What’s next for the luxury market?

Waning consumer confidence is in turn weighing on sales across most luxury brands. Corporates in the U.S. have flagged this is mainly due to American tourists buying more in Europe, but we note that sales growth across both markets is still slowing. Indeed, the regions’ combined organic sales growth fell to 11% year-over-year in the fourth quarter of 2022, down from 17% in the third quarter. Assuming further trend moderations in these two key regions, we would reduce the upside risk to estimates of our regional analysis to 3% on sales and 6–7% on profits. 

China: Shoppers are back and spending on luxury goods 

On the other hand, China’s recent reopening is expected to be a tailwind for the sector, especially as Chinese consumers are a major driver of luxury spending. During the 2021 financial year, luxury goods companies generated around 30% of their total sales in Greater China. However, business took a hit during COVID-19, with most brands posting around a 10% decline in sales for the 2022 financial year.

Like consumers elsewhere, Chinese shoppers have accumulated excess savings over the past three years. J.P. Morgan Research estimates that the average saving rate in China was 33.5% in 2022, up from 29.9% in 2019. This, along with pent-up demand, is fueling post-pandemic revenge spending.

Indeed, domestic luxury sales are booming. In January and February 2023, total retail sales in China were up 17% on a four-year stack. There was sequential improvement across all segments including gold and jewelry (+48%), cosmetics (+34%) and apparel (+13%). Demand for luxury timepieces is rising, too: Swiss watch exports to China accelerated to +68% on a four-year stack in February 2023. 

Dubai’s prime price growth is predicted to drop to around 5%, landing it third on the ranking. Madrid and In addition, Chinese consumers are traveling again, which could boost overseas spend on luxury goods. In March 2023, outbound flights to Italy and Korea reached 65.4% and 34.9% of 2019 average levels respectively. However, it remains to be seen if this will drive the luxury sector’s growth, especially as goods in this category have recently become more affordable in China thanks to reduced import duties.

“In our view, the piece of the puzzle that is most difficult to square is how much the return of travel will contribute incrementally to growth, versus cannibalizing the existing sales already taking place domesticallyi. We think this should provide more sizeable support to 2024 rather than 2023, given visa requirements and the fact that flight numbers are still relatively subdued.

Overall, the return of the Chinese consumer looks set to be a huge boon for the luxury industry. We think that if pent-up demand comes through fully in 2023, luxury companies could post around 35­–40% sales growth in China this year.

Luxury brands: A return on investment?

While China’s reopening should benefit the whole sector, we expect the magnitude to vary depending on specific brand momentum, with consumers gravitating first and most to brands and products they want to buy and wear

Against a deteriorating macro backdrop, upscale brands stand to emerge as winners. If the consumer becomes sensitive to inflation, we would expect higher-ticket items and coveted brands in leather goods to be more protected. Consumers might also favor purchasing hard luxury items such as watches and jewelry, which potentially represent a more attractive investment. This is reflected in rising Swiss watch exports, which were up 12% year-over-year in February 2023 in value terms. That said, luxury brands across the board will likely ramp up their marketing efforts to boost sales amid challenging market conditions. We saw an increase in operating expenses in the second half of 2022, mostly due to higher marketing spend to maintain and further drive brand momentum. This raises a question mark about the investments needed to excite and engage consumers, who are becoming ever more demanding.