The Collapse of The Luxury Watch Market - Why Have Secondary Market Prices Fallen So Much?

Prices for the most in-demand luxury watches have been in freefall on the secondary market since March 2022 as a pandemic-era rally fizzled. Are luxury watches a good investment, how do watch prices perform in the long run?

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Transcript

Over the last few years, we have seen a number of assets spike in value only to decline once interest rates rose.  At peak prices there were all sorts of claims both in the media and by people in the business of buying and selling them that these were new asset classes, and that everyone should consider investing in them.

The spike in luxury watch prices is maybe a little bit more interesting than some other asset prices that rose rapidly in value in the pandemic years, as watch prices started rising well before the pandemic, and while the pandemic era stimulus added fuel to the fire, there were a few other factors at play.

At the peak certain hype watches like the ceramic bezel Rolex Daytona, The Patek Philippe 5711 and the AP Royal Oak fifteen two zero two were trading at multiples of their new prices on the used market.  At the peak – Rolex boutiques were open with no watches available in the store and dummy watches on display in the window – a rather bizarre situation – it makes you wonder what the store employees did all day?

With the huge price spikes – an idea began to spread that – what are mostly mass-produced watches were now investments that you could buy, put in a safe and maybe retire on one day.  Collecting watches was no longer a hobby for wealthy connoisseurs it was now pitched as a way for regular people – with good taste to grow their wealth.

To be clear, Luxury watch prices have always seemed high – A high price is a basic requirement of being a luxury good, and the high price is frankly a part of their appeal.  We have discussed the concept of Veblen goods in prior videos – these are goods that seem to contradict the basic economic laws of supply and demand – as demand for them increases as their price goes up.  The term Veblen Goods comes from the economist Thorstein Veblen, who is best known for introducing the term “conspicuous consumption.”

A difference between luxury watches and other luxury goods is that they tend to be more durable – both in terms of not wearing out quickly like clothing, cars, expensive foods or holidays, but many appear to have also stayed in fashion for decades.  The hype watches of the last few years have designs that originated in the 50’s, 60’s and 70’s.

Swiss neutrality during the second world war meant that while the major industrial nations were focused on military production Switzerland could add a corkscrew to its official army knife and continue making consumer focused goods. By the end of the war, the Swiss watch industry had a near monopoly on precision watches. By the 1970’s they controlled half of the world’s watch market. 

The first quartz watch to be awarded certified status as a marine chronometer was introduced by the Swiss watch company Omega in 1974, but the Swiss were slow to embrace this new technology and by the late 1970s, cheap quartz movements from Japan flooded the market causing a significant decline in mechanical watch sales. Quartz watches were cheaper, more reliable and more accurate meaning that watch production quickly shifted away from Switzerland to Japanese brands like Seiko, Citizen and Casio.

This was known around the world as the quartz revolution, as regular people could now easily afford a reliable and accurate watch, but in Switzerland it was called the Quartz Crisis.  By 1983, the Swiss watch industry, which had 1,600 different brands in 1970, had declined to 600 in just thirteen years. That year, (1983) the two biggest Swiss watch manufacturers combined to form SMH – which was renamed Swatch in 1986. The fashionable, but disposable quartz Swatch watches are credited with saving the Swiss Watch industry, but Swatch also consolidated some of the classic mechanical watchmaking brands and refocused them on the high end – reigniting the mechanical watch industry – by no longer competing on price or accuracy, but instead on artistic merit and high end style.  Much like the way Saville Row in London sold bespoke suits to the global elite, high end Swiss watch brands sold watches that competed on handwork and quality and not price.  The modern luxury watch industry was born.

I have worked in finance for my whole career and finance guys have always tended to wear nice watches – they’re often the only jewelry a man wears – and they look good with a suit. There was a bit of a feeling back in the late 2000’s that mechanical watches might go the way of the pocket watch – they were quite expensive and young people had stopped wearing watches altogether.  Offices had become more casual, and smartphones were replacing a lot of the consumer electronics people had bought in the past.

