A belated welcome to the new year.

Ever since tanners discovered a use for hides, producers and buyers alike have wanted to predict the future in terms of price and supply of this animal by-product. All the indicators suggest that the US economy is healthy but the rest of the world must not have received the vaccinations. We therefore have an incongruous trajectory compared to Europe and Asia not a harmonious situation.

Most of the trade was expecting good things from the market at the start of 2015: a seasonal increase in supply, new shoe orders, tidy liquidations, improved yields and steady leather prices. None of this has actually transpired; in fact 2015 began with a glorified whimper and some underlying issues that most of the trade wish would go away.

The west-coast port slowdown has definitely put a wrinkle in the equation and more hide containers are being held in California than in Missouri. Cheap money be dammed, shippers are labouring under the weight of financing all these hides, waiting for boats, while customers overseas look on and complain about late sailings, their own production requirements and the erosion of their local hide stocks. The US is obviously suffering from self-inflicted wounds, so let’s blame the president for not resolving the west-coast situation, the strong dollar, Asian sourcing in European Union and Australia, and let’s not forget the high hide prices, and of course the winter seasonal kill.

So why is the market defying gravity and continuing to gain traction like an ageing rolling stone?

Supply: We often hear the argument that we are running out of cattle, packer margins are in the red, and meat is not selling, all of which seem valid comments and at one time were no doubt true. The facts portray a slightly different story. Yes, cattle inventory numbers are down year-on-year, and yes, production or slaughter is also down, but total meat production in terms of pounds or kilos produced is roughly unchanged. Live cattle weights have increased over the last 20 years and the reality is that, with competition from alternate proteins (poultry and pork), the market does not want or need additional red meat supplies. According to the US Department of Agriculture (USDA), heavier cattle placed into feedlots in November 2014, combined with continuing relatively cheap corn and the potential for longer feeding periods, will likely result in heavier finished weights, preventing total beef production from declining as much in 2015 as reduced cattle inventories would imply. With a few corporations controlling the majority of the protein markets, the industry has better balance than a tight-rope walker.

Slaughter or, to use a more politically correct term, “harvesting” has settled into a range of 31 million to 32 million per year in the US, and while the hide numbers are not great, there is a preponderance of heavy or larger hides, with greater corresponding footage. This offers some benefit but does not replace the reduction in total supply. Recent USDA reports reflect heifer retention and herd rebuilding, but this will only translate into larger slaughter numbers in the second half of 2016. Yes, we have some short-term reductions, but please remember that US hide production increases from Memorial Day (at the end of May) until Labor Day (in early September). February and March are never good months for red meat production and, coincidently, the timing usually sucks as this is when Asian tanners place their orders for winter shoe coverage. So the historic rule of thumb reflects buying during a period when supply is typically lower and quality is suspect. However, we believe that 2015 will be a little different as the major component on the demand side, shoe business, has changed. More will be explained below.

From a pricing discovery perspective the hide market absorbed the news of lower supply numbers in 2013 and 2014. It’s an old story and something that will not improve with age. Sellers will constantly make the argument that they can move all their production with one call (collect) but what’s not being discussed is the acceptance by producers that they are more comfortable with higher inventory levels. If you cannot sell this week, then just wait till next when the buyers will blink and cover their needs. This game of chicken (excuse the pun) has worked in favour of the producer of the hide since 2010 when, each time the market seems poised at the precipice, sellers have collectively held their proverbial breath, allowed their inventories to build and then get rewarded with improved prices. I love it when a plan comes together.

The US dollar’s strength against all leading currencies is actually a good thing for tanners. As a point of reference compared to the euro, the dollar has gained around 10% since last October. Considering that most of the world’s finished leather transactions are conducted in US bling the gains are helping manufacturers lower their conversion costs as these are paid in local currency. In addition, EU hides have now become more attractive and, coupled with the west-coast port delays, have nudged Asian tanners into Europe where, not only can they source cheaper product, but they can also get deliveries on schedule.

We in the US should be concerned about losing long-term market-share, as once tanners have had a bite of the EU apple there is no turning back.

Export transactions, which today involve more than 95% of US hides, were decent the first five weeks of the year, with sellers apparently registering 20% more sales compared to the USDA report of hides produced. This theoretical imbalance between supply and demand would clearly indicate a market as being oversold, but prices actually dropped in January by between 3% and 5%. This would suggest a growing short position or more realistically an adjustment in producer inventories.

In terms of demand, shoes, bags and belts, the mainstays of the hide market, lack the intensity and interest witnessed in previous years. This is simply a reflection of hide and leather prices having hit a tipping-point during 2014 when designers and retailers switched their material requirements away from leather into alternatives. In particular ladies’ boots have been redesigned to incorporate synthetics in several locations previously occupied by leather. There is a similar story for men’s hiking and work boots, where material replacement has been widely applied thereby minimising the impact of current leather prices and allowing brands to maintain historic margins.

While residential upholstery has seen an improvement in demand inspired by the pick-up in real-estate sales and rentals we are still a long way from the sub-prime mortgage demand years and therefore this improvement in the sale of leather couches is more of a bounce and not a trend.

The automotive sector is where the news is all good. January’s published car sales were very positive with most of the OEM’s reporting double-digit growth compared to the same month in 2014. This explains the auto-leather tanner’s optimism, witnessed during the second half of 2014. Numerous companies discussed their expansion plans, increased soaking and desire to enlarge their sourcing options, all indications that leather is a hot commodity for car sales. With the growth in the luxury market segment the biggest challenge to auto-tanners is finding enough suitable hides. The unintended consequence is short-term pressure on prices as buyers ignore cost because of their desire to satisfy production requirements. Growth is projected to continue unabated as the OEMs target leather interiors as a means of product differentiation.

While not wanting to suggest this auto success is at risk, it is important to mention a realistic threat to this happy condition: synthetics. With oil trading around $50 per barrel, half of what it was one year ago, leather as a substrate is in for a rough ride. We can make the age old argument that our beloved raw material is embraced, cherished and romanced by all who use it, but not even St Valentine can save the day when auto OEMs and shoe brands’ profit margins are at stake. Leather prices have barely moved these past few months, a reflection of the continued high raw hide prices.

It’s very timely that the trade should wake up and smell the roses as “de-contenting” and “material replacement” are not only buzzwords now, but a sourcing reality. The battle over leather’s use in shoes for 2015 was lost way before the end of January. The major brands, coupled with high-profile designers, have switched into synthetics faster than Greece ran out of euros. Consequently, the demand side has a weak undertone and this will only be encouraged and intensified with lower alternative raw material prices.

Why should understanding the market be easy?

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