“Look at me – I’m a thieving enemy of the people”

published 24 August 2012

If you lived in Italy today would you buy a new super yacht?I suspect you would not. Why? Because the taxman might see it and if he did he might pop round to ask exactly how you paid for it.

And given the size of the black economy in Italy, that might be a question you didn't want to answer.

But it might not be just yachts you are shying away from splashing out on. And your reluctance to spend may have nothing to do with being Italian or owning Italian assets.

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Across the globe there are signs that high-end buyers of luxury goods are closing their wallets. Tax is one reason. Another is that ostentatious wealth is no longer admired or accepted in the way that it was. And that's bad news for luxury goods shares.

The Italian government takes no prisoners

If you are in any doubt about the scale of the super yacht exodus have a quick look at this report on empty marinas across Italy.

Meanwhile who'd want a new Ferrari after last year's campaign against tax evaders which involved tax inspectors raiding the owners of luxury cars in smart ski resorts and visiting Ferrari-owner events to check the tax returns of every single driver?

And who'd want a luxury car at all given that not only will the taxman be checking your old tax returns if he sees you in a Lamborghini, he'll also be asking for more: new taxes mean that, owners of the €316,000 Lamborghini Aventador now pay about €8,400 a year in tax.

The answer it seems is no one: according to the blogging hedge fund manager at www.macro-man.blogspot.com the "persecution of Ferrari owners" has become so severe that they are selling them in their thousands. You can now pick one up for the "price of a new VW Polo".

This is nasty news for Ferrari and its competitors. Not only are sales being hit by general austerity and shocking enforcement of the law, but global second hand prices are likely to be hit by the new exodus of cars from Italy (note that the number of high performance second hand cars exported from Italy tripled to 13,633 in the first five months of 2012 on numbers from auto industry group Unrae).

This is going to be "a vicious value collapse" says Macro Man.

This isn't just an Italian theme

But it isn't just in Italy that the luxury goods market is beginning to look a little shaky.

The market's worriers have this week turned their attention to Chinese jewelry firm Hengdeli the leading retailer of Swiss watches in China.

I've written here before about John Hempton at Bronte Capital and his idea that sales tax receipts from Hong Kong suggest falling sales of the likes of jewelry and watches in Hong Kong. Recent results from Hengdeli back up his argument.

In July the company said that sales growth for high-end watches was declining. But look closely at the results (variously described as "good" and "steady") and you will see that the company's days of sales worth of inventory have soared from 195 days at the end of September to 230 days at the end of June.

A normal level of inventory would be more like 160-180 days in China. It is hard to see how even the bulls can think this good news for the companies whose watches Hengdeli sells think LVMH Group (PA:MC), Richmont (VX:CFR) and Swatch (VX:UHRN) for starters.

As people turn against ostentatious wealth, luxury brands will suffer

There is a consensus view around at the moment that little is safer than a luxury goods company. The argument is that China is growing fast and the Chinese like to show their status with a bit of bling.

Better still, or so say analysts at Lombard Odier, "the luxury goods sector is one of the most attractive segments of consumer goods given its high barriers to entry, strong pricing power and its superior profitability and free cash flow generation".

Sounds good doesn't it? But what if the Chinese economy isn't going to grow fast for much longer? Note that Hengdeli blamed its poor results on "the slower growth momentum of the Chinese economy".

And what if on top of that the Chinese stop liking bling quite as much? Think back to Italy. A few years ago a Ferrari driver was sending a message to other Italians. That message was "Look at me - I'm rich".

Today the same car is sending a new message: "Look at me, I'm probably evading taxes and contributing to the ongoing financial crisis our nation is suffering".

Then think about China. Only a few months ago a $500,000 watch on a wrist sent the usual message: "Look at me I'm successful".

Now in the wake of the Bo Xilai scandal and the crackdown on corrupt bureaucrats it says something more along the lines of "Look at me I'm a thieving enemy of the people".

No wonder sales growth has stalled. The fact is that all over the world ordinary people with their constantly falling real incomes - are getting less tolerant of the conspicuous consumption and wealth of the winners from the great credit bubble, something they are happy to allow their tax and legal systems to express for them.

Back to Macro Man. We should be shorting traditional luxury companies, he says "not only on falling disposable incomes but also because we expect their very fashion to fade as a display of ostentatious wealth itself becomes unfashionable and attracts unnecessary attention".

The luxury goods industry has consistently outperformed most indices over the last decade. I think we should all be happy to bet a few Prada handbags that it won't over the next.

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Merryn Somerset Webb started her career in Tokyo at public broadcaster NHK before becoming a Japanese equity broker at what was then Warburgs. She went on to work at SBC and UBS without moving from her desk in Kamiyacho (it was the age of mergers).

After five years in Japan she returned to work in the UK at Paribas. This soon became BNP Paribas. Again, no desk move was required. On leaving the City, Merryn helped The Week magazine with its City pages before becoming the launch editor of MoneyWeek in 2000 and taking on columns first in the Sunday Times and then in 2009 in the Financial Times

Twenty years on, MoneyWeek is the best-selling financial magazine in the UK. Merryn was its Editor in Chief until 2022. She is now a senior columnist at Bloomberg and host of the Merryn Talks Money podcast - but still writes for Moneyweek monthly.

Merryn is also is a non executive director of two investment trusts – BlackRock Throgmorton, and the Murray Income Investment Trust.