Most of the people I knew who bought nice watches were not buying them as an investment, they were buying them as a consumption good.  Watch prices had risen over time, but in a slow and stable manner.  Back then when someone thought of a watch as an investment – they expected it to dip in value once you had paid retail for it and then hoped it would rise back to that value over time – maybe going up at the rate of inflation.  Certain watches like the stainless-steel Daytona – which always had a long waiting list traded at a premium in the second hand market – as people would pay up to avoid the waiting list, but discounts could be negotiated on most other new watches, especially in the wake of the credit crunch.

A few things changed in the 2010’s to kickstart prices.  The first was the rise of China.  In London – you can usually tell, where in the world wealth is being generated by walking down Bond Street.  The high-end stores on Bond Street know where the shoppers are coming from, and cater to their needs.  When oil first hit $100 a barrel in 2011, shop windows were filled with goods catering to middle eastern buyers.  When they started decorating Bond Street with red lanterns for Chinese New Year in the 2010’s you knew that a new customer base had arrived.

Rolex began selling watches in mainland China through one authorized dealer in 1995, twenty-five years later there were 160 stores.  According to Morgan Stanley, one third of luxury watches are bought by Chinese Customers. This huge new customer base meant that demand was outstripping supply and prices started to rise.

The next market moving event was the 2017 auction of Paul Newmans Rolex Daytona.  It was a rare watch – with a great back story and an iconic owner. Its 17.75 million dollar auction price at Philips Auction House in New York – made headlines all around the world. 

In the same way that an NFT by an unknown artist selling for – just under 70 million dollars in 2021 drew attention to that market – a Rolex – granted one owned by an A list celebrity selling for such a high price attracted interest from people who might not normally have cared at all about watches. Watches were now no longer seen as consumption; they were an investment – and one that could rapidly appreciate in value. Watch forums were suddenly flooded with new members wanting to learn the details of watch collecting and what made one watch more special than another.

As interest in expensive watches grew around the world, they had additional utility in many parts of the world where they were seen as a good store of value that could be easily transported across borders and they could also be used to pay bribes.

When the pandemic hit in 2020 there was a panic in the watch market, as stores were being closed, people were losing their jobs and businesses looked like they could go bankrupt.  As the stock market tanked in early 2020 – no one was rushing out to buy an expensive watch and dealers rushed to liquidate their inventory as quickly as they could.

The extraordinary measures taken by governments and central banks around the world quickly calmed the market, and as stock markets, crypto and everything else soared in value, the watch market took off too.

Supply chain disruptions during the pandemic meant that certain watch parts like mainsprings were in short supply. Watch manufacturing which involves specialized workers working closely together was very difficult to arrange during a time of social distancing. This meant that as demand was ramping, there was a big drop in production – Morgan Stanley Data shows that Swiss watch exports fell by 7 million units in 2020 – a 33% drop.

Watch prices really took off when lockdown ended in most parts of the world in 2021. In western economies there was a real wealth effect as people had stayed at home during the pandemic, their jobs had been secure and they had saved money by being unable to take holidays, eating at home and not buying new clothes or cars.  Some had even started investing and the stock market had soared – in particular the stocks favored by retail investors.  Some had new wealth due to soaring crypto markets. Luxury goods – especially watches saw unprecedented demand. A quick glance at this chart of used Rolex prices from watchcharts.com tells you all you need to know.

Celebrities and influencers jumped on the watch trend too.  Many had spent the pandemic scamming their audiences with crypto rug pulls, fake charities and luring them into gambling on illegal websites.  They jumped on the watch trend making videos of their lavish purchases.  Some bought fake watches – and the Watch Dealer Nico Leonard grew huge on YouTube calling them out. He would have gotten much bigger if international viewers could only understand an Irish accent – which isn’t actually an accent.  It is well known that Irish people speak perfect English – and people in other countries have strange accents that no one can understand…

When stores reopened after lockdown – social distancing meant that retailers could only let a few people in the stores at a time. Long lines of people standing six feet apart and velvet ropes quickly appeared outside luxury watch stores.  Marketing experts will tell you that the appearance of demand can create its own demand.  People tend to want things simply because other people want them.

