Client Update - 21st April 2023

We continue to move closer to the peak in the developed market interest rate cycle as the US is making real progress in its inflation fight, although the Federal Reserve is still expected to hike rates again next month, potentially followed by a pause. The European Central Bank and its regional counterparts might keep going with rate hikes a bit longer, but from Brazil to Indonesia, central banks could pivot toward rate cuts. A new wrinkle is the Saudi-Russia oil alliance. The OPEC+ decision to cut output for the second time since President Joe Biden sought an increase will widen supply shortfall later this year. For consumers, gas and oil prices could rise, possibly pushing inflation back up.

Here in the UK, inflation remains stubbornly high, with this week’s inflation print at 10.1%, being lower than the previous year on year increase of 10.4%, but still above market expectations.

As markets digest this progress, we still have opportunities open to us to improve portfolio performance after a difficult 2022. One key strategy year to date has been exposure to the share prices of the largest luxury companies in the world. So, what has driven this progress of luxury goods producers?

The largest of them all, LVMH, represents 13% of the market capitalisation of the French CAC 40 index. Christian Dior, Givenchy, Tiffany, Dom Perignon, Louis Vuitton and Moët Hennessy are just some of the planet’s finest labels tucked under the French umbrella LVMH. The company has reported a 17% rise in year-on-year sales in Q1 and its share price is up around +26% YTD. Bernard Arnault, the CEO of LVMH, is now the world’s richest man following the incredible performance of his luxury goods empire.

Hermès is the Birkin bag maker, which tend to generate waiting lists and can sometimes increase in resale value. Demand outpaces supply for these bags and often get marked up two or three times per year with the increases comfortably offsetting the rise in input costs. Customers do not seem fazed by these price increases. Their year-on-year sales rose 23% in Q1, above market expectations. Kering owns the brands Balenciaga, Bottega Veneta, Gucci, Alexander McQueen and Yves Saint Laurent and its share price is up around +17% YTD. Richemont brands include Montblanc and Cartier, and boasts a share price return of +15% YTD.

Investors appear to be betting that the sales and earnings of these companies will hold up now that a key market, China, is open for business again. Chinese consumers saved a huge proportion of their income during their various lockdowns and now have pent-up demand. China’s reopening is expected to lift luxury goods sales this year. Despite some slowing of demand growth in the US, which accelerated the fastest out of the pandemic, the rising sales in Asia should offset this for these companies.

Sales will not only be driven by Chinese outlets (typically selling the luxury goods at a mark-up) but also from Chinese tourists allowed to travel the streets of Europe again. Investing in these brands is a way of being able to piggyback China’s long-term growth, without having to only invest directly into Chinese equities. Asia as a whole is also a catalyst for these companies over the longer term, via their growing middle class.

Luxury thrives on brand power, exclusivity and scarcity. Demand benefits from global wealth creation and consumerism, supporting pricing with high mark-ups, no discounts and some brands opting for systematic price increases annually. The aforementioned brands are status symbols which some people want to be associated with. The strength of these brands means they have the ability to exercise strong pricing power and consistently pass on the recent rising input costs from raw materials and supply chain constraints onto their customer base, even in a recessionary environment.

Markets are recovering from the recent dip in March due to the issues with the banking system and we are continuing to look for further opportunities on offer to our client’s portfolios. Markets are gradually improving and, on this basis, so is our outlook. Do have a good weekend.