High end luxury goods makers are currently dead in the water.
A few have grabbed the fickle attention of investors, but there are six that are flat or down ...
... some of which have withstood the zig-zags of fashion foibles for as long as 100 years!
Regular readers know that we like to make money by not losing money. The long version of which is: we like to make money long-term by not losing money short-term. Instead of looking to “beat the market” on the upside and pray we don't get hurt too badly on the downside – a too-common approach by many investors – our strategy is to avoid losing money. That's why I've been cautious for quite some time now.
While my caution is most likely well-warranted in this market, I never lose sight of the fact that the market trendline is ever upward. Based upon the state of the economy and the corporate earnings trend thus far this year, I would expect any pullback to be short in duration. I can hazard a guess as to what this means for the market – and it is just that. It may be based upon extensive research, long experience and deep reflection, but no one knows what exogenous event may occur, positive or negative, tomorrow, next week or next year!
My best guess is that we end 2014 right around where we are now, although I expect to see a decline and a recovery that takes us, after some panicky moments, back to this point. Personally, I'd rather stay in the cash, long/short, income and other holdings I've discussed in previous articles with only a few holdings on the long side, most of which have been in their own private bear and are already selling at quite reasonable historic valuations.
Aggressive stock ideas
At some point, I imagine the makers of luxury goods will enjoy a rebound based upon their sales in China and other Asian markets. Status is important in many nations in Asia and external symbols of success go a long way. Companies like Coach (NYSE:COH) Richemont (OTC:CFRHF) LVMH (Moet Hennessy Louis Vuitton—(OTC:LVMHF), Pernod Ricard (OTC:PDRDY), Hermes (OTC:HESAY) or Prada (OTC:PRDSY) are all high-end firms. (I once made the mistake of saying to a fashion snob these sorts of brands sold “overpriced” merchandise and received a 5-minute lecture on quality versus mere utility. I guess you have to be born a believer…)
One reason this sector is flat or down is that there have been concerns recently about the Chinese elites making a show of stopping the escalation of extravagant gift-giving. My guess is this campaign will last a few months until it is no longer a hot button for-show policy, then resume with a vengeance.
We need to remember, these luxury goods companies have slightly higher costs for materials, labor and marketing, but they also get remarkably higher prices on their goods. Many of these firms have been around since the 1800s and are still going strong, selling status to the idle rich and the idle wannabe rich. Plus, their penetration in Asia is still rather low compared to their other markets.
None of these firms have participated in the rally of the past couple of years; most are still selling within a couple points of where they were a year ago. Richemont, LVMH, Hermes, and Pernod Ricard are all in this boat. (On the other hand, Kate Spade (NYSE:KATE), Nordstrom (NYSE:JWN), and Tiffany (NYSE:TIF) have all advanced a bit.)
However, both Coach and Prada have fallen on harder times, with Coach selling just a hair off its low for the year, down 31% for the past 12 months, and down 50% from its high back in 2012. Prada just bounced a few cents off its low for the year and is selling at a price not seen since August of 2012. Are these two companies past their prime? Are they no longer au courant in the fickle fashion world?
I imagine not. Especially Coach. Coach has brought on Briton Stuart Vevers as executive creative director. He comes from stints at Calvin Klein, Bottega Veneta, Givenchy, Louis Vuitton and Mulberry, where he did wonders with their handbag business. Coach has withstood assaults from Michael Kors (NYSE:KORS), Kate Spade and other competitors who were supposed to eat their lunch. They’re still standing and have embarked on an aggressive plan to reduce their exposure to the outlet market and re-establish their position as an elite luxury brand.
Luxury brands show lower-volume sales but hugely higher margins. What if they could significantly increase their volume as well? For the sake of argument let's say that the top 10% of households are their primary market. That means some 36 million people in the U.S. and Canada (including kids, but I can't figure for the life of me why a 12-year-old needs a Louis Viutton bag or Prada sandals.) But in China alone, it might mean another 100 million potential customers. Would a 3-fold or 4-fold increase in sales, with similar profit margins, move these stocks? I dare say it might!
I am not a fan of Chinese companies, for all the reasons I've expressed before: poor governance, lack of appropriate regulation, opacity rather than transparency in their dealings, little respect for intellectual property, etc. But we cannot ignore a market of this size. Rather than buy Chinese firms in this sector, I'd rather "play" the growth of the Chinese middle class with companies that have the cachet that newly wealthy shoppers want, but oversight and governance in Switzerland, the U.K., France, the U.S. and other developed nations.
We aren't buying just yet, but we have the safety off and our finger is on the trigger guard. When we move, we'll be buying Coach and Prada first.
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Past performance is no guarantee of future results, rather an obvious statement but clearly too often unheeded judging by the number of investors who buy the current #1 mutual fund one year only to watch it plummet the following year.
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