A friend who works in the luxury watch industry tells me that there always were watch flippers – who would join waiting lists for in demand pieces – knowing that they could flip them to a secondary market dealer at a profit.  That group exploded when in demand watches could be sold at two to five times their Recommended Retail Price.  She told me that coworkers would stab each other in the back – to give an in-demand watch to one of their clients – even if it had been reserved for someone else’s customer.

At Rolex stores, certain watches had always been hard to get, but in 2022 all Rolex sports watches were allocation pieces, and the store windows only had dummy watches on display which had no movements in them. AP watches which a few years earlier had been sold with a discount now had long waiting lists.

The luxury watch market peaked in Spring 2022, and when prices began to decline – dealers who had been hoarding watches - started to sell – they didn’t want to be left holding the bag.  Flippers left the market when used prices were roughly 20% above RRP. A dealer explained to me that used watch dealers want at least a 20% margin on sales, so when a watch is trading on the secondary market at 20% above RRP – they can only buy it from a flipper at RRP, meaning that there is no profit in the deal for the flipper.  This meant that waiting lists evaporated.

You can see in a chart of luxury watch prices that the price decline began in March 2022 – which was exactly when the US Federal reserve started hiking interest rates.  Higher interest rates will have had a few effects.  Firstly, the reason interest rates were being hiked (to begin with) is that inflation was biting all over the world, and inflation in essential goods like food and fuel mean that buyers have less money to spend on luxuries. Second, watch dealers usually borrow money to pay for their stock.  When rates go up it becomes more expensive for them to hold that stock, so they mark down watches to sell them. Thirdly, in many countries, thirty-year fixed rate mortgages are not available.  An interest rate hike meant that consumers around the world had higher monthly mortgage payments, and less money to spend on things like watches.

Interest rates were not the only thing hitting watch prices.  While the rest of the world had unlocked after the pandemic, China had extreme restrictions in place for much longer. Property prices in China had collapsed, and property is the main investment vehicle in China. Crackdowns on corruption also meant that wealthy Chinese businesspeople were no longer flaunting their wealth.

Ruchir Sharma wrote an interesting piece in the FT last week called “It’s no longer glorious to get rich in China — it’s dangerous” He described how last month, Colin Huang, attracted headlines when he rose to become China’s richest man. Shortly after the headlines appeared - he surprised investors in his company with a downbeat profit forecast, tanking the stock.  His net worth fell by 14 billion dollars overnight and Zhong Shanshan was now Chinas wealthiest man.  Within 24 hours, Shanshan’s business Nongfu Spring issued its own profit warning, and too he fell from first place on the rich list. Sharma explains that under Xi, nobody wants to be the richest man in China.  So, the huge demand that had come from China a decade or more ago was evaporating.

In the rest of the world pandemic stimulus – and the wealth effect it had caused was gone.  On top of that – when expensive watches – which had once been stealth wealth were being flaunted by influencers online – other people started to notice how valuable they were.  According to USA Today – watch crime which had once been a niche problem – went to being front page news – as violent street robberies exploded.  The number of watch thefts tripled in 2022.

The Watch register reported that watches had become a currency for criminals and owners were becoming afraid to wear their timepieces in public.  For most people, if you can’t wear a watch, there is no point in owning it.

To top it all off, the huge demand that watch brands had seen meant that if they didn’t either increase production or increase prices, they were just leaving money on the table.  My watch dealer friend described to me how allocating a hard-to-get watch to a customer was like handing them between ten and fifty thousand dollars as a gift, as that customer could just walk around the corner and flip the watch at a huge profit.

Watch brands pushed up their prices, but also, once covid lockdowns had ended started increasing production.  Rolex announced that they are opening three temporary factories next year which will be replaced with a permanent facility in 2029. 

