Macroeconomics

There are many political and financial issues affecting the markets. In Europe, much of the interest is focused on the refugee problem and how the European Union is going to deal with it. The initial wave of hospitality in many countries is beginning to fade as warnings about how communities will cope with the sheer volumes begin to emerge. In some countries where refugees had been welcomed, tensions are rising. Consequently, it is surprising that the financial markets continue to focus on interest rates.

The fragile situation in the Middle East hasn’t had much bearing on the financial markets, either. Russian military planes are flying close to American and Turkish ones near Syria and, as impossible it seems, the old two superpowers are standing nose to nose in an important region. We must not forget the Ukraine conflict is far from being solved.

Most of the markets were expecting the US to increase interest rates in October and now it is just a question of whether they will do it in December, or whether 2015 will pass without action. Data coming out of the US delivers a conflicting picture - consumer confidence rose above expectations this week while industrial production declined.

In Europe and Japan the markets are expecting further liquidity injections to boost the economy while profit warnings have been shaking stocks. However, the general indices are holding well and a change in mood has not been detected.

Large fashion brands and retailers such as Hugo Boss, Burberry and Nestle delivered lower than expected results, mainly blaming the falling Chinese consumer market.

Commodity prices continued their rollercoaster rides with precious metals moderately rising and oil prices jumping up and down.

In the currency markets, the euro continued its recovery but has not been able to climb above the 1.15 mark against the US dollar. Considering the problems Europe is facing, one has to be surprised about the relative strength of the currency.

Market intelligence

It is not easy to get a clear understanding of the leather pipeline. Leather demand on a global scale is substantially lower than it has been over the previous four or five years.

The reasons are many: a slowdown in the consumer market in China, financial problems in countries such as Brazil, the refugee problem in Europe, the sanctions against Russia and the consequences for many of their main trading partners. However, there are around 8 billion people around globe getting more spending power.

Financial data is not an appropriate tool to predict the leather pipeline. The parameters for leather are much greater than the statistics economists use. In this trade you deal with influences based on emotions, and these are difficult to measure. Fashion is also a factor, as is beef consumption. The weather, currency fluctuations, political decisions, effluent control and general social trends such as food styles and animal welfare also have an influence.

All these make the sector difficult to analyse. It is not long ago that all the books being offered to the industry were forecasting raw material shortages and leather becoming the product of luxury. Not anymore.

After the Muslim festival of sacrifice, Eid Al-Adha, many Muslim countries had a surplus of raw material with prices for hides, but mainly skins, close to nothing. And even at that level there were not enough takers. The expectation for recovery in general leather demand is so low that even the lowest interest rates and the highest amount of liquidity in the market is not triggering enough interest.

The bad news is that this is what people are basing their decisions on. The good news is they will be wrong as they were a year ago when they thought the sky was the limit for prices. This is normal market psychology.

While low grade raw materials have almost no value, there are selected raw materials close to record prices (South German bulls, for example) and even the average section is far from cheap.

The real story of the moment is the spread between the alternatives. Most leather demand is dominated by mainstream fashion and a small number of retailers selling pretty much the same style, just changing the brand and the label. This is the main reason we see this extreme volatility and this massive amplitude in terms of prices and demand. There has been no financial crisis, no war or any other general external impact on the market and we still saw the extremes between high and low in the past year. We believe that the main reason was exaggerated price levels and the consequent substitution of leather for price reasons.

Let’s have a brief look at what has happened in the markets during the past two weeks. Most of the leather orders for the current season must be locked in now. It can’t be for the same volume as a year ago, because tanners not rushing to cover their raw material needs, despite low stocks. The majority are pretty reluctant to commit. This is normally called hand-to-mouth buying.

Any attempt to push prices higher was in vain in September and every higher price resulted in no sales. The only market showing some kind of dynamic was the market for dairy cows, due to rising interest from the northern Chinese tanneries in Hebei province.

However, suppliers were not too impressed, because these customers were the ones that walked away from contracts in spring when prices came down and they felt they had paid too much. Suppliers are certainly refraining from selling to people who let them down just a few months ago.

The main concern is that this kind of interest could be short lived, as the window to ship for arrival before the Chinese New Year break is beginning to close. To take a forward position in the hope of arranging payment by mid-December is not really an option for many international shippers. So most of the sales were for quick shipments wherever shipping space was available and the product ready to go.

The rest of the markets were pretty slow and prices continue to be under pressure. The automotive industry remains a bright spot and despite the scandal around VW the optimism of the car industry remains intact. However, we have a few doubts. Too many sales regions are not performing well enough that a real global growth in car sales for 2016 can be expected. On the basis of the forecasts a lot of carmaking plants are under construction and will go onstream in the next year or two in Asia and Middle America. It would be hard to expect the automakers to predict a subdued sales market when they know how much production capacity they will have to fill soon.

We have to be aware that we are in a deflationary environment and consumer prices are stable at best, and in many market segments they are declining. Leather is in competition with alternative products that are more competitive, and only the high-end segment can escape this. The conditions do not indicate the possibility of recovery for the leather market.

SPLITS AND SKINS

Not much news from the split market. The niche segments are running normally, but the bulk of production remains in trouble. In China, lime splits remain under serious price pressure and much cannot be sold. In Europe, the conditions are a bit better, but fundamentally tanners are struggling to move production and need to remind their clients about long-term relations. The situation should ease a little during the winter when collagen demand tends to be higher.

The skin market remains stagnant. The recent kill in Muslim countries has increased supply of low and medium grade material. Better-quality skins are doing better and high-quality light and dense skins are finding regular interest in the premium lining and garment sector. Although most suppliers are still depressed we are daring to become moderately optimistic again. After the massive decline of prices in spring 2014 and the excessive and expensive stocks after the Russian market collapsed, we get the impression that the conditions are beginning to improve. Why? Prices cannot fall any further and they are competitive with artificial products. More leather garments have been seen in stores this autumn - retailers must have taken decisions six months ago to stock real leather - and 1970s’ trends are making a return.

Stocks in the production pipeline are low and raw material is in the hands of the suppliers/abattoirs. Winter in the Northern parts of the globe has come early this year and this drives the sale of shoes, garment and gloves at a time where retail stocks are not high. This would raise cash positions and market confidence. So, we have perfect conditions for an improvement in this depressed market. This is the only area where we are seeing light at the end of the tunnel.

In the general pipeline, leather consumption is not matching raw material supply. Deflation affects consumer products and leather has lost market share. These are the basic conditions of the market and they are not improving. While some bovine materials have fallen to very low levels, others are still in the long-term average range. After the first correction in spring and early summer, one has to watch carefully how the pipeline flow continues. Balancing the positive and negative facts, we believe the general trend continues to be down and will be until the surplus of raw material is balanced by increased demand for leather.

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