Art Investing: Worth the Trouble?
Is the art investing hype justified, or are we chasing a mirage?
Investing in fine art has been a growing obsession for suits on Wall Street, tech bros in Silicon Valley, and old dogs in the art world. Companies leading the charge, like Masterworks, Securitize, and Yieldstreet, are clamoring to unlock the secret to profiting from the art market.
Let's explore the history, the pros, the cons, and the potential future of art investment and decide whether art investing is here to stay.
First, let's take a walk down memory lane and reexamine the first serious attempt to professionalize art investing.
It was 1974 in the UK, and things were looking grim.
The country was facing its first recession since WWII, The Troubles were tearing apart Northern Ireland, and mining strikes were causing widespread chaos and energy restrictions. To top it off, inflation was sky-high at 16%. (Does all of this sound familiar?)
Enter the British Rail Pension Fund (BRPF), a robust retirement fund for the country's railway workers. With the economy in shambles, the fund needed a way to weather the storm and make money through their investments.
Their solution: Invest in Art.
Between 1974 and 1980, the BRPF allocated £40 million to purchase 2,400 works of art. The collection targets included pieces by Old Masters, Impressionists, Post-Impressionists, and a mix of other categories like Chinese Works of Art, Prints, Silver, and Coins.
After holding this collection for nearly two decades, the collection sold at Sotheby's in 1996. Experts estimated the fund generated a financial return for investors of 13.1% per year. Big success, right?
To some, yes. To others, not so much.
The BRPF experiment sparked a debate about the viability of art as an investment option.
Supporters argue that the fund's accounting methods underreported the profits, was too conservative in its work selection, and the practice has tremendous room to grow.
In contrast, detractors say the high costs and mediocre returns, taking inflation into account, weren't worth the trouble. They argued the fund could have done better through a diverse selection of stocks and bonds.
The BRPFs strategy inspired countless initiatives aiming to one-up the British pioneers and crack the code on art investing. Nevertheless, to this day, there is no consensus on whether the practice is welcomed or a waste of time.
What can be said is that there are clear advantages and clear disadvantages to being an art investor. Let's take a look at some of those:
Advantage 1: Potential for Strong Financial Returns
Fine art, particularly contemporary art, has delivered promising returns over the last 25 years.
That said, take this statement with an entire shaker of salt.
It’s nearly impossible to get the complete picture of the financial returns of art sales, given that so many sales remain secret and hidden from public databases. Experts estimate that ~50% of all art transactions are conducted through private gallerists and dealers.
The other ~50% of transactions occur publicly through major auction houses such as Sotheby's and Christie's. Most pontifications about the financial performance of art are made only through the lens of auction sales. Considering auction houses focus on selling the works by superstars, legends, and household names, we're missing quite a bit of the picture.
Nevertheless, if you purchased a basket of contemporary artworks by the Young British Artists in the 1990s, you'd be very pleased with your investment appreciation.
Advantage 2: Art Creates a Diversified Portfolio
According to some studies, fine art is considered a non-correlated asset.
In simpler terms, historical data shows that fine art prices have often increased during times of economic hardship in the broader economy.
Fine art is also viewed as a safe place to park cash during times of high inflation. When the BRPF first announced its experiment, it cited inflation protection as its primary motivator.
Investors love to put capital into non-correlated assets as it helps weather economic turmoil.
Advantage 3: The Growing Popularity of Art
Art has also become a mainstream staple in popular culture. We've got Louis Vuitton and Kusama working together, SuperBlue exploding on social media with its Instagram-ready experiential art, and Art Basel globetrotting around without pause. Although hard to quantify directly, these trends will positively impact art values for years to come.
Disadvantage 1: Art is Illiquid
Fine art is highly illiquid, making collections difficult and time-consuming to sell in a pinch.
There is no centralized, efficient exchange like the role the New York Stock Exchange plays for stocks. The sales channels for art are highly fragmented and market prices remain opaque.
The sales process involves significant transaction costs such as commissions, shipping, storage, insurance, and maintenance expenses.
Most importantly, it takes time, sometimes months, sometimes years, to sell a collection entirely.
Disadvantage 2: The Art Market Lacks Regulation
We’ve all heard of art forgery scandals. They’ve popped up quite consistently on Netflix documentaries and article headlines.
Even some of the most prominent connoisseur collectors have been duped by the best forgers in the game.
The market is largely unregulated, making it difficult to access reliable information and increasing the risk of fraud and unethical practices.
In 2014, the chief of Switzerland’s Fine Art Expert Institute claimed that 50 percent of art circulating on the market is forged or misattributed. This is just an estimate, and the true number of forgeries floating around is impossible to know with current technology. But the point is quite scary.
Disadvantage 3: The Art Market is Volatile
The art market is highly cyclical and volatile, with prices fluctuating greatly based on the popularity of artists and styles. For example, one day, abstract paintings may be all the rage. But in an instant, figuration may take over.
This dynamic, which can happen fast and ferociously, adds complexity to the investment process.
It's reminiscent of the alt-coin craze of the past few years. Some tokens promised a revolutionary technological path, only to be worthless days later. Similarly, emerging art stars are sometimes born overnight and fade into obscurity just as quickly.
I haven’t mentioned the most significant factor at play when investing in art: Access.
You can study the charts and talk to experts until you're blue in the face, but at the end of the day, it's all about who you know. The gatekeepers of the best works - the artists, museums, and dealers - hold the cards, and if you're not in their good graces, you're out of luck.
Schmoozing and networking are essential in this game, and you only get one shot to make a first impression. Fall out of favor, and you could be shut out forever. This means that the cream of the crop - the works with the most potential for huge upside - are often out of reach for the average investor. You're stuck playing the game of taking what you can get at the price you can get.
Yes, auctions offer a democratic way to purchase works of art, but the cost of that democracy is steep. Buyer's premiums and the rapid bidding process can inflate the acquisition cost, cutting your potential returns.
The Future of Art Investment
So what comes next?
If you glance at the websites and public marketing for the new players in art investing, things seem hunky dory. Promises of "huge returns" and "beat the market" are abundant.
Masterworks alone is valued in the private markets at over 1 billion dollars. More and more entrants to the space frequently arrive, signaling that the entrepreneurial sharks see blood in the water.
Maybe these new entrants have cracked the code and figured out how to optimize art investing, minimizing the disadvantages discussed and navigating the promised upside.
We won't ever know unless the results are shared publicly and subjected to analysis: a scenario that will likely never occur.
My advice: pay a great, ethical art advisor with access. Hire someone who knows their stuff, is connected, and understands the nuances of the market. You'll thank yourself later.
After Sotheby’s sale of the British Rail Pension Fund’s collection, works found their way into major international museums, and some were considered British national treasures.
“But, we wouldn’t do it again,” the fund’s investment manager vowed.