The Kentucky Derby has been called the fastest two minutes in sports. But after the thoroughbreds thunder past the finish line at Churchill Downs during the 137th running of the storied race on May 7, another competition will begin to gather speed. That is the search for high-net-worth prospects who, energized by Derby excitement, will sink their cash into an investment whose returns are often measured in the quickening of the pulse rather than by money in the bank. A television commercial produced for Three Chimneys Farm, a leading thoroughbred operation, boldly draws the distinction between its product and those more commonly peddled on Wall Street. “Why invest your time, your money or your heart?” it asks amid a montage of images of thoroughbreds galloping past enthused spectators. “Because no one ever lost their voice cheering for a mutual fund.”

Yet plenty of shirts have been lost to a horse both on Wall Street and in Bluegrass Country. Some financial advisors and industry experts say that investing in the horserace industry is a sucker bet. Losing money is “almost a sure thing,” says Case Clay, president of Three Chimneys Farm outside of Lexington, Ky. “We have racing syndicates and when we pitch them, that's what we say. ‘You're going to have $10 million worth of fun. This is not a financial play.’” Morgan Stanley Smith Barney advisor Kevin Queally, who has a handful of clients who own horses, doesn't even include the horses as assets when he runs their financial plans. “It needs to be completely discretionary,” says Queally, who practices in Wellesley, Mass. “They're not even close to similar to collectibles.” How are racehorses different from, say, fine art or baseball cards? “They die,” Queally deadpans.

It doesn't help horse racing that these are not the best of times economically. The industry has struggled since the last recession and the financial crash of 2008. Average annual earnings per thoroughbred starter in North America have fallen 5.6 percent since 2007, to $16,255, according to Equibase Company. In the same period, gross purses (as the horses' winnings are called) for thoroughbred races in the United States fell 12.6 percent to $1.03 billion in 2010, largely a victim of falling racetrack attendance. Likewise, the number of races in the United States was off 6.1 percent last year, the sixth straight year of declines, according to The Jockey Club, the breed registry for thoroughbreds in North America. The crop of thoroughbred foals fell 12.8 percent last year, reflecting reduced demand for the animals.

“Horses are a luxury item,” Clay says. “When the whole world crashed a couple of years ago, my sense is people started looking at their own portfolios and cut out the antiques, the art, the yachts, and the horses. Nobody needs a racehorse,” he says. Another factor that's affected the industry is the curtailment by banks of lending for horse purchases and farm operations. PNC Financial Services Group of Pittsburgh acquired Cleveland-based National City Bank, a noted equine lender, at the end of 2008 and then withdrew National City from that lending market because it didn't meet PNC's “moderate risk” philosophy, spokesman Fred Soloman said. Soloman had no data on how much lending National City had done; Clay estimates it had about $400 million in equine lending, out of a total market of $1 billion. (Clay's father, Three Chimneys owner Robert Clay, resigned last year as a PNC director after 22 years; an SEC filing said Clay's decision was not due to any disagreements with bank policy.)

And then there are the — ahem — ethically challenged participants in some segments of the industry.

Hard data on the prevalence of civil and criminal litigation in the horserace industry is difficult to come by, since the industry is decentralized and regulation is left to individual states. But a few cases have drawn national attention in recent years. Last year a Michigan businessman pleaded guilty in federal court to conspiracy in what prosecutors described as a fraud involving bogus tax shelters connected to leasing thoroughbreds. The company, ClassicStar, cost the United States more than $200 million in lost taxes, the government said; an Oregon attorney surrendered his law license as part of a plea deal with prosecutors over his alleged role in the case. And in 2004, California shut down an operation in San Diego that it said was selling unregistered securities in thoroughbred horse ownership. The promoters of the business promised substantial profits in the deals, the state said, but they overstated the value of the horses in which the investors were taking fractional ownership stakes.

The odor of chicanery that sometimes wafts off the racetrack can give some financial advisors pause. Roger S. Johnson, who manages $25 million in his RIA business in Altamonte Springs, Fla., recalled getting an email offering an “opportunity” in racehorses a few years ago, just after a big national race. “It could have been very legitimate. It's just that it came through as an email. I probably got the email as a registered rep. Probably every one of us got that email,” Johnson says. “It just seemed like a business you wanted to stay way the heck away from. I would not want to go there since I don't know who to trust.”


