. In combination with the slowdown of the global economy speculators are seeing at least a fair chance for a—perhaps significant —decline in oil consumption in the near future. There are still a lot of speculators and voices vowing that the decline of the oil price into the 120s is only a temporary set-back, but at least to us there seems to be a fair chance that the easing trend could be sustained for a while.
It may still be a bit early, but we would not be surprised if we were at the beginning of a reversal trend of what we have seen so far: a strengthening of the dollar and falling oil prices. This could surprise many as the mindset of the public is basically still set in one direction: the euro and commodities up.
The markets are very nervous at the moment and react quickly to negative news, rumours and minimal variations.
In the meantime the tone in the US is responsible for inflation slowly changing. The impact of the weak dollar on consumer prices is clear as is the potential necessity of raising interest rates to strengthen the dollar, to reduce import prices and to fight inflation. It might be painful and go against fundamental convictions about how to fight a financial crisis, but the long-term effects of rising inflation are a strong argument for taking this step. In the meantime falling oil and commodity prices would also help to keep inflation under better control.
In any case high prices have developed quickly into individual and public interest to save energy, and even the Chinese government has announced saving incentives and is planning a number of actions such as tax rebates for energy-efficient car engines and electrical appliances such as air-conditioning units. So there is a fair chance that, owing to high energy prices, we could see a much larger degree of saving than people might expect today.
The effects of rising food and energy prices can now also be seen in Europe and there are plenty of indications that export-driven growth in Europe is also coming to a halt. In Spain unemployment figures have climbed back to well over 10 %, in the UK retail sales are down to record lows and Germany’s IFO business index fell well below expectations indicating that Europe’s biggest economy is slowing down significantly too.
In the meantime the effects of the Olympic Games in Beijing are catching lots of attention. A large number of factories in the surroundings of Beijing are closed already while others are hindered by transport restrictions. Water supply in rural areas around Beijing is diverted to the capital, leaving fields dry. It is going to be interesting to see what still might happen before the Games end.
Market Intelligence
At least in the old economies the summer holidays are dictating the situation and activity is sluggish, if not at a halt altogether. In particular in Europe things are looking really bad. If one likes to be depressed, a phone call to the classical tanning centres in Italy, Spain or Portugal are a safe bet to be successful.
There is actually nothing that could be considered positive and, whomever you talk to, people either complain or deliver the most worrying forecasts about the period that will follow the reopening of the industry in late August. Since the complaints have actually been taking place for a while already, many are wondering why the industry in Europe seems to have suffered so little so far. In fact, this is both true and not true. The fact is that production in the tanning centres has been declining for almost all of 2008. In some areas people estimate that there has been a decline of 30%, in others estimates are of a fall of as much as 50%.
Contract operations to close first
This is not only increasing production cost per unit, but it is also weighing on the cash-flow situation. What happens first is that a lot of the contract operations close first and this deflates production capacity quickly. Since contract operations—tanning, splitting, shaving, finishing and so on—usually don’t have large financing requirements, closures in this area are not as spectacular as they are usually when tanning facilities close leaving huge debts to banks and suppliers behind.
A round of closures can now be expected after the summer break. The market whispers mention a number of between 10 and 20 companies that are expected to close, but nobody is mentioning any names—for good reasons of course.
Looking at our section of general economics no one should be surprised if there is no quick economical rebound over the next few months we have to expect a further and serious slowdown in general retail. People have to tighten their spending even further to save for the basics and also the mood is definitely weighing on people’s desire to spent.
As we have discussed already this is hurting the European industry in particular as it is burdened also by the strong euro and by the deteriorating economic conditions; medium-price upholstery leather and furniture—The classic ‘no-need-to-buy’ product—is suffering most.
The situation is also pretty much reflected in the general market activity. There is hardly any trading activity in the famous upholstery tanning centres in Europe and, quite the reverse, there are even more rumours around about documents not being honoured and a number of containers still waiting for clearance at Italian ports. There are also some overseas suppliers reporting that they have been asked to release documents for shipments with payment after the summer holidays. If they choose not to accept this condition, containers will not be released before the holidays and demurrage charges will occur.
No cash, or no orders?
Assuming that these stories are true we are falling back into the bad habits of the past, which we thought we had overcome for ever. Whatever the real reason for the delay—whether the client hasn’t got the cash to honour the contract or is just not in need of the material (because there are no orders)—both options are pretty bad and following the market experience it means there is indeed a good chance for more trouble looming on the horizon later this summer.
