Macroeconomics

The past two weeks have been a little bit quieter than the previous ones but still exciting enough to keep everyone glued to the headlines. From a European perspective, one of the most important events was the election in Greece. As expected, the leftists won but then went into high-speed negotiations in a coalition with the extreme right. The only thing linking them is their dislike of the restrictions put on them from northern Europe under the lead of Germany, the International Monetary Fund and the European Commission. The new Greek government was immediately touring the EU capitals trying to boost their position and to test if their partners in the EU would be willing to support their ideas. The outcome is open.

The European leaders and their financial ministers are already busy with financial problems within the EU and, to make matters worse, the situation between the Ukraine and Russia has not improved. Many people think it has calmed down because it is not making headlines, but last week the conflict gained momentum and relations between Russia and the West are deteriorating. The new Greek government said they might not continue to support the common policy of the EU community in regards to the Russia in the Ukraine conflict. The ongoing cruelties of ISIS are also weakening political stability. After killing the Jordan pilot and Japanese citizens the international community is beginning to unite against this security threat.

The financial markets took a bit of a break after the fluctuations in currencies and commodity prices. Despite of many forecasts the euro stopped its decline versus the US dollar and was even able to recover from the lows close to the $1.10 level which we had after the Greek elections. However, the euro has become reasonably vulnerable again and a lot will depend on the US’s Federal Exchange policy for the second half of 2015. Rising interest rates in the States and further uncertainty in Europe would put the common currency under pressure again. In the meantime, the American economy looks reasonably strong with rising income and a pretty solid labour market.

The quantitative easing programme in Europe and the ongoing low interest rate policy in many other parts of the world continue to support stock markets and, apart from Greece, many of them continue to perform strongly.

The oil price bottomed and even rebounded. The predictions of levels of $40 for the barrel are for the moment a way away. However, energy prices are still pretty low and, for those who are able to hedge, energy costs for 2015 and beyond can be calculated at much lower levels. This is working well and comes as an additional stimulation for the global economy, because it is generating more disposable income and lower production and transportation cost.

The Asians are now winding down for their New Year holidays [Chinese New Year, February 19] which is reducing activity by quite a bit.

Consequently, the outlook for the recovery of the global economy would be reasonably good if we did not have to deal with a high risk political tensions in various regions.

Market intelligence

Uncertainty has dogged the past two weeks. After talking to footwear and leathergoods retailers about their expectations for the coming months, most are reporting underperforming sales and higher-than-expected inventory levels after the winter season. Many have become pretty cautious about the coming seasons and decisions about purchasing are being delayed.

This is the result of the currency market, the effects of which are having a big impact. In particular, those selling in Russia are facing massive currency losses and for the others it is very important which currency they calculate their production costs and where the majority of their selling takes place. Everything based on US dollar calculations has been affected, as long as the sales are not within the US.

Most will not have factored sharp currency movements into their budgets and that means that a lot of calculations will have to be rewritten. After they have been rewritten they have to be read by management and then to be converted into commercial decisions, which takes time. This means that for the moment a lot of purchasing and budget decisions have been put on hold, but this does not necessarily mean that they are going to be altered. However, the changes are so big it is likely they will have an impact on orders.
The leather fair in Chennai, India, was a first indicator. The general mood was influenced by the changes and many producers in India were pretty unhappy. They have to buy a lot of material and components based on the US dollar and many are selling their products into the European Union, which is causing headaches in their calculations and as far as we understand, not many had been hedging the currency for pending contracts or new ones.

The problems of calculations made people look for cheaper raw material alternatives to try to get something compensated. We are seeing the continuation of the trend that where leather is just a material the pressure on prices is mounting, while the superior end of the product lines can still deal with the problems and the demand for top quality shoes and leathergoods remains more stable than one would have expected under the circumstances. However, the top lines are the smallest part of leather consumption.

The situation in the bovine market remains unclear. More people are questioning the statistics and published reports. Many people say they have not matched their experiences of their day-to-day business for some time. Nobody can claim that he knows everything that is happening, but there are strong and reliable networks in this trade in which information is exchanged and people trust that information delivered is correct. The main topics of discussion at the moment are the volumes of sales reported and the effects of the strike at the West Coast ports in the US. The numbers of sales and the restricted possibilities to ship product do not match. Many are concerned that a number of big buyers in China are overbuying.

While the north of China has not been too affected by the situation in the US, our European partners are reporting that they saw quite a bit of activity from China in the past two to three weeks. However, this activity came mainly from tanners that are known to be buyers of US material and so the shift cannot only be explained by price. Some pundits are now mentioning their concerns that the sales could be inflated but demand and acceptance of contracts will be different after the Chinese New Year. Many believe the leather business is far away from the volume of the hide business one reads in the published reports.

