Macroeconomics

Over the past two weeks, the world was in the grip of the issues we have been dealing with for some time, added to by the murder of the Russian opposition leader, which raised questions about the safety opposition in Mr Putin’s country.

The crisis in Ukraine remains unresolved and one has to hope a solution can be found soon. Russia’s neighbours are becoming increasingly concerned and this can be seen in Latvia trying move away from dependence on Russian gas.

The situation with Greece hasn’t changed much. Positions have been taken, but no solutions have been found. The Greek government is talking to everyone around the globe in the attempt to find additional allies and assistance to solve the financial woes. At the end of last week, the Greek government surprised the European Union again by declaring they have less money than had previously been thought.

The financial markets are not taking too much notice. Stock markets remain firm with investors failing to find any other attractive investments in this time of low interest rates. Energy prices have been rebounding in the past weeks and this has also increased consumer prices in various countries, which is creating a bit of inflation.

Other commodities are not showing price movement, which is usually an indication that investors are uncertain about the market trends. This is not surprising considering the unclear pictures in many parts of the world.

It was again the currency market which delivered most of the sensations in the financial sector. In particular, the euro fell significantly in the past two weeks and ended Friday at levels around 1.0850 against the US dollar. We might recall that this is almost $.30 from the levels we had been recording last summer. One doesn’t need to be a financial pundit to understand that such kind of movements in such a short period of time are creating massive tensions at a corporate level.

Market intelligence

The past two weeks have been dominated by the Lineapelle fair in Milan, the return of the Chinese from their New Year holidays and by the end of the strike at the West Coast ports in the United States.

Let’s start with the leather fair in Italy, which is possibly the most directly related to the leather pipeline. Our impression after the visit was reasonably negative. Yes, there were quite a number of visitors and nobody can complain about the crowd of attendance in the various halls. So the headcount was good, but was the general mood about the leather business the same? We would that claim for the majority, it was not.

When we summarise all the discussions we had with the exhibitors, those with positive opinions were fewer than those with concerns. For the majority of tanneries, orders were significantly less than a year ago. This does not even include the ones supplying to the shoe industry in Russia. Nobody believes the market in Russia is totally closed, but the financial issues are dominating. The damage to the Marche footwear-producing region in Italy runs deep.

The luxury sector is seeing slowdowns and many tanneries delivering to the high-street names are complaining about order delays and a very uncertain situation for the coming season. This is hitting almost all the big names, with only one exception, which we won’t name. Other big names famous for their leather collections are not supplying any clarity to their suppliers about their plans for the coming season. Most people close to the situation are blaming significant stocks of finished product stuck at wholesale and retail level.
In the shoe sector, the industry is suffering from the Russia problems or the warm winter. Somewhat better business overseas in the US and the firmer US dollar helps but cannot make up for the downturn in demand. Again, you will always find somebody less affected by the situation but, on average, leather demand is lower than it was a year ago.

When we talked to a number of raw material suppliers from Europe it was interesting to notice that many were mentioning an increasing demand from China for better quality raw materials. This matches the rumours we heard that the Chinese tanning industry is trying to upgrade their production to more expensive leathers, because many of them feel that this direction, in particular in the domestic market, is the only way to counter the rising cost of production in China. Consequently, a number of raw material suppliers are far less concerned about the situation they face in Italy, because they see potential overseas. The currency situation is helping this trend.

Upholstery

Although the leather fair in Milan is not an event for upholstery, the number of exhibitors from the sector is significant. The situation in this sector is not much better. You find always niches less affected by the circumstances, but in general, price is the biggest problem in this sector. For European tanneries selling to the European customer base, local raw material has been and still is far too expensive while imported raw materials in particular on a US-dollar basis have become more expensive due to the devaluation of the euro.

If you look at the finished leather prices the remaining European upholstery manufacturers are willing to pay for leather and consider that this is the biggest part of the production, then one can easily see how difficult it has become for upholstery tanners in the region. Order sizes are getting smaller, prices are under pressure and the upholstery industry does not seem to be a brilliant payer. The medium and higher end cannot compensate and so one can be reasonably concerned about the sector in the European tanning industry.

On average, we would say less than 50% of European tanners from the shoe, leathergoods and upholstery sector were optimistic about the season to come.

Automotive
This leaves the automotive sector, which many believe is the only one in the leather business which is free from problems. We wouldn’t be so sure about that, although the quantity of leather consumed in 2015 is certainly going to be higher than the quantity cut and sewn in 2014. Global car sales are growing, although we have regional differences. China and the US will compensate for reductions in other regions. Having said that, one has to keep a close eye on the situation in China, because people have realised that cars produced and shipped to China does not necessarily mean that the car is sold. The statistics can only be an indication rather than confirmation of the performance of the market in China.

