In times of economic turmoil interest in alternative investment opportunities typically increases. While art, wine, antique cars and watches generally have quite low short-term liquidity, in the long run your benefit might be substantial. Is now the right time for investing in art?
Karīna Kulberga
The founder of the SheOwns movement,
The head of Swedbank Private banking in Latvia
Is it the right time for investing in art?
It is highly typical that in times of increased market volatility the investors turn their eye towards alternative investment classes, including art. For example, The Wall Street Journal named art the best investment of 2018[1]. Why? Because alternative investments such as art, antique cars, specialized wine and cognac selections are way less impacted by the general moods of economic cycles. Even during times when share prices make sharp upward or downward movements, the price of art objects remains quite stable. Therefore in times like we are now experiencing with Covid crisis (at the time of writing this article have meant the sharpest adjustments for financial markets since the Great Depression), the value of an art objects portfolio held by the investor might have remained at the same value as in January (or even might have experienced a slight increase in value). Due to this quality it is often that financial advisors suggest diversifying and holding part of one’s wealth specifically in this alternative investment class of art. Is it all so easy and simple and could it be true that art is a risk-free asset?
In this article I want to share 7 observations about art as investment:
- It is a myth to consider that the value of art is always appreciating/growing
The annual report of 2019 of Art&Finance delivered by Deloitte[2] suggests that Artnet index of top100 artists globally grew by an average of 8% per year during the period of 2000-2018. Such a highly attractive return rate kept inviting more interest investor groups into this asset class. Whilst as I mentioned above, during 2018 art was put on the pedestal of best investment class, already by early 2019 first red flags started to pop out and signs of overheating were evident. The lights went off as the news on international auction house (Christie’s, Sotheby’s and Philips) sales volumes were issued, that showed a drop of 20% for the 1 half of 2019 in comparison of 2018. So, the euphoria of 2018 was quickly replaced by analyst warnings that this asset class might have experienced a severe overheating and that a price correction is to be expected.
In 2013 an in-depth research by Stanford Business School[3] revealed that there is a constant overvaluation of expected returns from art (returns regularly turn out to be lower in real life) whilst the risk of this investment class is usually undervalued (meaning it turns out to be higher than earlier suggested). The economic researchers at Stanford remain very laconic – that art should be bought as an expense rather than investment object, meaning, not putting to high hopes on appreciation of specific art object, but rather as an addition to the aesthetic values of one’s life.
And indeed, long-term data shows that art has the closest correlation to gold in comparison to any other asset class. This implies that investors view art as a way of maintaining one’s wealth value in long term not as a high yield return class. Therefore, if you have decided to add art to your portfolio of other assets, please, do not consider that this shall be driving force for an increase in your net worth.
- Is art as an investment class available only to the very rich?
The assortment of available art is very wide in a variety of different price ranges. But not all these art objects should be considered as long-term investment worthy. The probability that, for example, a painting acquired today for EUR 10 000 will significantly increase in value in the coming years is very, very small. The odds of this EUR 10 000 painting becoming a “million dollars exit story” in the foreseeable future are like winning a lottery. So, in case your strategy is buying up low priced art objects in the hopes of very high returns – this would be viewed as a speculative approach with increased risk of liquidity (is there a market that would buy the artworks). In addition to the above, every good portfolio means diversification within the asset class as well – so one painting of EUR 10 000 would not be enough – it should be a healthy combination of different art classes, centuries, artists and geographies.
Does this all mean that the attractive returns of the art market are all left at the deep end of the pool for the expensive art? Regretfully also here the answer is “it depends” – the data shows that even in the “big and expensive” art pool there are categories that have been bringing in losses to their owners. The same Deloitte 2019 report shows that, for example, from the seven large art market categories, only three have operated with a positive return in the last 5 years, but the other four categories kept losing value.
This leads us to think that for a healthy art portfolio it should consist not of a single, but of multiple artworks of already established artists that have a value range established (usually meaning more expensive works). And if such alternative investments should be only a small part of one’s portfolio, it would indeed mean that art is a good idea only for the very wealthy investors.
The good news is that the digital generation has created more demand and thus also a supply of tools to “democratize” the conservative art market. Consider, for example, such company as Masterworks who offer innovative concept of entry into the art world for smaller investors. Namely, small investors buy tiny shares of world-famous art pieces, becoming very minor shareholders of such art pool. This new approach itself is worth another article to investigate – on its effects, both positive and negative, on the value of art market.
