The Leather Pipeline - 23.1.18
23/01/2018
The year 2018 has started with not very much big news. However, there is still quite a bit that the markets and businesses are talking about.
The main subject, which also touches international trade, is the currency market. The USD continues to slide against many currencies. This makes the balance of decreasing import cost and falling revenues in local currency for export products an issue. It is changing the calculations for many businesses.
There are many explanations and many experts have tried to find reasons. As usual in such a situation you find plenty of analysis and deep thoughts. Perhaps it’s the interest. Perhaps it’s politics. Perhaps it’s the rising oil price. Perhaps it’s the Chinese not willing to finance US debts. It could even be bitcoin. There is something for everyone to choose from. Perhaps it’s much simpler; after the firmness of the US dollar in the past couple of years and it not managing to break parity against the Euro, investors may have just decided to ride the wave in the opposite direction.
For the international import and export business, such currency movements may make quite a bit of difference. What is pain for one group might be pleasure for another.
The hype around bitcoin is also interesting. Virtual currencies, which seem to be one of the biggest speculation bubbles in recent history, are facing tremendous headwinds at the moment, particularly from national banks and governments. After a long and amazing rise, the correction last week did not really surprise anyone. It might be too early to declare the story and the hype over, however.
Interesting for our business and markets is the price of oil. After a fairly steep rise, the prices have settled down a bit and markets are now waiting to see the next direction it is going to take. There is a general agreement that almost nobody has any interest in further price rises, which would be bad for the economy, nor in any kind of substantial falls, which would be critical for the income of oil-producing countries. A level of around $60 is considered to be an acceptable price for both sides. However, when have the markets ever taken any notice of what would be economically rational and make sense?
In the meantime, the stock markets continue to move sideways and to stay within narrow ranges. Stock prices are still fundamentally moving higher in expectation of stable and better earning in 2018.
Inflation is beginning to crawl back. Food and energy have become more expensive and, although we are still at fairly low levels and haven’t reached the targets of national banks, the rise of consumer prices is slowly being felt all over. The abundant supply of liquidity, combined with a positive outlook for the global economy, means we should expect a rise in interest rates in the middle of the year at the latest.
Market Intelligence
We have seen a slow start to 2018. The leather pipeline continues to perform like it did at the end of last year. We are in the first quarter of the New Year, which is generally the second quarter of the high season and leather production. As a result, the lion’s share of the winter business has already gone and the slower pace of the summer half is already on the horizon.
The next two months will deliver more insight into the future of leather. This year’s Lineapelle exhibition coincides with the Chinese New Year holidays, which could make it less likely that Chinese visitors will journey west to check the latest trends. Perhaps the opposite will be true, and they will take the opportunity of the holidays to travel. Nevertheless, Milan will once again be the window and trendsetting event for the high-end luxury and fashion markets. This part of the business continues to perform well and leather continues to be appreciated, so it will be exciting to check if there are any new trends in fashion for the 2019 seasons.
A few weeks later, most of the trade will travel to the APLF exhibition in Hong Kong. This is much more a gathering for international raw materials and so will cover the volume and commodity section of the leather pipeline. This could be far more important and may disclose more about the real situation in the raw materials market at the moment.
The more one deals with the day-to-day information, the more one comes to the conclusion that there is a widening gap between the real situation and the one that is published. The aggregation of available data, published reports and general gossip hasn’t mattered for a while now. At least one of them is wrong because the three can’t agree on their conclusions. The biggest question mark is still over the balance in the raw material markets. The international beef industry and raw material suppliers were quite successful in creating some kind of stability in the final months of 2017. This has to be analysed carefully, however.
Currency plays a very important part in the equation. For European suppliers, the US dollar has lost roughly 15 cents since the beginning of 2017 and 4% since the final days of the year. Looking at the price trends at the abattoir gates across Europe one quickly comes to the conclusion that the situation in the international market has not yet been reflected everywhere. When you compare the price corrections which have happened in the UK and Ireland with the main continental markets, a big difference is noticed. This is mainly related to the influence of the automotive industry, but also to how many fresh, chilled hides can be delivered.
