Appreciating Art as an Investment

By Debra Diamond

One way to consider "hard assets" is as a kind of alternative global currency. In times of economic or political distress, many alternative hard assets - gold, gemstones, collectibles - have been embraced by investors in a flight to quality. Hard assets like art have been prized historically and have come to represent a rare, timeless asset.

But is it an investment?

Unlike commodities, rare art is not fungible. One painting cannot be substituted for another. The Mona Lisa cannot be replaced by a Michelangelo. Vincent Van Gogh's Sunflowers is not a substitute for Vermeer's Girl with a Pearl Earring. I cannot make a replica of Renoir's famous Boating Party painting and have everyone agree it should be worth as much as the original. It's this very uniqueness that gives an art asset value.

Like any other traded good, the value of fine art is determined by supply and demand, but the supply, perhaps more than any other market, is entirely finite and known. The Old Masters are dead and gone.

"Well," (I imagine you saying), "that's all well and good. But what's that got to do with me?"

Maybe more than you think.

Why Buy Art?

Let's hit some of the high spots on why you might consider art as an investment:

It's Beautiful

Unlike stocks, bonds, private equity and even commodities, art assets can be enjoyed. Even though your stock may go to zero and you've got nothing to show for it except a worthless piece of paper, you'll always be able to enjoy the beauty of a wonderful piece of art on your wall. You can pass it down to your children or grandchildren, loan it to a gallery or museum for a show or just admire and learn about history, politics, society from it. You won't find a security as stimulating or satisfying.

It Appreciates

Art should be purchased out of love, not greed. However, there have been numerous examples of art that has been used as an investment. Perhaps the most famous is the British Railway Pension Fund.

In 1974, the British Railway Pension Trust invested $70 million to purchase over 2,000 works of art. These objects included paintings, sculpture, drawings, decorative art and other assets of beauty and rarity. The art was sold at auctions by Sotheby's in the 1980s resulting in a compound annual rate of return of 11.3%, making this a very successful investment for the Trust. These returns are consistent with long-term studies of art market returns. Art has slightly under-performed the S&P over the long term but outperformed Treasury bills and cash.

It's Different

It's axiomatic among commodities investors that diversification - particularly uncorrelated diversification - is a good thing.

Art is remarkably uncorrelated with traditional assets, and is negatively correlated with bonds and U.S. equities over the last 25-30 years. This alone makes it worthy of consideration for investment:

Correlation 1980-2006 (General Art Basket)

MSCI World	4.7%
MSCI US	-3.2%
GSCI	9.1%
10-yr Treasury	-3.0%

Source: Art as a Financial Investment

It Holds Value

Throughout history, masterpieces, rare gems, gold and other stores of value were considered the treasures of a culture and a civilization. But this value is not as intangible as it might seem for an investor used to holding corn and soybeans. Today, there are numerous examples of rare assets used as collateral to secure debts.

The Metropolitan Opera recently announced that its famous Chagall murals, "The Triumph of Music" and "The Sources of Music" are being used as collateral against a long-term loan, the size of which is undisclosed. These murals are among the most famous paintings of artist Marc Chagall. Another contemporary artist, photographer Annie Leibovitz, recently sold the rights to all of her past and future images in exchange for a $15 million loan.

The Key Factors

Fine art value, while ultimately still based on supply and demand, is influenced by several key factors investors need to fully understand.

Authenticity and Provenance

Authentication and "provenance" are absolutely the most critical issues when evaluating a given piece of art. This means that the work was executed at the time and by the artist as stated, that the materials are correct and that there is legal documentation of which collections owned the work (these can be individual or institutional). This tells us the work's history.

Condition

Work that is in exceptional condition is worth a premium. Look for work that has not been restored. If a dealer tells you that "all you have to do is fix a tear, or have someone paint in or fill a gap on the canvas," be suspicious. As Warren Buffett states, you can "wait for the perfect pitch." Buying a few important pieces a year is more important than assembling a hastily assembled collection.

