Luxury and China is a devaluation-proof marriage. The securities of the sector have been paying for the depreciation of the Chinese currency in recent weeks, but the market seems to have reacted disproportionately. Firstly because this operation was foreseeable and remains small in any case, secondly because the impact on the accounts of companies in the sector is limited and does not compromise the enormous potential of the Chinese market.
PREDICTABLE AND LIMITED DEVALUATION
“The central bank's decision to devalue the renminbi to revive the Dragon's economy took traders by surprise, but it was an entirely predictable move considering the fundamentals of the Chinese currency. We expect this trend to continue in the coming months as well,” says Scilla Huang Sun, manager of the JB Luxury Brands fund. “The People's Bank will continue to act on the exchange rate gradually, since a strong depreciation of the currency would lead to a loss of purchasing power for Chinese consumers, and it is therefore legitimate to expect that the demand for luxury goods by not undergo significant changes, but that at most the devaluation of the yuan induces a shift of consumers towards other cheaper countries such as Japan, Europe or South Korea”.
HOW TO READ COMPANY ACCOUNTS
The real effect of the devaluation of the yuan on the balance sheets of luxury companies, accounts in hand, is also limited. “Looking at exposure to China or the Asia-Pacific region (depending on how the balance sheet data is industry companies covered by the Morningstar analysis, it is noted that it ranges from a low 10%, in the case of the American Coach and Ralph Lauren, up to 38% of Swatch and more than 40% of Richemont, says Paul Swinand equity analyst at morning star. “This means that a 1% devaluation of the yuan, for a company that makes 10% of its sales in China, translates into a maximum loss of 0,1% of total turnover. Wanting to use the current numbers, we will have that at the moment the maneuver of the Banca del Popolo (ie a devaluation of the exchange rate of 3%) weighs on Richemont's accounts by approximately 1,3%. (net of changes in other exchange rates)”.
"To this, it should be added that most companies group sales data by geographical area and not by single country and this complicates the real assessment of the exchange rate fluctuation". Swatch, for example, reported in its 2014 accounts that 38% of its turnover was produced in China. But this would also include Hong Kong, which is not affected by the devaluation of the currency. The same goes for Macao, whose weight on the balance sheets of the companies analyzed by Morningstar varies from 3% to 6%. The emphasis given to the devaluation of the renminbi is therefore excessive, also because in the last nine months companies in the sector have had to face much bigger threats such as the drop in tourist traffic in Hong Kong and Macao and the anti-corruption measures taken by the Beijing government (which weigh on the purchases of jewelry and watches).
THE SELL-OFF CREATED OPPORTUNITIES
In the last two weeks, the sub-fund's securities have made losses of more than 10% on the Stock Exchange (LVMH -16%, Salvatore Ferragamo -15,18%, Burberry -14,56%; returns in euros as at 22 August). This is bad news for shareholders, but it opens up new investment opportunities for those interested in taking a position on one of the most defensive sectors, with excellent growth prospects and which is characterized by high corporate profitability. Sales of luxury goods are affected to a limited extent by the economic cycle, and the growth of the middle class in emerging countries such as India, China and Brazil promises to create new opportunities for companies in the medium term.
The good performance of revenues in the first quarter of the year, driven by sales in emerging countries and Asia, and (for companies in the Old Continent) the favorable trend in the exchange rate had caused the share price to rise above the calculated fair value from Morningstar, but valuations are now cheap again. The analysts' recommendation is to focus on stocks of companies that can boast a strong position of competitive advantage (Economic moat), the result of the high value of their brands, which manage to combine history and prestige such as LVMH, Prada, Richemont, Burberry and Swatches.
Attachments: Source: Morningstar.it