To give you an idea of how much production has grown over the years, Rolex who has never previously published production numbers recently released “The Official Submariner Book”  The book only gives production numbers on the diving watches, but if we look at the black bezel stainless steel submariners, in the 1950’s and sixties they sold around ten thousand per year, they doubled production to around twenty thousand a year in the 1970’s From the 1980’s through to the 2010’s they sold 35 thousand units per year on average.  With the introduction of the ceramic bezel model in 2010, production increased to around sixty thousand units per year.  This is just for the black bezel stainless steel submariner – only a small part of their overall business.

In 1954 – the first year of production – a Rolex Submariner cost $150 dollars which inflation adjusted is $1750 dollars in today’s money.  Today a Rolex Submariner costs a bit over ten thousand dollars – which is almost six times the original price.  As we just saw, they are making six times as many too – all of this in a in a shrinking market for mechanical watches – making it all the more impressive.

It is estimated that across all of their models Rolex produces one and a quarter million watches per year, so despite what people tell you, these things aren’t exactly rare.  For context – Toyota build one and a half million corollas per year - and cars are usually scrapped after around thirteen years, while these watches can last forever – many are stored carefully in winder boxes in perfect “like new” condition.

My watch dealer friend tells me that despite what you might think seeing all of the young influencers talking about watches online, the typical buyer is still businessmen over the age of forty.  That’s who can afford them and that’s who finds them interesting.  I’m told that young people aren’t really interested in watches at all – other than some whose father buys them a watch as a graduation present and gets them hooked young.  One change in the watch market is that women have become more interested in mechanical watches, they are often knowledgeable about complications and more watches are being designed for them than were in the past. 

A Rolex dealer recently told me that as the hype came to an end, gold watches were the first to fall below retail price on the used market as these watches are the most expensive to buy, meaning that there is a smaller market for them, and they are expensive for used dealers to keep in stock if they can’t be sold quickly. Amusingly I was told that buyers were at first frustrated to see the “display only” dummy watches in store windows back when there were shortages – often feeling they were being lied to. Now that Authorized Dealers have real watches back in stock – and on display, they find themselves having to explain to potential customers that they can actually be bought – a new problem.

A similar dynamic seems to be working itself out in the classic car market. A classic car dealer described the recent pebble beach classic car auction to me as a bloodbath.  With the most expensive cars doing the worst.  Apparently, cars from the 1950’s and 60’s that were priced above the million dollar mark either didn’t sell, or sold below the low end of their price estimates.  

A 1938 Alfa Romeo 8C which had been stolen and recovered, sold for 12.7 million dollars.  The insurance company AIG was selling it after paying out $23 million dollars when it was stolen two years ago.  When it was recovered it belonged to them and they lost a bit over ten million dollars on the sale. Newer classics from the 1990’s and 2000’s did a lot better at pebble beach – these are usually cheaper cars and of interest to a much younger demographic. One sale – which would not be considered a bloodbath for the seller was a Ferrari F50 which sold at a new record price.  

Some of the dip in blue chip classic car prices from the 50’s and 60’s is being blamed on Boomers selling their collections, and the younger buyers either being less able to afford the high prices they previously traded at or just less interested in that era of cars.

This is (of course) one of the risks of collectables. Sports or diving watches grew hugely in value over last 70 years partially driven by trends like the casualization of menswear – something which would have been difficult to predict in 1954 when the submariner was introduced. James Bond wearing a diving watch with a suit in 1962 – would have seemed unusual at the time but started a trend that has lasted until today. 

In the way that young buyers are less interested in the cars that boomers collect, we can’t be sure that wristwatches don’t go the way of the pocket watch, which - while still collectable – are of interest to a much smaller group than wristwatches. We have to wonder how relevant the Paul Newman Rolex Daytona will be to collectors in fifty years’ time when many people under the age of thirty just think of Paul Newman as the man who invented salad dressing.

If watch collecting were to become more of a niche hobby, the most mass-produced watches might see demand dry up – especially when there are safes full of perfect examples – complete with boxes and papers which have hardly ever been worn.