Rarity

The less available an artist, a style or a type of piece, the more likely it will appreciate in value. Works that exists in limited numbers by important artists are the best to focus on. Be wary of copies, unlimited editions, works that are not signed.

How To Begin?

Like any other asset class, first decide what your budget will be and what level of involvement you desire. Even if you decide to utilize a professional, it's good to educate yourself about the markets, your taste and what your goals are. If you have a small amount to invest and you are doing this on your own, we recommend buying one important piece each year - the best quality by the best artists.

The rare asset and art markets look deceptively simple. In reality, these markets are exceedingly complex. Imagine the pink sheets, the OTC market and the Nasdaq rolled up in one. Now imagine them without transparency. These markets are private and dominated by "moms and pops" with the exception of the major auction houses.

And bear in mind that creating a collection is an organic process. It takes time to identify the work and it is usually acquired on a piece-by-piece basis.

Visit museums, galleries and art fairs to cultivate your taste or develop an "eye." Take art history courses. And last, consider seeking the assistance of a professional to navigate the ins and outs of the markets. But recognize that this is a market dominated by full-time insiders, and even with the assistance of an art adviser, conflicts of interest are common. Inter-dealing is prevalent, so some art advisers may be steered to certain galleries where they get a "kickback." On top of that, they may charge you a retainer and a percent of the sale.

Why Now?

Due to upheaval in the financial markets and economies, fortunes have been lost. Hedge funds have closed, leaders of industry and high-profile investors have lost millions if not billions of dollars. The fallout in the art market has been distress sales and consolidation among dealers and galleries. Many not-for-profits, such as museums, are in trouble, and are searching for ways to monetize their assets so they can pay their bills to keep the doors open. This makes it more of a buyers' market than it's been in decades.

As an example: The Brandeis Rose Art Museum has announced it will close its doors and sell its 6,000-work collection, including many masterworks. The Los Angeles Museum has auctioned off several of its prize works to raise cash and shore up its finances. The same is true at the National Academy Museum.

The art market is not for the casual investor - it requires diligence, focus and a willingness to step outside the confines of regulated exchanges. But for that very reason, it represents an uncommon opportunity.

Comments

[Znog:]

Check prices before buying,

Apr 22 03:39 AM

[User 399808:]

Fanastic article!
Always consult a certified appraiser before selling or buying.
salterappraisals.com
mandy@salterappraisals...

Apr 22 09:29 AM

[notsosmart:]

sounds too complicated for me. what about the insurance premium every year. does that get subtracted from the gin(if any)?

Apr 22 12:26 PM

[CLCB:]

Great article. Art is and will always be a great investment, and people really should look at it more as a diversifier. I don't think buying good art is complicated at all, actually -- a good place to start is to look not at what the smaller galleries and collectors are buying, trend-wise, but keep an eye out for what major museums are starting to buy. This indicates quality and the sustainability of value over time. At the moment, prices have come down somewhat from a year ago due to the economic crisis, so high-quality art has become a lot more affordable. On a personal level, I feel the best buying target, where I think the trend is already start to tick upward again, is in emerging art markets like China and Southeast Asia, and good buying opportunities should continue for the next year or so as it picks up steam again in conjunction with the Chinese and broader global economies.

Apr 22 03:55 PM

[China LCB:]

I agree with the commenter above, but I would go a step further than him or her and say that contemporary Chinese art, moreso than Southeast Asian art or art from other emerging markets, will be THE major driver of art in the region for years to come. Those of us who have been watching the China art market for some time have noted that the market itself seems to mirror the country's growth, surpassing inflation and growing sustainably as domestic buyers who want to diversify their asset holdings branch out into portable assets like gold, diamonds, art, and wine. I think anyone who has any interest in art as an investment needs to think about China as a point of focus, since wealthy Chinese are becoming more and more motivated to buy artwork by "their" artists, not wanting to see all of their country's artwork leaving the country. Right now, though, prices have become more affordable in Chinese art as in most asset classes, so great opportunities exist in this art market right now, but they won't last very long -- wealthy Chinese buyers have also recognized these opportunities.

Apr 24 11:27 AM