Is China Crushing These Luxury Brands?

Luxury brands are taking a hit as more China (NYSE:FXI) slowdown fears surface.  According to a recent Bloomberg poll, 59% of global investors believe that China’s GDP will gain less than 5% annually by 2016, compared to a 9.5% gain last quarter.  The majority of the 59% believe the slowdown will actually come within the next two to five years. China is the second largest luxury market in the world, and the slowdown could have long-term implications on luxury brands.

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Tiffany & Co. (NYSE:TIF) and Coach, Inc. (NYSE:COH) were some of the hardest hit stocks in the S&P 500 (NYSE:SPY) on Thursday.  Both companies hit new all-time highs in July, but have fallen more than 20% since. Tiffany & Co. received additional pressure as it was made public that Peter May from the Trian Fund, Tiffany’s fourth largest shareholder, sold 40,000 shares at an average price of $71.  However, this was a relatively small amount of May’s holdings. The long-term trend that investors should be concerned about is a slowing China.

Business has been good for the rising wealthy class of China (NYSE:FXI).  According to Affinity China, China has grown its number of millionaires from 300k in 2006 to over 1 million today.  In fact, Chinese luxury consumers are on average 20 years younger than luxury consumers in the US or Japan.  A growing number of Chinese consumers between the ages of 18 and 25 care more about the brand rather than price.  It’s no secret though that China is trying to cool its economy.  China’s central bank continues to raise interest rates and reserve requirements in order to provide a soft landing for its economy.

Gary Schilling explains, “The Chinese are trying to cool off a red-hot economy.  They’re worried about the property bubble and the high inflation rate.  They are affecting a soft landing and with their crude economic tools it’s tough. Bear in mind, the Fed, with more sophisticated tools, tried by my reckoning, 12 times in the post World War II era to cool off the economy without precipitating a recession.  They only succeeded once.  What are the chances for China?”  The Shanghai Composite Index (NYSE:FXI), China’s benchmark index, ended Thursday at its lowest level in 15 months.

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Some luxury brands have already been lagging this year, and more negativity from China will add to concerns.  While luxury brands such as Polo Ralph Lauren (NYSE:RL) and Elizabeth Arden, Inc. (NASDAQ:RDEN) have been outperforming the high-end brand market, Saks Incorporated (NYSE:SKS) share’s are down 14% year-to-date.  The New York company received upgrades from Zacks Investment Research and Credit Suisse (NYSE:CS) in August, but shares are still struggling to turn positive for the year.  Zacks also has Nordstrom Inc., (NYSE:JWN) ranked as a buy due to the company’s better than expected same-store sales.  Shares held up well today despite the negative outlook news from China, and are up 12% year-to-date. Shares also yield a 1.90% dividend.

Going forward, luxury retailers are facing more headwinds as the holiday season looks to be questionable.  Charles Grom, an analyst at Deutsche Bank (NYSE:DB) said, “At Saks Fifth Avenue, sales could continue to slow this fall after Wall Street layoffs and dwindling tourism in New York City hit business in August.” Chief economist at the international Council of Shopping Centers, Michael Niemira, describes the upcoming holiday season as slow, steady, and scary. Investors looking for a play in the luxury market might want to stick with what’s been working, such as Ralph Lauren, Elizabeth Arden, or Nordstrom.  Paul Lejuez, an analyst at Nomura Securities says, “This year, we’ve seen the strong stay strong and the weak stay weak. Nothing is going to change that this holiday season.”  Companies such as Tiffany & Co. could struggle as it does about 80% of its business during the holiday season, and receives 36% of sales from the Asia-Pacific region.

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