- Art as alternative asset class = low liquidity
The beauty of the standardized financial markets is in the liquidity they offer to investors – the hopes and fears of investors immediately are reflected in the share prices and are available across the globe in real time. The advantage of such liquidity means that I can check on the value of my Amazon shareholding any given minute and if need be – I know quite precisely how and for what I can sell these assets on global markets. The negative side of this transparency is hidden in the irrational mind – such scientists as Thaler has won the Nobel Prize for nailing the behavioral finance decisions that humans tend to make. Out of fear and greed and subject to herd mentality humans often know how they should react in theory, but in real life sell at the lowest prices (out of fear) and buy at the highest (due to past data and greed to get better returns) as one example.
In comparison, the art market has no such precise and immediate system of price setting. The investor in art needs to make assessment of the value of this asset class based on comparative data from auction house sales of comparable objects or from appreciation by an independent art evaluator. However, neither of these estimations mean that this will be the value at which the transaction could take place – even worse, there might be specific pieces or art and timing when nobody is interested in the purchase of your owned asset at all. This explains why with such a conservative price setting system the fluctuations of value happen with a time lag in comparison with real time financial markets.
If you consider becoming arts investor, remember that this part of your wealth will not be the one to quickly sell off in times of need during a crisis. The actual sale of an art piece (even more of a whole collection) is a time and resource consuming event.
- If you want to be an art investor – become a long-term investor
I hope I have managed to explain above of the specifics of this particular asset class and that its whole structure screams not to count on it as a place for fast and speculative deals. In case you want to view art as a type of investment rather than expense source, then experts suggest considering a time frame of at least 10 years to allow this class to appreciate in your ownership. Data from the same Deloitte report mentioned above back this up – in the timeframe of 5 years only 3 out of 7 art categories generated positive returns, whilst in 10 year time positive returns were for five categories, whereas the most patient investors were rewarded with positive returns in all 7 categories if they were to hold the art pieces for 15 years.
To be perfectly frank – the rule of approaching investing as a long-term discipline has been suggested by such finance superstars as Warren Buffet for any asset class – be it shares or bonds. Buffet has been since quoted many times to have said that in case you are not ready to hold your investments for 10 years, do not start investing at all.
Finally, it is often times that financial advisors suggest their customers to view art as not even a 10-year investment project, but rather an investment to be brought across generations, thus carrying the assets for over a 20 year period of inheritance.
- Art as a tangible asset – ha sits pros and cons
Aesthetic value of art is one of the most beneficial advantages of this asset class, it is an estimated 70-80% of current art investors who have started buying art driven by pure aesthetic pleasure the art provides.
The other side of the coin of owning a tangible asset means several overlooked costs associated with that. The most typical such costs would include transportation, storage and insurance. Consider that the most valuable art pieces might find your living room a dangerous space for maintaining the quality of the work or at least require additional costs to equip the room with the right humidity and temperature. Adding to that sales commissions and fees to auction houses eat up a hefty part of the final sales price, possibly increasing the bill even more with valuation costs and finally also the tax responsibilities.
- Be ready to do some research
We already established that the probability to hit the jackpot with the first art piece you acquire that will end up selling for millions is tiny. Similarly, as with other asset classes – homework and preparations for investing pay off. If specific art pieces have caught your attention then you can narrow down into investigating the author, her representation in internationally renowned exhibitions, participation in any museum collections, acquiring of any rewards. Also find a good art world expert who can guide you through the deep jungle of art world.
The digitalization era brings support also in research, for example, Magnus app helps willing art investors to navigate the pricing ranges for art pieces in a very millennial way – the app promises to provide a valuation range of specific art piece based on a photo image of the artwork. Nevertheless, a more precise pricing corridor will still require an eagle’s eye of professional art appreciator.
- What if you need to write off this investment as an expense?
All in all, I have named multiple factors above that provide a very practical and realistic view on art investing. Do these mean that art is never a good investment – illiquid and too risky? Not at all, but I personally invite art investors to decide either they really want to put art as their investment category (with the hopes of value appreciation) or in their life quality enhancing expense category (acquired for aesthetic pleasure as an expense rather than hoping for it to gain significant value).