A changing pipeline
The wastewater situation in Italy and the focus of successful premium producers on fresh material have created a widening spread between hides that have to be offered salted and those that can be offered chilled. The strong demand from leading automotive tanners, which have enjoyed far better performance than companies in other markets, has played an important role too. The spread of prices is a good example of how the markets have changed.
It is not too long ago that exporting salted hides to the Orient generated better returns than selling them in Europe. The strong demand in China, caused by good consumption of commodity leathers and overcapacity in production, made it easy for international raw material suppliers to insist on ambitious prices. These prices were paid by the industry and by a strong group of traders and speculators. It was a game in itself and left a profitable play yard for many suppliers.
All of this has disappeared with the drastic decline of production capacity and the massive decline in the demand for leather in the price-oriented consumer markets. If one needs more proof of the situation, you just have to observe the large discount chains which are offering sneakers for $10-14. It is not difficult to figure how much these ‘shoes’ will cost ex factory and how much room this leaves for leather as a competing material.
The shoe sector is still the largest consumer of leather and a decline in demand and consumption here is not offset by growth in other sectors or by good performance of the global economy. We would like to once again repeat that retailers and producers don’t really care about the material. This might be the moment to also repeat our warning that the trend in shoes is already spilling into other markets too.
This leads us to another very important aspect of the analysis and discussion. Could leather and raw materials ever become cheap enough to stop this trend? Do we have to assume that the price of the material is no longer the determining factor?
We are still in the process of analysing this and we have not yet come to a final conclusion. Nevertheless, there are strong indications that the leverage of the material prices has declined significantly. For standard consumer products, the margin is determined more than ever by the cost of production and logistics. For the luxury and high-end sectors, it is the image and material exclusivity that matter.
As a result, standard leather and raw materials have lost their market share, while the high end continues almost untouched because it has been able to create a universe of (material) exclusivity on its own. This is interesting because the functionality, benefits and technical specifications of leather are the same whether you use a French veal hide or salted hides from Africa.
Quiet start to 2018
As far as news from the industry is concerned, we have had a slow start to the year. The beef industry is still trying to transfer the success of premium lines to the standard items. Tanners continue to move towards cheaper materials in order to meet the price targets of their remaining buyers. This is transferring more demand towards cheaper origins and is increasingly pushing mid-priced materials to the side.
In Europe, one of the independent hide processors had to file for bankruptcy. Fierce competition, the falling market and difficulty marketing semi-finished hides by taking the risk for selection and finance has claimed another victim, although several players claim it came as a surprise to them. As usual in this business, the failure of one is attracting others who believe they can do better. The vacuum is quickly filled by others. In private, more problems within the trade are being discussed and it seems we will see more retreats and changes if market conditions do not change soon.
The split market saw the same pattern. Isolated quality segments continue to do well but that is the only special thing. High-quality suede which can be successfully converted into vegetable-tanned products continues to move. For the rest, the situation is much more difficult as price and demand are still not sufficient. Gelatine splits are also in oversupply and prices are expected to drop again. In Europe, people see a threat from the African swine fever epidemic, with more cases around and the infections moving further west. If that were to happen and cause an interruption or decline in pig slaughter, it could eventually be a boost for bovine raw material in the gelatine and collagen industry.
There is also no big news from the skin market. The end of the season for lightweight lambs in Europe has seen the return of the same problems we have been experiencing for a while. Skins only suitable for nappa are suffering and prices are falling back. For old, heavy lambs the threat of zero revenue is back for the slaughterhouses. Quality skins with fine, dense wool or superior grain quality continue to fetch attractive returns, as do skins which are suitable for fashion decoration.
The wool market could become interesting. While fine wool prices continue to go from record to record, several pundits are starting to predict there will also be a recovery in prices for coarser wools, which have been suffering as much as skins and low-grade hides. We think it is a bit early, but there is talk of a return for natural fibres. If this is true, it could also be good news for leather.
We believe that the stalemate will continue in the coming weeks. Tanners do not seem too keen to actively replenish their stocks. Chinese tanners are winding down for their New Year holidays and global beef production continues to run on pretty high levels. We will have to wait until the next main trade show in Milan in February to get a better idea if commodity leather production is going to get a boost from retail in the second half of the year.
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