The world’s hippest brands are launching their latest collections – and new designers are vying for attention – at Fashion Weeks in New York, London, Paris, and Milan over the course of September. It’s an opportunity for the industry to do what it does best – sell aspiration. But dreams need to contend with reality – and underneath the glamourous exterior the luxury industry currently faces some significant real-world problems.
The downturn in the world’s chicest industry has not gone away as many had hoped – and the recent earnings season has proved such a disappointment that analysts continue to cut earnings expectations for companies across the board.
The downturn has even resulted in Swiss luxury watchmakers, including Girard-Perregaux and Ulysse Nardin, turning to the government for financial aid. About 40 companies in the canton of Jura, a hub for watch component makers, submitted applications for aid to help retain jobs during the summer as wholesale watch exports fell.
Burberry, Hugo Boss, Swatch Group, Richemont Kering and LVMH all disappointed the market in the second quarter, with the sector as a whole reporting an outcome below already reduced market expectations. So, what’s causing the recent industry strife – and when is it likely to end?
The end of the post-pandemic boom
When the disruption caused by the Covid-19 pandemic subsided, there was a surge in luxury spending as pent-up demand was unleashed, resulting in spectacular growth across the sector. But this boom has now ended.
A significant driver of this underperformance has been the situation in China. For several years, the Asian nation has been the main driver of growth for the luxury goods industry. But recent sales figures indicate that Chinese shoppers are reining in their spending amid economic uncertainty.
China's richest people are avoiding flaunting their wealth in favour of more discreet fashion.
This faltering has been partly attributed to the country’s prolonged property crisis, which has spooked the kind of aspirational buyers that have traditionally driven Chinese luxury sales. Bain & Co, which produces a widely watched biannual report on the luxury sector, argues that the property crisis is undermining middle-class consumer confidence, leading to "luxury shame" where consumers are increasingly hesitant to splurge on high-end items. China's richest people are avoiding flaunting their wealth in favour of more discreet fashion.
As a result, many companies reported that activity in China decelerated in the second quarter compared with the first three months of 2024. For example, LVMH, the world’s largest luxury-goods group, said that sales to Chinese consumers held up in the second quarter, but growth was at a slower rate than in the first quarter. With concerns about the country falling into deflation remaining high, the situation here is unlikely to rapidly change.
Other headwinds hitting the sector
- American consumers, particularly aspirational ones, have also been priced out or at least impacted by inflationary pressures and a high-interest-rate environment. This has resulted in a pull back in spending on discretionary items. Only Prada and LVMH mentioned a quarter-on-quarter improvement in the region in their latest results releases.
- Sector sales in Europe are still a mixed bag with some companies mentioning a quarter-on-quarter deceleration (Burberry), some mentioning an acceleration (LVMH Fashion & Leather, Prada) and some noting that the growth between the first and second three-month period was flat (Moncler, Richemont).
- Big price increases that have been implemented over in the past four years – and the pace of this expansion, which has been higher than inflation – is now likely to give way to some discounting. Marketing costs are also likely to rise. This implies that sector margins are heading south in the current financial year.
- Japan has been the only bright spot for the moribund sector so far this year. Luxury brands have reported double-digit sales growth in country, driven in part by international tourists cashing in on highly favourable exchange rates. The yen hit a 38-year low against the dollar in July before recovering ground. This has allowed luxury shopping at a discount for wealthy tourists. However, the Bank of Japan’s interest rate rise at the end of July has reversed this currency weakness – and the yen regained most of it lost ground against the dollar in a matter of weeks.
Longer-term prospects
The valuations of the major companies operating in the sector does not appear to be particularly stretched. However, we need to see an end to the cycle of earnings downgrades before equity markets are likely rerate the sector to higher valuation multiples.
Next year looks more hopeful than 2024, but after a disappointing second-quarter reporting season – and a likely continuation of the current trends in the second half of the year – the earliest we can expect any upgrades by financial analysts is towards the end of this year or in early 2025.
Long-term prospects for the sector look good, but the best strategy for those interested in luxury exposure is to buy related equities when sales growth is accelerating and pause when things slow down. There is no indication of an acceleration in the sector any time soon, so keen investors need to wait and see.
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