Future Returns: Investing in the Global Luxury Industry

The global luxury industry has had a good run over much of the past decade and signs are pointing to continued strength despite a difficult stretch during the pandemic.

S&P’s Global Luxury Index has beaten the MSCI All Country World Index over the past five years by about 4.3%. It’s been a hotbed for M&A activity, including LVMH’s recent US$15.8 billion acquisition of Tiffany & Co. The sector has proven popular with investors from individuals through to private equity—a pre-pandemic Deloitte survey found 70% of respondents, most of whom were small-medium private equity funds were considering investing in a fashion and luxury asset.

Jessica Gerberi says structural growth themes in the industry have turned luxury stocks from a cyclical to secular growth opportunity.

Gerberi, a senior research analyst with Calamos Investments in Naperville, Ill., was positive on the industry before the pandemic, partly based on the resilience of luxury goods companies, some a century or two old. “Their resilience was just tested in such an unprecedented way with Covid, and Covid’s really been an accelerant for positive change in this industry,” she says.

Bain & Co. finds despite a contraction in the overall global luxury industry due to the pandemic, global online luxury sales grew almost 50%, to about US$59 billion, in 2020, compared to about US$39.7 the prior year. This sales channel is forecast to grow further, from an estimated 23% last year to more than 30% by 2025. Gerberi says the industry may not see a full recovery until 2022 or 2023, but the speedy adaptation to selling online undertaken by many companies offers a compelling reason to consider investing in luxury stocks.

“The strong getting stronger will likely continue to be a theme in this industry,” she says.

Besides the anticipated post-pandemic rebound, growth in emerging markets offers another compelling reason for the sector’s strength. One estimate anticipates the global middle class ballooning to 5.3 billion people by 2030, bringing about 2 billion up the economic ladder. This group is expected to splurge on luxury items, and the industry will reap the reward, particularly in China.

Due to these developments, Gerberi says in a post-Covid, normalized environment there could even be some upside to the industry’s approximate 5% annual growth rate. She shared three tips with Penta on how to invest in the global luxury industry.

Understand Different Exposures

Not all luxury stocks are equally exposed to different elements. For instance, some companies focus on a single brand while others have what Gerberi calls “natural diversification,” meaning multiple brands or that they operate in multiple categories.

“Some of these big luxury conglomerates have built their businesses upon M&A and acquiring new brands, which I think speaks to their ability to balance growing the equity and managing the heritage of their legacy brands,” she says. “But [they are] also keeping on top of current trends and being willing to take a risk on a brand that might not be fully in their wheelhouse.”

She mentions Moncler’s US$1.4 billion acquisition of Stone Island, which brought the down jacket maker together with a streetwear brand. Gerberi says these moves allow companies to tap into certain trends or companies growing at a faster rate than the overall luxury industry.

Geographical exposure comes into play as well. Much of the industry is listed in Europe rather than the U.S., for instance. And though the customer base is often considered from North American or European vantage points, luxury companies serve a diverse, global base of consumers beyond those regions. This means they’re impacted by much broader, global trends.

Embracing Digital Evolution

“Covid really accelerated the digital strategies that companies in the industry are pursuing,” Gerberi says. “And of course they came into the pandemic in varying degrees of development.” This follows other accelerations in online retail, which observers say advanced e-commerce sales and technology by several years during the pandemic.

This evolution is about more than simply having a robust e-commerce site, offering products for sale via third party or increasing the depth and breadth originally offered online. Gerberi says luxury brands have created new digital avenues to engage with their customers and build customer relationships including special sales events, setting up virtual showrooms—even biometric scanning to offer virtual beauty trials.

Investors should watch how companies have embraced this shift, as not all companies have seized the chance to innovate their digital platforms and complement their in-person shopping experiences. “That gap between the haves and have nots has widened,” Gerberi says.

China’s Growing Consumption

The growth of emerging market middle classes is a promising tailwind for luxury goods, Gerberi says. “But in the near term it likely wouldn’t be anywhere as meaningful as the continued growth of the Chinese consumer in this industry.”

In 2019, the Chinese consumer accounted for 35% of global luxury sales. That figure is estimated to rise to 50% by 2025. This may pose attractive investment opportunities in brands with less-established presences in China, offering room to expand their customer base there. Though China-based luxury brands are emerging, globally-recognised brands are expected to be the main driver of this consumption.

Gerberi expects “a good pipeline for luxury consumption” to continue, as China’s Gen Z population ages and gains more disposable income.

