Following the news that China is considering a USD278 billion rescue package, we look for sectors at an attractive price and valuation that could benefit from a relief rally in the short term after the recent hefty sell-off in Chinese equity markets. Luxury goods is one of the sectors that has underperformed significantly, partly due to its exposure to China, and is currently trading at attractive price and valuation levels. We expect that there will be a read-across from a potential relief of the current excessive pessimism surrounding China. In addition, a recovery in Chinese consumer confidence as a result of the rescue package and the higher discretionary spend that should go with it, could be one of the most important boosts for the sector in 2024.
The 4Q23 reporting season for luxury goods stocks has kicked off with diverging performances between players, and flow-wise there has been a sharp uptick in interest in owning gamma on luxury names after the misses reported by Boss and Burberry. When there are expectations of an economic downturn, consumers gravitate towards premium brands, with category leaders typically outperforming others. Louis Vuitton remains the current leader in the luxury goods sector and reports on 25 January. We see more risks to the upside heading into these results, as the general weakness in the luxury sector appears to be priced in. In addition to the potential improvement in sentiment on China, with the price 25% below its all-time highs we see an attractive opportunity in buying calls.
With volatility at undemanding levels (3M ATM IV 2YPc40) we suggest buying Mar 24 740 calls almost fully financed by Mar 600 Puts with a net cost of 0.07% of underlying (spot ref: 668). Should the spot price increase by only 5% to 700, the value of the call alone would return 2.4x on the premium employed. Alternatively, you are left holding the stock at a 5-year PE low