Fashions can change quite a bit too.  Everyone likes to think that the things they like will stay in style forever, but there are lots of older watches that just look really dated today and never ran up in value – even ones that were associated with an A list celebrity.

We usually value investment assets by looking at the cashflows they will generate or by looking at the prices comparable products trade at.  

I’ve talked a lot in the past about the global investment returns yearbook by Dimson, Marsh and Staunton who have built the best time series of financial returns in existence, with data going back to 1900.  Each year they update the yearbook and publish some new research they have done. In 2018 they added a time series of collectables - as wealthy individuals often have substantial holdings of non-financial assets, things like luxury homes, artworks, jewelry, fine wine, classic cars, musical instruments, rare books, and more.

The blue bars on this chart show the percentage of wealth held in non-financial assets broken down by country.   At the low end of the scale, we have the Netherlands where people have 17% of their net wealth in non-financial assets. At the other extreme we have Russia where people keep 89% of their net wealth in non-financial assets.  Americans keep about 23% of their wealth in non-financial assets.

People own these assets for a long list of reasons, many of which are non-financial, but they usually do want them to at least hold their value. They are usually purchased because their owner views them as beautiful, culturally important and they express some of the personality of the owner.

This chart shows that around 6% of Ultra High Net Worth Individuals assets are held in collectables. When we look at the financial returns of investing in collectables over 117 years, we can see that they all significantly underperform the stock market.  A dollar invested in high grade collectables in 1900 was worth thirty dollars by 2017, while a dollar invested in global equities was worth 387 dollars – a significant difference.  The best performing collector assets were collector cars and wine, with rare books and art being the worst.  Jewelry came in right around the middle. The analysis didn’t include luxury watches – so jewelry was the closest thing to watches on the list.  The researchers only included assets for which they could build a reliable high quality time series.  

The professors warn that while collector cars did generate the best returns of the collectables studied, that doesn’t mean that they will do best going forward – some of the reason cars did so well is that they wouldn’t have been considered collectables early on – and a lot were scrapped. The professors advise against extrapolating rare automobile prices into the future.

Whenever thinking about investments, one of the first questions we have to ask ourselves is how the broad asset class performs, and what the drivers of returns in that asset class are?  This allows us to step away from seeing a recent spike in returns and deciding that the old rules no longer apply.

The reason stocks outperform bonds in the long run – is not just because they have in the past, but because investing in a stock is the same as owning a small part of a business and you can expect your stock market investments to grow at the rate of earnings growth in the long run.  Owning bonds – is lending money to a business, and your return is the interest rate on that loan – adjusted for how likely the loan is to be repaid. The return on collectables will be driven by inflation, scarcity and the changing cultural importance of that collectable over time. In certain cases that can favor you and in other cases it can harm you.  

When people talk about the market in luxury watches collapsing – we have to ask if prices are really collapsing or just returning to something a bit more normal.

Just because prices are cheaper today than they were in 2022, it doesn’t mean that there are bargains out there to be picked up either.  A lot of bubbles formed over the pandemic years driven by low interest rates and huge sums of money being pumped into economies around the world.  There is still plenty of froth in risk assets today as can be seen by meme stock prices and the recovery of crypto prices – both of which can probably be used as a metric for investor complacency and a willingness to take financial risk.

The best advice I can come up with for buying collectables is that if you can afford them, it’s totally reasonable to buy the things you love.  If you are not a dealer, there is a good chance that you will buy these assets and never sell them, and so the financial return shouldn’t matter too much to you. You don’t need to lie to yourself and pretend that all of your purchases are investments.  Dealers will want you to feel that way as obviously no one wants to lose a lot of money by overpaying for something, but if you want a nice watch (and can afford it) – buy it and wear it – if you want a nice car buy it and drive it – if it falls in value at least you will have enjoyed the ownership experience.

Thanks for tuning into this week’s podcast – with special thanks tour supporters on Patreon who make this all possible. Have a great week and talk to you again soon, bye.