Factors like relatively quick economic bounce back from Covid, unemployment returning to pre-Covid levels, and a continued strong appetite for luxury goods bode well for continued sales growth. “All of those things continue to bode well for the outlook for the Chinese consumer with regards to luxury,” she says.

It has been two years since forecasters felt this good about the economic outlook.

In the latest quarterly survey by The Wall Street Journal, business and academic economists lowered the chances of a recession within the next year to 29% from 39% in the January survey . That was the lowest probability since April 2022, when the chances of a recession were set at 28%.

Economists, in fact, don’t think the economy will get even close to a recession. In January, they on average forecast sub-1% growth in each of the first three quarters of this year. Now, they expect growth to bottom out this year at an inflation-adjusted 1.4% in the third quarter.

Just 10% of survey respondents think the economy will experience at least one quarter of negative growth over the next 12 months, down from 33% in January.

The Wall Street Journal survey was conducted from April 5 to 9, just before the release of March consumer-price index data showing inflation running hotter than economists had anticipated.

The U.S. economy has far outperformed expectations over the past year and a half. Instead of stumbling under the weight of the Federal Reserve’s most aggressive interest-rate-raising campaign in four decades, it has continued expanding at a robust clip.

Few think that the economy can do quite as well as last year’s 3.1% growth, as measured by the seasonally adjusted fourth-quarter change from a year earlier. That figure might have been boosted by one-time factors such as federal infrastructure and semiconductor legislation and an uptick in immigration , which also might not last.

Still, economists have had to rethink forecasts for a major slowdown as more time has passed and one still doesn’t seem imminent. Economists on average think the economy grew at a 2.2% rate in the first three months of the year, up from a 0.9% forecast in January.

“The U.S. economy is performing very well,” EconForecaster economist James Smith said in the survey. “We’re truly the envy of the world.”

Much has changed since economists were last this optimistic. Two years ago, the Fed’s benchmark federal-funds rate was set between 0.25% and 0.5%. Inflation was high but economists still generally thought that it could come down without too much help from the Fed. They forecast steady growth and the midpoint of the range for the fed-funds rate topping out at just above 2.5%.

Now, the fed-funds rate is sitting between 5.25% and 5.5%, and economists don’t see a bunch of cuts coming soon. Many analysts trimmed their rate-cut forecasts after last week’s hot inflation report. But even before the report, survey respondents predicted that rates would end the year at 4.67%, implying three cuts. In January, their responses suggested that they thought four or five cuts were likely.

Economists now think the economy can withstand higher rates than they did not long ago.

They expect the 10-year Treasury yield—a key borrowing benchmark that was around 4.4% at the time of the survey—to end 2024 at 3.97%. Looking further into the future, they expect the yield to end 2026 at 3.78%. That is slightly above even their forecast last October, when the yield was higher than it is now.

Many economists have long thought that the economy can handle higher interest rates when it is capable of growing faster, and particularly when worker productivity has increased.

To that end, economists expect the Labor Department’s measure of productivity to rise at an annual rate of 1.9% over the next decade. That matches the annual increase in productivity over the last 40 years. But it is above the 1.2% pace of the 2010s, when the 10-year Treasury yield was typically stuck between 1.5% and 2.5%.

Some economists are now enthusiastic about the economy’s longer-term potential.

“We think that the American economy has entered a virtuous cycle where strong productivity results in growth above the long-term trend, inflation between 2% and 2.5% and an unemployment rate between 3.5% and 4%,” RSM US chief economist Joe Brusuelas said in the survey.

Many aren’t quite as optimistic. One downside of a better growth outlook is that a stronger economy could make it harder for inflation to fall all the way back to the Fed’s 2% target.

An inflation gauge that is closely watched by the Fed, the core personal-consumption expenditures price index, was 2.8% in February, its most recent reading. Economists now expect it to end the year at 2.5%, after having forecast 2.3% in January.

Economists, on average, believe that core PCE inflation will fall to 2.1% by the end of next year without a recession. However, their projections might already have ticked higher after last week’s price data, and some continue to worry that the Fed’s efforts to control inflation still present a major threat to the economy.

“The risks are clearly skewed toward more hawkish Fed outcomes, which could drag on our growth forecasts,” Deutsche Bank economists Brett Ryan and Matthew Luzzetti said in the survey.

The Wall Street Journal survey was answered by 69 economists. Not every economist responded to every question.

Future Returns: Investing in the Global Luxury Industry

Why putting your money in luxury makes sense.

Economists lift their growth forecasts in latest Wall Street Journal survey