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Soaring Luxury Market Poised for a Fall - 6 14 2022 10 36 39 AM

Wealthy U.S. consumers are helping to keep the luxury goods market afloat. Spending was up +47% in 2021 compared to 2019 and has continued to grow among higher-income consumers. (The Wall Street Journal)

NH: When the pandemic hit, sales of luxury goods tumbled along with the rest of the retail industry. But beginning in 2021, sales bounced back and are now better than ever--with some key changes.

Americans have eclipsed Chinese shoppers and have now re-emerged as the world’s top spenders. Yet the threat of recession is looming once again, and all signs suggest that the impact on spending will be much worse than it was in 2020.

Before the pandemic, Chinese consumers accounted for the biggest share of luxury spending at 33% in 2019. Americans were second with 22%. But this reversed in 2021, when Americans’ share rose to 32% and the Chinese share fell to 23%. Stimulus funds, stock market gains, low interest rates, and excess savings helped drive up luxury spending for households of all income levels. In all, U.S. luxury spending in 2021 was +47% higher than it was in 2019.

With international travel and many other luxury services and experiences still stalled, consumers went on a shopping spree for luxury stuff instead. Luxury car brands like Rolls Royce, Porsche, and BMW (BMW) reported record sales last year.

The luxury giant LVMH (LVMH), whose brands include Christian Dior, Louis Vuitton, Fendi, and Celine, also saw record sales in the first half of 2021, with overall sales up 14% compared to pre-pandemic levels. Cartier, Hermès, Prada, and Kering (KER, whose brands include Gucci and Balenciaga) all reported increased sales, too.

In 2022, Americans’ big spending on luxury goods has continued. But the buyers have changed. Last year, spending rose sharply among all income groups--but now, the less affluent are paring back as their savings dry up and the costs of everyday items soar.

In April 2022, luxury spending by U.S. households making $50K or less fell by -9% YoY. But among those making $125K or more, it jumped +21%.

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Luxury goods makers are relying on continued U.S. demand to offset their faltering sales in China, which is still facing strict lockdowns. At this year’s Financial Times Business of Luxury summit, executives from LVMH and Italy’s Ermenegildo Zegna group (ZGN) both said they were optimistic for the coming year.

CEO Gildo Zegna proclaimed: “I don’t believe in a recession in America or, if there is, I don’t believe that our customers will be hit by the recession.” Brave words.

A recent note released by Bank of America was similarly upbeat. In it, analysts examined the six pullbacks of the luxury industry that have occurred in the past two decades. They concluded that the pullbacks have grown shorter and less severe over time, so even if recession hits or Chinese lockdowns continue, these conditions won’t hurt demand for long.

IMO, these comments are misguided.

First of all, multiple indicators are pointing towards recession by the end of 2022. Interest rates are climbing steeply and are certain to continue climbing into next year. The S&P 500 is dipping and out of bear market territory.

The yield curve inverted briefly back in April and has been flirting with inversion since. Wages have continually been gaining at the expense of profits. Consumer confidence is dropping. Inventories are rising. And the odds of another fiscal rescue by Congress are low.

These economic conditions are very unlike those that characterized most of the earlier downturns cited by BoA. Unlike the 2020 recession, the next recession is winding up to punish the high-income households that have been buoying the luxury market.

Second, the BoA note missed the mark. The six pullbacks that analysts identified were the dot-com bust of 2001, the Great Recession, the 2013-2014 Chinese anti-corruption crackdowns, the 2018 U.S.-China trade war, the pandemic, and the launch of China’s “common prosperity” campaign last year.

They noted that the first three pullbacks, on average, resulted in a -52% decline in luxury spending peak-to-trough over 85 weeks and took 119 weeks to return to their previous peak. But the more recent three pullbacks declined much less (-22%) in 8 weeks and took only 20 weeks to return to previous highs. Conclusion: Don’t worry about the next downturn.

But only three of these pullbacks were actually recessions--the worst two of which occurred in the first three downturns. And next time around, we are looking at a scenario that will likely be closer to the GFC than to the ultra-short 2020 recession.

During the GFC, the stock prices of 14 brands in the Savigny Luxury Index averaged a -65.0% drop. During the 2020 recession, the same brands averaged a 31.6% decline, or less than half.

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Even if big spenders are less affected by a financial crash than those with lower incomes, they, too, scale back when times are bad. Not all brands, however, are affected equally.

History shows that heritage brands that specialize in leather goods tend to fare best during downturns (e.g. Louis Vuitton or Hermès - see the graph above), while those offering “affordable luxury” (e.g. Coach or Burberry) fare the worst.

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Neil Howe is a renowned authority on generations and social change in America. An acclaimed bestselling author and speaker, he is the nation's leading thinker on today's generations—who they are, what motivates them, and how they will shape America's future.

A historian, economist, and demographer, Howe is also a recognized authority on global aging, long-term fiscal policy, and migration. He is a senior associate to the Center for Strategic and International Studies (CSIS) in Washington, D.C., where he helps direct the CSIS Global Aging Initiative.

Howe has written over a dozen books on generations, demographic change, and fiscal policy, many of them with William Strauss. Howe and Strauss' first book, Generations is a history of America told as a sequence of generational biographies. Vice President Al Gore called it "the most stimulating book on American history that I have ever read" and sent a copy to every member of Congress. Newt Gingrich called it "an intellectual tour de force." Of their book, The Fourth Turning, The Boston Globe wrote, "If Howe and Strauss are right, they will take their place among the great American prophets."

Howe and Strauss originally coined the term "Millennial Generation" in 1991, and wrote the pioneering book on this generation, Millennials Rising. His work has been featured frequently in the media, including USA Today, CNN, the New York Times, and CBS' 60 Minutes.

Previously, with Peter G. Peterson, Howe co-authored On Borrowed Time, a pioneering call for budgetary reform and The Graying of the Great Powers with Richard Jackson.

Howe received his B.A. at U.C. Berkeley and later earned graduate degrees in economics and history from Yale University.