Luxury retailers lost their traditional resilience during a financial crisis that hit the rich hard but offered attractive leverage to Wall Street’s resurgence, the global recovery and increasingly wealthy emerging market consumers.

The market meltdown not only produced higher saving rates in many parts of the world, but it also took its toll on the world’s wealthiest. The pain was felt worst in the United States, where the number of high net worth individuals (with $1-million or more in investable assets) declined 19% last year, according to Merrill Lynch and Capgemini’s World Wealth Report. This so-called “Madoff effect” caused plenty of pain for the luxury goods segment, which is typically very defensive.

“What’s been interesting about this cycle is, it’s the first time that we’ve seen luxury lose its resilience in the face of a downturn,” said Peter O’Reilly, head of global equities at Investors Group in Dublin, owner of names like Christian Dior SA, Pernod Ricard SA and Coach Inc.

The portfolio manager feels the luxury market will continue to be strong as stocks rebound -- they have generally done very well since March -- and people worry less about their net worth. He also sees opportunity in the upper mid-retail market, due to rising incomes in places like China. This category includes companies like Spain’s Inditex SA, which owns Zara, and Swedish clothing chain Hennes & Mauritz AB (H & M).

“That part of the market seems very underserved,” Mr. O’Reilly said.

Going forward, wealth creation is forecast to be strongest in Asia. In fact, the region is expected to replace North America with the highest concentration of wealth by 2013.

UBS analyst Eva Quiroga thinks China will be a major factor in the region’s long-term growth. It should soon overtake Japan as Asia’s largest luxury market on the back of robust economic expansion, favorable demographics and more overseas travel.

The European luxury segment should also benefit from renewed wealth creation, particularly in emerging markets, as well as a recovery in GDP growth. The luxury market has historically outperformed the global economy slightly, except around the time of 9/11 and the SARS outbreak. High-end goods trends are also very sensitive to the net worth of the affluent, and equity market indices have proved to be good indicators of the sector’s performance.

“After cyclical dips caused by negative macroeconomic data, the sector has historically tended to resume its secular rise to new highs,” Mr. Quiroga said. “While the European luxury goods sector has performed well this year, making an investment less attractive now, firm’s are managing costs much more aggressively and organic sales growth will likely return to positive territory in 2010.”

FTI Consulting Inc. anticipates a 2% annual decrease in U.S. holiday season sales, with highly discretionary categories among the hardest hit. However, the firm sees one glimmer of hope: luxury goods. FTI predicts this group will see substantial gains when compared with last year, primarily as a result of Wall Street’s comeback and a stronger sense of optimism among the wealthy.

Fitch Ratings director Monica Aggarwal, who tracks high-end retailers such as Saks Inc., Nordstrom Inc. and Neiman Marcus Inc., thinks holiday sales for luxury stores could be even lower than the 4% year-over-year decline anticipated for department stores as a whole. However, she notes that this year, inventories are aligned much better to these lower sales expectations.

“From that perspective, it would bode well for gross margins,” she said. “Every time you go into a holiday season, it is going to be promotional, but we expect to see a lot more planned promotions versus clearance-type promotions.”

Odlum Brown analyst Barbara Gray likes the long-term prospects for Coach Inc. and Lululemon Athletica Inc., which she says “delivers luxury-level sales productivity and profitability metrics.” She noted that these names and Tiffany & Co., whose third quarter earnings beat the Street this week, resisted the temptation to deeply discount products during the recession. Tiffany posted double-digit sales growth in Asia and a slower rate of decline for the United States -- an encouraging sign for upscale retailers.

“They’re the ones that maintain their brand integrity,” Ms. Gray said. “Coming out of the recession, these companies are really in a good position and I think that is one of the biggest differentiating factors. At the end of the day it’s how the consumer views the brand.”

Financial Post jratner@nationalpost.com