Most others in Europe are already on holiday and the few still available at their desks consider this week and the next ones to be the quietest ones of the year. With the general situation of the leather sector in Europe not being too promising anyway, most are quite happy to take a break and to escape from the drama.
This is basically what the European market has had to offer during the past few weeks and with the major tanners and consumers of fresh hides now also heading for holidays a number of hide suppliers are not too happy with rising stocks of salted material, female hides in particular as these are predominantly absorbed by the upholstery and vegetable leather producers.
Asian focus
With the bleak condition in Europe and the summer break now slowing most activities down, the focus has shifted to the situation in Asia.
Despite all concerns, many production in Asia are still reasonably busy and this applies mainly to shoe tanners. For the rest of the market there is not much to say, the same as everywhere else.
Upholstery tanners are becoming—if they are not already—hindered by production restrictions imposed because of the Olympics. Bag leather people are in a similar state and, as a consequence, dairy cows are suffering most. We were not able to find any supplier who was able to report sales anywhere near production levels, and with poor sales and shipments, not to speak about the delayed letters of credit or contracts that have not been honoured, anything other than rising burdening stocks over the summer would be a surprise.
Slack demand
The discussion within the trade is now about what can solve the problem of this material, because so far nobody is displaying any kind of optimism regarding a quick turnaround in the upholstery market. It seems it is actually less a problem of price than a problem of lack of demand.
Sure, the end of the Olympics and the start of the winter production season in late September will create more demand for raw material and price corrections at that time will also make purchases and production more attractive again. But in general there is a need for alternative use of dairy cows. A number of pundits are of the opinion that there is a fair chance that cows could start to be used in shoe production again, as has happened a number of times in the past when the spread between the males and females had become too wide and, attracted by the economic advantages, many producers decided to use them as a cheap alternative.
This was particularly simple when soft nappa leathers dominated fashion and were used in women’s as well as in casual men’s footwear.
European sourcing
In the meantime a number of European suppliers have reported reasonable interest from Asia in male hides from Asia. There are many theories why a number of shoe tanners across Asia have started to source in Europe again when at the same time US reports are citing that there are still hides to buy and a number of suppliers would be pleased to ship product fairly quickly.
There is still an ongoing controversy surrounding the price spread at which European males are becoming an attractive alternative and opinions are wide apart. As we discussed already in the last issue of Market Intelligence on July 15 one can fine a number of pros and cons. In the end it is most probably a question of force of habit and strategic decisions than a result of serious calculation.
Whatever the reasons, our anticipation of two weeks ago that European hides could be worth thinking about seems to have reached a number of tanners in Asia and a decent number of trial orders have been concluded. Certainly this is not changing the overall market situation yet, and it is definitely not the turnaround signal, but it shows that hides are still needed at shoe tanners, and buyers there are choosing to take product now rather than speculate on another big landslide of prices in the near future.
No relief for splits
There does not seem to be any light at the end of the tunnel for the split market. Whoever you talk to is complaining, and if there is anything positive to say, it is that many believe things cannot possibly get any worse now. Consequently, the situation can only get better after the summer.
The skins market is also in a kind of agony. There is still no clear direction from fashion, Hebei province is still paralysed by the Olympics, and Poland and Turkey, for example, are still hindered in their activities by customs activities in Russia, which are making trade very difficult. All of this means there is little to stimulate the garment and skin market. Prices for decent quality light bovine skins have also corrected a lot over the past months and ovine alternatives, with all their technical problems, have lost a lot of their attraction today.
For the coming weeks anything other than a further slowdown of market activity would come as a surprise. Normally, now is the time of the Chinese purchasing in Europe. This applied in particular to dairy cows in the past, with tanners needing to replenish their inventories roughly six or eight weeks before their European counterparts.
However, with all the problems in this sector, the production restrictions in relation to the Olympic Games and the still existing inventories of raw material, we are not too optimistic about an active market. If the firmer trend of the dollar persists, there might be more of a chance.
For males it will be interesting to see if demand stays strong. Also here the dollar could be of help, and if there are still a few open positions to be filled, this could at least support the market and prevent it from any further correction. So, at the end taking a few days off might be the best option these days. This at least prevents people in the industry from making mistakes.
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