Chinese Resurgence

A comeback in Chinese spending may lead to additional gains for Europe’s glitzy luxury stocks, the region’s top stock market performers in 2023, but for others, the sector is beginning to appear costly.

Richemont, a Swiss jewelry manufacturer, and French luxury powerhouse LVMH, which owns Louis Vuitton, have benefited from their wealthy clients’ resistance to the cost-of-living issue.

China’s decision to relax its rigorous COVID-19 rules and permit more regular activity at the beginning of 2023 has given the industry another boost.

An index of European luxury goods merchants has increased by about 18% so far this year, outpacing the STOXX 600, a broader measure of European stock prices, which has increased by 6.2% during the same period.

Getting More Expensive

But Kasper Elmgreen, Head of Equities at Amundi, Europe’s largest asset manager, stated that the fact that luxury goods firms are no longer as inexpensive as they once were is a “concern/point of attention.

Today, they are much more equitably valued, and there may be less that is unknown. The danger is that there is always a greater chance of disappointment when something is priced perfectly.”

According to Refinitiv statistics, the price-to-earnings ratio of the MSCI Europe luxury index is approximately 26, while that of the larger STOXX is closer to 13.

Historically, European luxury has traded at a significant premium to the overall market, but in recent years, this spread has grown even more. According to Refintiv Datastream, the present premium of 82% is almost twice as high as the 20-year average at 23 times 12-month forward earnings.

According to data from Refinitiv, LVMH, the most valuable business in Europe by market capitalization, has a PE ratio of about 30, while Hermes, a competitor, is valued at almost 60. While the most valuable firm in the world, Apple, has a PE ratio of about 23.

Apple vs. LVMH

2023 will be “the year of the Chinese consumer for European luxury,” according to UBS analysts, who named Richemont, Hermes, and Italian luxury brand Moncler as their top picks and “the most balanced, high-quality plays on China re-opening.

The potential rewards on luxury stocks could be a windfall in what seems to be a challenging year for stock pickers due to persistent recessionary concerns, an anticipated decline in earnings expectations, and sky-high inflation.

Even while consumer price inflation in the region decreased in December, the ability of Europe’s luxury companies to raise prices without losing customers has stood out as a key asset.

According to Nick Clay, head of global equities income at investment manager Redwheel, “The goods they sell don’t really depend on the price that they charge, with the average price of a product at Cartier of $10,000, whether it increases to $11,000 is neither here nor there.

Chinese Spending as Catalyst

As Chinese consumers return to the stores and luxury corporations use their pricing power, these shares have additional room to rise. However, investors doubt how much higher valuations can go because they are currently rather expensive.

According to LVMH’s most recent statistics, organic sales increased by 9% in the fourth quarter as consumers in Europe and the US splurged during the Christmas season, partially offsetting COVID-19 disruptions in China.

However, other analysts chose to focus on the margins, which diminished the impact of the increase in fourth-quarter sales. Nevertheless, it didn’t have much of an effect on the share price, which has increased by 600% over the past ten years compared to a 91% gain for the benchmark STOXX.

According to Mark Denham, head of European equities at French asset management Carmignac, “Companies like LVMH have high-quality companies, they compound earnings over extended periods of time, and they provide outstanding returns for shareholders.

Although it is true that these companies’ ratings have improved, making the situation slightly more lopsided, over the long term, earnings compounding is the key driver.

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