Profit from the return of luxury
By
Rahul Sharma Nov 27, 2009
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Each week, a professional investor tells MoneyWeek where he'd put his cash now. This week: Rahul Sharma, fund manager at Martin Currie Investment Management.
Over the past year, the 'death of luxury' has been proclaimed regularly. The theory goes that the recession means newly frugal-shoppers are no longer prepared to pay full price for luxury goods. We think this is greatly exaggerated.
Thanks to improved inventory control and better cost management, retail profits this Christmas will be stronger than expected. And the real stand-out – this year and next – will be the luxury-goods sector. Brands such as Louis Vuitton, Gucci and Hermes are every bit as strong in their markets as Coca-Cola and Cadbury are in theirs.
When Lehman Brothers collapsed, luxury shoppers suffered a crisis of confidence as the value of their assets plunged. In America last year, luxury-goods retailers saw sales fall by more than 25%. The resulting pressure to clear inventories was brutal, with reports of $1,000 Prada handbags being sold for $100.
But all the signs suggest confidence is returning. With consumers' pension plans showing healthy gains since March, well-heeled shoppers are looking to treat themselves again. And for the super-rich, the more exclusive the better. So iconic brands such as Dior and Louis Vuitton are doing better than brands popular with 'WAGs', such as Luella and Dolce & Gabbana.
Luxury-goods groups are also profiting from increased affluence among shoppers in emerging markets. Of course, the average income of consumers in such markets is lower than in developed economies. But because luxury-goods firms cater to the wealthy, that is largely irrelevant.
In fact, they are able to charge the same, and in some cases higher, prices in the developing world than in the West. As costs in those markets are lower, profit margins are higher. The ongoing explosion of wealth in Asia means luxury-goods companies will see structural growth for years to come.
The collapse in demand last year has made retailers in the US more cautious, and hence inventories this year are far too low. So even as sales grow, prices will hold up and profits rise. Nordstrom (NYSE: JWN) is in a particularly sweet spot.
It is gaining shoppers from Macy's (whose offering is rather staid) and Neiman Marcus (whose high prices are scaring away some consumers). It's also unique in that it has yet to tap into several large and wealthy markets in America's affluent north-east. Nordstrom's commission-based expenses give it a buffer in case sales do unexpectedly weaken.
PPR (PAR: PP) is a French multi-national specialising in luxury brands. Due to cautious ordering by department stores, Gucci's wholesale business has taken longer to rebound than its peers, leading to worries about its 'brand resilience'.
These fears are overdone, creating a buying opportunity. Tight cost control and inventory management should see earnings across PPR's luxury portfolio beat expectations, and it remains the cheapest luxury-goods maker by some distance.
LVMH (PAR: MC) is the largest player in the luxury-goods sector. Given the trend toward more exclusivity among the super-rich, we believe its Louis Vuitton brand can increase its prices even as it boosts sales volumes. Its cognac and champagne unit, meanwhile, has suffered massive de-stocking and is set to post better numbers as sales begin to reflect improved consumer demand.
The stocks Rahul Sharma likes
| 12-month high | 12-month low | Now |
|---|
| Nordstrom |
US$36.52 |
US$7.68 |
US$33.95 |
| PPR |
€93.25 |
€31.06 |
€92.72 |
| LVMH |
€76.80 |
€38.55 |
€73.50 |
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