Others are stating that a number of big tanners in China will prefer to have the rest of the season covered by raw material. Those who have got decent order books are taking reasonable benefit from the recent decline of raw material prices and so they are not willing to take any additional risk on the raw material market and would rather wait for early in the second quarter to see how leather demand and the raw material market is developing.

Tanners do not seem to be too concerned about possible price rises after the Chinese New Year, otherwise they would be opening letters of credits much quicker than they do and they would be pushing shippers much harder to get raw material on the boats to arrive rather sooner than later in Asia. We are hearing quite reverse - the majority of shippers expressed their concerns about slow incoming payments and letters of credit. The optimists are relating this to the cashflow problems Asian tanners generally have just before the Chinese New Year holidays and believe there will be a big improvement after. The pessimists are pointing at the general problems in the Chinese banking system and they are getting increasingly scared that one day we could see a financial problem in China with all the consequences on the raw material markets we have seen number of times before. Let’s see who is going to be right.
From our perspective we are mainly watching the congestion of the material flow either way due to the West Coast strike. The agricultural industry in the US is complaining about the restrictions they have on shipments and on cash flow. Imports have also been affected with a number of ships waiting in the sea. A lot of consumer goods are not reaching the shelves in time, which can be critical with seasonal products.

Since the leather pipeline has not been able to supply any reliable information about how much the flow of product has been affected we have been talking to some of the major shipping lines serving the coastal ports. They are all confirming the congestion and a period of 40 to 50 days to return to something that could be called normal service. This is under the condition that the strikes end within the next week and many of the large shipping lines consider that pretty optimistic.

As far as the leather pipeline is concerned we should assume that if leather business was good, tanners in Asia would be more concerned about their raw material supply and the potential interruption of the supply flow. In any case we will keep a close eye on the situation because we believe that it could become more decisive than many people are realising.

After the turmoil on the currency market, most supply origins have been trying to sort the influences on their local markets out. Despite the better returns many of the non-US dollar regions achieve, local prices for raw material are barely going up. Obviously traders and processors are not convinced that the prices and margins they have been able to generate since the dollar went in their favour are sustainable, so they prefer to keep things stable to be protected against any surprises which may occur after the Asian break.

Tanners are not interested in any major price fluctuation at this stage, at least not until the next season begins. A serious drop in raw material prices at this stage would put a lot of their leather contracts in serious danger and add to the currency adjustment requests many of their customers are making. In particular, leather and consumer product buyers in the United States which are purchasing in their local currency are asking suppliers for currency-related price adjustments.

It is fair to say that the relative steadiness in the bovine raw material market is the best option one could have in these times of uncertainty. We are fully convinced that the market is beginning to build tensions for a readjustment in the coming eight to 12 weeks, but it would certainly be significantly better if this happens when the current production season ends.

The split market is also showing more steadiness. Chinese tanners continue to complain about falling split prices, but we do not see that much of a change. In particular local prices in China for drop splits are very low, but they have definitely bottomed. For other wet blue splits we would consider pretty much the same and, after the massive correction of 30% to 40%, prices have now found a level which is in an acceptable correlation to the raw material prices. What fashion dictates for the coming seasons and what this means for the split market we may see from the shoe fairs in the coming weeks. However, we think that PU-coated splits should have a rough time as far as price is concerned because of the strong competition from artificial products. Some of the big brands using traditional splits of this kind have already indicated that their leather consumption for the foreseeable future is going to decline by between 20% and 40%.

The skin market has definitely bottomed for the time being. Some demand has returned and this is coming in particular from China, but also Pakistan and India are feeling that not much more price reductions can be expected for raw material and with the level which we have reached one must be a fool not to replenish inventory with or without finished leather orders.

One of the biggest, if not the biggest global purchaser of skins has become pretty active in various markets and they might have already put some cheap skins under their belt, because they are quite willingly putting purchasing prices up and we don’t think they are doing this because of any immediate demand, but to make their stocks look a bit more valuable and to take some seasonal advantage of size and wool return. Skins with finer wool are also seeing more attraction and the prices for skins which had been so depressed a couple of months ago have definitely stabilised and even recovered.

The coming weeks are likely to be very quiet. Asia is preparing for their annual New Year holidays and as we all know this is the quietest time in the region. With so many factories closing for an extended period of time it is unlikely that too much activity will be generated in the leather pipeline in the coming weeks – at least as long politics and the financial markets do not force people into action. Sellers are fully aware of the situation and it seems that they have prepared themselves for a quiet period ahead. In several Catholic parts of the world we are also now entering the carnival season. Hardly anyone in leather pipeline is interested in any major movements in the market at this stage. The break has come at the right time and only people with a lot of courage will take the chance of a deserted market to push prices either way.

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