Macroeconomics

2008 has had a very slow start. It seems that the world of finance and politics has taken a pretty long vacation and this left only the election campaigns in the United States to deliver any interesting headlines.

For a long time the main issue between political opponents was the war in Iraq and foreign policy, although this had already changed a little following the subprime crisis. Nowadays, with the rising risk of recession, domestic economic issues have once again become more important and since the ‘R’-word (recession) is now a topic of public conversation, campaigners are once again taking the issue of the economic outlook for the US consumer more seriously.

In the meantime, President Bush made his first trip to Israel and Palestine since he came to office, becoming officially involved in the peace talks for the very first time. Up to now this job had been delegated to his foreign minister (not important enough for him?) and one can’t help feeling that it is a bit late for him to take an interest now when we look back at what has been happening in the region for the last seven years. Better late than never but statements made by Mr Bush, claiming that he sees good chances for a peace agreement being set out before he leaves office in about a year, seem to be not only very late, but also not very impressive, considering what has happened in the Middle East since he took over at the White House.

Anyway, even if his present actions are only being made in an attempt to get a better write up in the history books, the vast majority of the global community would be very happy to see any progress that could be made towards peace and stability in the region.

Economic pressures remain

The financial markets were busy discussing the next likely moves of the central banks. Following public statements one has to assume that the Fed in the USA is more scared of growth than inflation while the ECB has taken the opposite position. The consequences of this would be interest rate cuts in the USA and hikes in Europe, which would weaken the US currency even further, and this is what most of the financial markets have come to expect these days. As much as lower interest rates would be welcomed by the stock markets, we still think that this would do little to really help the average consumer who is already overstretched. A lower US$ would also most likely press inflation in the USA even higher by making most of the imported consumer products more expensive. Just how fragile the situation in the USA has already become can also be seen through the further and massive write-offs commercial banks are now making. This weekend alone Citigroup made it clear that it needs another massive injection of capital to ensure its future.

In Europe the GBP took a pretty strong beating as concerns over the housing market, the consequences for the economy, and possible rate cuts in the UK pushed the currency sharply lower. All these market uncertainties sent the euro and gold higher, because investors are looking for safe options, which they believe these to be.

Oil remained at record levels of between US$95 and $100 but failed (fortunately) to settle above the magic three-digit-mark.

Market intelligence

The leather pipeline has not produced much interesting news either in the first weeks of 2008. Market activity was not very exciting and following a lack of activity prices failed to move much and fell slightly, if anything, rather than rising. Trading hasn’t come to a complete standstill though and there are still a reasonable number of hides changing hands, but, one can’t help but feel that there are still also reasonable stocks lying around looking for clients.

The main points the market is leaving us with today are:

a)     Some hide types and grades are still finding enough takers to absorb production, while others are not attracting enough demand

b)     The pipeline seems to be fairly full, with buyers still enjoying regular production and leather demand, having made their dispositions early to take advantage of lower raw material prices. This means they are also holding reasonable inventories either as contracted or shipped material or that that is already in their yards

c)      Financial problems are still scaring a number of players — at least in Europe. Nothing concrete has happened as yet, but there is not a day that passes when new rumours about possible failures in Southern Europe are not being spread; and the old saying that where there is smoke there is fire seems to be very true these days.

These parameters do not give much hope of an improvement in the near future and, with the Asians preparing for their New Year vacations, the only positive option one can target today might be good news from the next trade shows. The Cologne furniture fair and the shoe show in Italy are next on the calendar and might give us an indication of future fashion trends. They will also reveal whether the Asian and Russian buyers will continue to be the driving force behind demand.

Boots step out of fashion?

As far as fashion is concerned we are extremely curious to learn what is going to happen in ladies’ boots as this item, which has seen such a large and long-running trend, seems to be showing some signs of fatigue now. Although a lot of classical boots were still being seen last year, for example in Bologna in November, at the time not many were expecting an end to this trend. However, now more and more people in the fashion industry are voicing the opinion that boots could lose some of their shine in the next winter season. If such a powerful area of leather consumption should witness a double-digit fall, it would make a big difference to overall leather demand. We have emphasised the massive volume of leather that is consumed by boots versus normal alternatives in this publication a number of times over the past few years and, as fashion is a sensitive factor, if the global trend leaders really were to walk away from boots the only question remaining would be just where they would walk away to.