Industry reps agree that knowing with whom you are doing business is one of the first rules of investing in horses. Joe M. Thomson, president of Pacer Financial in Paoli, Pa., also runs Winbak Farm, headquartered in Maryland, which he says sold 250 standardbred yearlings last year. (The breed is used in harness racing.) “A brand is something. People who have been around a while, there's a reason they've been there,” he says. Many farms, including his, will take horses back from buyers if something subsequently goes drastically wrong with the animal, Thomson says. Trainers need to be licensed, and owners who sell horses need to be members of national groups such as The Jockey Club or the U.S. Trotting Association. But there are no regulatory agencies such as FINRA or the Securities and Exchange Commission to guard a prospective horse investor's interests.

Investment setups run the gamut. People can buy horses to race, hoping that success on the track can lead to big purses and, later on, a profitable stud or brood mare service. Some investors buy horses with an eye toward “flipping” them a year or so later, a practice called pinhooking. Some investors form partnerships called syndicates, which may acquire multiple horses in the theory that a well-diversified syndicate, much like a diversified portfolio, can perform well even if it holds a few laggards.

The amount it costs to get into a syndicate varies with the number and quality of the horses it plans to buy, and the number of investors. It could be a few thousand dollars, or hundreds of thousands. Even hedge funds have been formed around the horse business; Big Brown, the winner of both the Kentucky Derby and the Preakness in 2008, was owned by International Equine Acquisitions Holdings, a fund founded by former Wall Street executive Michael Iavarone. At that level of the business, where a horse's value is measured in the millions of dollars, it helps to have deep pockets. But it's not essential at less competitive levels of performance. Dean DeLuke, an oral surgeon in upstate New York who belongs to two syndicates named after the horses they own (last year Grey Swan Press published his racetrack mystery, Shedrow), said he studied the sale prices of more than 750 yearlings and matched them to their subsequent racetrack earnings; the ones who won the most money had been bought at prices within a range of $75,000 to $250,000. In other words, you don't necessarily get a better horse if you pay more than $250,000 for it.

Perhaps one of the biggest misunderstandings that investors have is the question of maintenance. Joining a syndicate isn't always as simple as writing a single check and then heading down to the backstretch to watch the action. Investors often have to pony up additional cash to cover food, medical bills, training and boarding, and numerous other expenses. “If a horse is competing at upper levels, meaning stakes races or races at the better tracks, it probably costs $50,000 a year to keep a horse in training,” DeLuke says. In some cases the maintenance costs aren't capped, so investors can be on the hook for expensive vet bills if the animal takes ill. DeLuke, who hasn't experienced catastrophic maintenance bills, says many investors will insure against their animals' death, but there's no coverage for losses resulting from poor health. And no amount of financial support guarantees success at the track, either. As Eric Wing, a spokesman for the National Thoroughbred Racing Association puts it, “The slow ones eat as much as the fast ones.”

For those reasons, Queally sees the horse industry as an opportunity strictly for the upper-high-net-worth set, those with $15 million or more in net worth. “If you have $5 million, you don't have enough money to be in horses. Definitely not thoroughbreds,” he says. “From an advisor's standpoint, if you're looking at people in the horse business, they've got a lot of money so you're swimming in the right waters. It's very hereditary. People in horses have been exposed to that generationally.”

It's easy to see how generational wealth matters in this sport. Queally counts off the costs: boarding, $800 to $1,200 a month; training, $1,000 to $2,500 a month; feed, hay and bedding, $400 to $500 a month; shoeing, $200 a month, and maybe more with thoroughbreds; a good saddle, $5,000 (but the well-made ones last for 10 years, he adds.) “I don't think you can come close to estimating the cost of maintaining a horse, and you don't come close to understanding how fragile they are,” he says. “We'll get calls all the time — ‘I've just bought this horse and it's gone lame.’”

Those with a passion for horses don't seem to count the cost. And there are plenty of perks that go with ownership. “You're going to go to the track as an insider. You're going to be in the paddock. Most of the better partnerships will make sure you have prime seating,” DeLuke says. “It's also an opportunity to meet a lot of interesting people from all sorts of business, all walks of life.”

Thomson also sees a side to horse investing that gets overlooked by the bottom-liners. “He looks at you, he trusts you, and he gives everything he's got for you every time he goes to race. And that's neat to have,” he says. “When you put him in the race, he's going to go for it. If he's been trained right and he's healthy, he'll give you what he's got. You don't have to argue with him.

“Put that up against owning a stock.”