A weaker yuan is likely to force investors to take luxury industry’s over-dependence on China more seriously. The wider Stoxx Europe index is down just 4%. The declines follow a period of remarkable resilience: Heard’s luxury index is still up 24% year to date, despite tensions between the U.S. and China.
China’s currency weakened below seven yuan to the dollar on Monday, the first time since 2008 that the Chinese central bank has allowed it to fall to this level. The decision not to defend the currency came just days after President Trump announced a 10% tariff on a further $300 billion of Chinese goods. China is also pondering how to respond to violent protests in Hong Kong, one of the world’s most important cities for luxury shopping.
Until now, investors have found it easy to ignore worsening relations between the U.S. and China. Most European designer brands do their manufacturing close to home, protecting them from the kind of direct tariffs that have hit car manufacturers like BMW. Luxury companies themselves reassured investors by reporting strong demand from Chinese shoppers in their quarterly updates last month.
Unrest in Hong Kong is also unhelpful for all the brands that pay exorbitant local rents. Stocks of luxury groups which control the major luxury watch brands Richemont and Swatch respectively, are most exposed, given that Hong Kong was the biggest market for Swiss watches globally in the first half of 2019.
Luxury’s so-called safe havens aren’t proving as defensive as investors thought—perhaps because they were previously such strong performers. LVMH, which owns Dior and Louis Vuitton as well as its namesake brands, was among the biggest fallers in the Euro Stoxx 50 Monday. Hermès shares are down more than Salvatore Ferragamo ’s.
Even after the declines of recent days, European luxury stocks fetch an average of 26 times projected earnings, well above their five-year average of 22 times. Investors need to keep a close eye on the yuan in particular. With valuations so rich, the luxury sector looks vulnerable.
adapted from WSJ
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