15 January 2014

Art Markets and Investment

From an item by Melanie Gerlis in the Financial Times promoting her Art as an Investment? A Survey of Comparative Assets (Lund Humphries, 2014) -
 art falls short relative to many of the other assets to which it is frequently – and favourably – compared. These include both traditional and alternative investments, whether public and private equity, gold, wine, or residential property. Its lack of correlation to such assets is also questionable. 
The combination of the market’s illiquidity, opacity, lumpy supply and asymmetry of information undermines art’s profile as an asset. This is reinforced by the unique qualities of each work – including its history of ownership, trading and display – which create enormous ranges of pricing and valuation, and preclude sensible data aggregation or comparison. The market’s opacity further opens it up to unchecked manipulation. 
Price transparency is another huge problem facing those who would map art’s returns on to a Bloomberg screen, alongside their other investments. Only 50 per cent of an already relatively small number of art trades are recorded (auction results are made public, dealers’ prices are not). To put this into perspective, Artnet, a database of auction sales, records that 1.8m works of fine art were offered at auction in 2012. By comparison, there were an average 1.5m trades per day through the London Stock Exchange alone in May 2012. Even if the limited, patchy and inconsistent available data on art sales could be put into a hypothetical basket of all segments of art, its financial profile is hardly compelling. Most such theoretical analyses of the art market find that the average compound return for works kept for between five and 10 years is around 4 per cent. 
Relatively speaking, this is already less than for gold, wine and both public and private equity, and also lower than the residential property market – another market of unique goods, but with more trading volume and available data (as well as an actual and economic utility) than the art market. And this is before considering the so-called risk adjusted return (the profits needed to make up for the peculiarities of any market). One investment professional whom I interviewed for my book said that, given the risks in the art market, anyone who is content with less than a 50 per cent return on art “needs a lesson in investment”. 
Meanwhile, art’s supposed lack of correlation with other markets is not entirely convincing. The price levels for art do not reflect its fundamental characteristics, rather the fortunes of its buyers. The art market as a whole crashed soon after the economic downturn began in earnest in 2008. Thereafter, only the top-priced works recovered as the wealthiest few emerged relatively unscathed from the credit crisis and new wealth was created outside the gloom of Europe and the United States. Many experts also agree that the data frequency to support the correlation claim is much too short to be meaningful, given how relatively infrequently art is sold for a known price. What may seem to be a lack of correlation may in fact just be a lack of information.
You could of course buy art or books (if necessarily skipping lunch) for pleasure. Cuddling up with a gold bar or a bearer bond? No. Liquidating the assets by drinking the collectable bottle of wine (particularly after realising that it's a fake)? A transient pleasure with a headache the next day.

Gerlis notes 'On the valuation of psychic returns to art market investments' by Erdal Atukeren and Aylin Seckin in (2007) 26(5) Economics Bulletin 1-12
Investing in art objects yields financial and psychic returns. The psychic returns arise since art has a superior consumption good aspect as well. The question is whether it is possible to measure the psychic returns. One valuation method for estimating the psychic returns to investing in artworks is their rental price. Here, we make use of the prices charged by a Canadian fine art company for its art rental services and calculate the implied psychic returns to be about 28 percent. Next, we review the finance-theoretic approaches to measuring the psychic returns to investing in artworks. We follow Hodgson and Vorkink's (2004, Canadian Journal of Economics) suggestion that the alpha parameter in the CAPM captures the extent of net psychic returns. The evidence on alpha from the art market applications of the CAPM coupled with the transaction cost data from international art auctions also suggests that the psychic returns to investing in artworks might amount to about 28 per cent.
Overall I preferred works such as 'Art Investment and the British Rail Pension Fund' by Peter Cannon-Brookes in (1996) 15(4) Museum Management and Curatorship (1996), 'Art as an Alternative Investment Asset' by Raya Mamabarchi, Marc Day and Giampiero Favato, 'Accounting for Taste: An Analysis of Art Returns Over Three Centuries' by William Goetzman in (1993) 83(5) American Economic Review, 'Reflections on historical series of art prices: Reitlinger's data revisited' by Guido Guerzoni in (1995) 19(3) Journal of Cultural Economics 251, 'Unnatural Value: or Art Investment as a Floating Crap Game' by William Baumol in (1986) 5 American Economic Review, 'On pricing the priceless: Comments on the economics of the visual art market' by Louis-André Gérard-Varet in (1995) 39(3) European Economic Review 509.