For the time being, and this means at least until summer, car factories remain busy. One thing is clear: the price war in automotive leather is on. There are serious discussions between automotive manufacturers and their suppliers about prices and cheaper options that they still call a leather interior.

Currency
With the developments on the currency market, in particular last Thursday and Friday, we think it is necessary to discuss this subject, too. We realise many are relaxed about the situation. In particular in Europe people believe the rapid devaluation of the euro is to the benefit of the seller. Abattoirs are asking for more money, traders and exporters are becoming currency gamblers rather than raw material sellers and an increasing number of customers have been asking for currency adjustments.
The massive devaluation of the euro - we will take this currency as an example, because it is after the US dollar the biggest player in the leather pipeline - is having far more important effects than just the increase of revenues when material is sold in US dollars. Although exporters of hides, skins and leather are able to take the short-term benefit, one should be wary of seeing the trend as only positive.

It is true that weak currency is supporting exports and making local manufacturers more competitive on the international markets. However, it is not that simple. As strange as it sounds, some can even be badly hit even though it looks positive.
For exporters from the US and/or from countries where the local currency is either pegged to the USD or the local markets are working in US dollars, it is obvious that the prices for such materials are become increasingly expensive with the rise of the dollar and making them less competitive. This could lead to a sharp corrections of prices in US dollars and build new pressure on the exporters from the countries with devaluating currencies.

Another problem is the difference between the timing of raw material and finished leather prices. Even worse if somebody has to buy materials in US dollars and sell in euros. Currency hedging is not always possible for such producers.

Even global players are affected when currencies move sharply. Budgets are normally decided in the last quarter of the fiscal year, which generally means between September and December. Hedging is pretty common and while you can possibly hedge your budget you cannot to the extent we have seen in the last three months.

The European Central Bank might even have the intention to weaken the euro to support export business. We should not forget that the demand for leather has not been brilliant before, but when prices for finished leather have to go up because the majority of leather in the world is produced on a US dollar basis, it will not be good for total leather or leather product consumption.

So those who think the currency effects will have a long term benefit for leather demand need to reconsider.  Those asking for higher prices in euros within the eurozone should be careful that it doesn’t come back as a negative surprise later on.

Before ending this section, we have to deal with another issue we have been looking at for quite some time: the export figures published in the US every week. These regularly published numbers are so important that their reliability is essential. They should not produce any doubts and questions.

For quite a long time, many people were happy to report and to believe in the positive numbers. We voiced our doubts once in a while but one has to be careful if you can’t prove any better.

With the strike at the West Coast ports in the US it was not so much the export sales, but more the physical shipments that people began to question. How can the export numbers be that high when the most important ports of the US are closed? Suddenly questions were raised about how these numbers are created and what the basis is for the reporting. It was quickly apparent that the interpretations were pretty wide. But the fact is that there are no better numbers from any other country and so the USDA can’t really be blamed, but one has to be careful with the numbers when they are used to support a certain market judgement.

Splits and skins
The split market did not see much movement in the past two weeks and prices may have bottomed. In China, there are still several voices saying the split market remains under pressure, but we have the feeling this is more to keep the hide prices under control rather than being a real reflection of the situation. We are not close to describing the situation as much better than it was, but the descent of prices has stopped, from what we can gather.

The skin market is a bit of a mystery. The activity of one of the largest global tanners for sheep and lambskins has sent a signal to the market that the skin market has also bottomed. Generally, skin prices have already seen some rebound and it is difficult to figure out how far this rebound has really gone. The range of prices one can find in the market is exceptionally wide and can reach as much as 50% for the same description. The prices for skins with fine and dense wool are higher and everybody is now asking if the upcoming Easter kill in Europe will create a correction again. At the same time, we are hearing about new interest from Turkey and Poland for skins, even at moderately higher prices, and it seems that some producers need to replenish specific grades.

Next two weeks
For the coming two weeks we do not dare to make any predictions. The influence of the currency markets needs to be digested while everybody is trying to grab the maximum of benefit from it. The weeks prior to the Hong Kong leather show [Asia Pacific Leather Fair, March 30 to April 1] are normally dominated by a firmer price trend, because sellers do not want to visit their customers in Asia with a feeling the prices could fall rather than rise. This would be a pretty bad position, sitting in front of your client, trying to sell. It would be a pretty dangerous policy to attempt to raise prices, because one has to consider the time after the Hong Kong leather show, which is generally the low season of leather production.

What could be also a determining factor is the congested shipments from the US. The prices for these hides might look pretty expensive and this is not even considering the changes in the currency market. Even if we are not discussing potential risks from the price side we have to assume that all the hides which were stuck in January and February are now going to be shipped over the next 60 to 90 days. This should mean the drums of the tanners, in particular in Asia, should be filled with hides arriving from the end of April until the end of June. If the information available is true then tanners should not have a big need to buy.

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