At the moment, anyway, this is just a feeling and it could be completely unjustified, and for the time being boots are still dominating the pavements in the Northern hemisphere.

Fashion trends will be one of the interesting issues over the coming weeks. The Cologne furniture fair will demonstrate trends for leather upholstery. And, despite flat sales in the ‘old economies’, companies with a strong footing in the emerging markets are enjoying decent business. In Germany quality manufacturers have grown by close to 20% in the last year just through exporting, and Italian names which do not only focus on the mass market in the USA are also performing well. The new rich in Asia, Russia and the Middle East are still spending well and whoever fits the image and fashion factor in these areas can generate good growth and — even more importantly — do not have to deal with the same price problems as in the domestic markets either.

Auto industry eyes cheaper materials

More and more information is also seeping in from the automotive industry where we are now seeing the same trend that we have already witnessed in the furniture markets. Quality and price are drifting further and further apart and more and more manufacturers are now experimenting with splits and PU in their seating for the mid- and lower-price market segments.

This is actually not an inviting prospect: you buy a car which is offered to you with a leather interior and which, for a ‘non-expert’, it will hardly be possible to determine which parts and panels are actually leather or not — at least not when it is new. In some models and makes this policy is already pretty common and it seems that the industry intends to expand this policy in order to reduce costs. We have already seen such developments in previous price cycles in shoes and leather furniture and we all know that this policy hasn’t done any good for the image and price of leather as a material. In the short-term it might boost leather consumption as ‘leather’ for the sake of the price could penetrate more of the total car production.

In the meantime, the problems for automotive leather producers are not getting any easier. With a drift away from an average price as leather becomes either more luxurious or cheaper makes the calculation base for leather has become more difficult — which results in the same procedures we have already seen in the shoe and furniture industries. With mass production and lower prices killing the middle segment, the average return on leather is still falling and this is one of the main reasons why raw material prices are falling despite rising demand. The only positive aspect of this one can find is that the use of splits could be optimised and lift the pressure that this market segment has been exposed to.

Forecasting the future

In our regular and general market discussions with our sources we again heard about the ‘trend indicator’ function of the leather pipeline and raw material prices a number of times. It was once again quite interesting to see that the leather market has proved to have some indicative power. The strong improvement of leather business and prices from 2005 into 2007 went before one of the strongest times of growth in the world economy. The slowdown in the leather industry and the decline of prices since spring last year was also in compliance with concerns about the global economy although, so far, this is more of to do with the US economy rather than a global trend. With the fear that the performance in the USA could have a domino effect for the rest of the world in mind, it could be a good idea to watch the leather pipeline carefully over the next few months in order to evaluate the outlook for 2008 and 2009.

The split market hasn’t yet taken off and the problems — in particular for light weight splits — remain. So, far not much activity has been seen. If splits eventually become a chosen material for car interiors it would probably not help to ease the existing problems much, but it could reduce the flow of splits into the free market if car leather producers use up more of their own splits instead of selling them.

Skins were again dominated by the Chinese buyers and a similar situation was seen in the bovine section. Price is the issue at present and the return for skins as far as the combination of wool and size are concerned remains the only determining factor for the market. Large and long wool is still selling easily into China and the Chinese industry is absorbing almost everything that is available. Anything smaller than 6 sq. ft., without decent wool, is struggling. The stars of the past years, the light weight double-face skins are still suffering and have lost half of their value or more in a year. Even at today’s valuation it is not easy or possible to find enough homes for the production.

Risks rather than opportunity

The coming weeks will not change much in the market either. Fundamentally there are still more hides and skins along the pipeline than are actually needed and there is little evidence that this could change in January. Some materials such as economical material sold on a US$ basis is still doing fairly well while more expensive, heavier (= more expensive per sq. ft.) materials remain under pressure. With enough hides around or already bought, there is no short-term argument for higher raw material prices. This only leaves the question of whether there is a risk of rising inventories which could eventually lead to rising market pressure in the coming weeks. With the upcoming holidays in Asia and more problems than good news from Europe there must be, for the short-term, more risks than opportunities expected.

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