Demand for luxury goods remains unrelenting. According to Capgemini1, a global leader in consulting, the net worth of millionaires increased by 11% globally in 2017 – led by Asia where the wealth of the richest members of society recorded a growth rate of 19%. This is being reflected in consumption patterns and we expect luxury sales to grow above 5% in 2018 overall.
During the first two quarterly earnings seasons of the current calendar year, many companies reported numbers that were better than expectations. In spite of demanding comparison bases, the big iconic brands, notably Gucci, achieved impressive sales numbers. In the first quarter, Gucci sales grew almost 50% and despite proving equally impressive in the second quarter in which an absolute sales growth rate of 40% was achieved, the stock of its parent corrected when the results were published, reflecting investors’ excessive short term expectations.
It is worth noting that Asia has been the best performing region in terms of sales of luxury goods for some time and it is primarily strong Chinese demand that has driven this outperformance. As such, it is perhaps understandable that the outbreak of the US-Sino trade war and the ensuing Chinese stock market correction as well as yuan devaluation have collectively dampened sentiment for luxury stocks – especially since a deceleration in the Chinese appetite for luxury goods was one of the most widely voiced concerns even prior to the escalation in geopolitical tensions. However, we have seen no evidence of any diminishment in luxury demand thus far. Indeed, we firmly believe that the Chinese love affair with luxury is here to stay since the rebalancing of the Chinese economy is well underway, with consumption expected to contribute progressively more to economic growth.
The affinity for Western brands remains very high globally, especially among millennials in China. According to Bain & Company2, millennials’ share of the luxury market has increased from 27% in 2016 to 30% last year, at the expense of the baby boomers who are retiring. The importance of millennials, aged between 18 and 37, is expected to increase further in the years to come. Millennials have different shopping behaviours and preferences than their parents. Customers nowadays are asking for the omni-channel option but brick-and-mortar shops remain key for luxury products. We believe this reflects the concept that enjoying the experience of purchasing luxury goods can be almost as enticing as the utility that consumers derive from purchasing them.
China’s recent tax reduction on luxury products has mostly been passed on to consumers, resulting in low-single digit price cuts and a further reduction in the price gap between China and other regions. Nevertheless, we believe it would be wrong to imply that the growth of the luxury market has only one regional dimension. During the second quarter, luxury sales also performed very well in the US, particularly in travel retail. This is a reflection of a much broader theme in which consumers are becoming increasingly interested in ‘buying the experience’ rather than purchasing an object.
Geopolitical tensions, such as the trade tariffs dispute and the escalating situation in Turkey, are undoubtedly impacting investor sentiment, but, as yet, not significantly impacting buoyant luxury sales. Consequently, while we are seeing increasing volatility in financial markets, particularly in the emerging universe, we remain very confident for the secular growth of the luxury industry. We would therefore see any further consolidation of luxury stocks as an opportunity to build positions. Luxury stocks are currently trading in a forward price/earnings ratio range of 20-22x for 2019, which is only slightly above average historical valuations, while organic growth remains the key metric both in terms of measuring underlying performance and assessing future potential.
1. Capgemini World Wealth Report 2018.
2. Luxury goods worldwide market study (December 2017)
The information in this document is given for information purposes only and does not qualify as investment advice. Opinions and assessments contained in this document may change and reflect the point of view of GAM in the current economic environment. No liability shall be accepted for the accuracy and completeness of the information. The brands and companies mentioned were selected from the universe of companies covered by the portfolio manager to assist the reader in better understanding the themes presented. The brands and companies included are not necessarily held by any portfolio or represent any recommendations by the portfolio manager. Past performance is not an indicator of future performance and current or future trends.