The 1906 Monet painting entitled Nympheas was purchased in 1960 at a Sotheby's auction in London for $50,000. That same 35-inch by 35-inch oil on canvas resold at Christie's New York in 1999 for $22.6 million. That's works out to an average annual return of nearly 17 percent. In other words, the painting outperformed the S&P 500 by nearly 4.5 percent per year.
This isn't to suggest that art is immune from the vagaries of the economic cycle. It isn't. The same Monet resold — in what was rumored to be a margin call by its telecom executive owner — just three years later for $18.7 million. That's an average decline of 6 percent per year — still far superior than an investment in the S&P 500, which lost half of its value during the same period.
Many retail investors might have a hard time getting used to the idea that anything as hoity-toity as art can be a good investment. But museum-quality fine art is a legitimate asset class. So much so, that some brokerages have added fine art services to their private banking operations. UBS and Citigroup are two examples. Why? Their high-net-worth clients are coming to them, asking for independent advice on art.
Since 1960, art that has been auctioned in New York has outperformed the broad equity market, and with very little correlation to stocks, according to Michael Moses, associate professor at the Stern School of Business at NYU. Moses, along with his partner Jianping Mei, an associate professor of finance also at Stern, maintain the Mei/Moses Fine Art Index which has been tracking the sale prices of paintings, drawings and sculpture auctioned in New York City since 1875. Its purpose is to record broad trends in the high-end fine art market, provide guidance in determining appropriate purchase and sales prices and create a benchmark for investors to gauge their own performance.
The index is based exclusively on auction sales because, unlike private-party or gallery-base transactions, they are publicly available and verifiable. Once the piece is sold in New York, all previous auction sale prices then get picked up by the index, helping it to generate more refined performance numbers.
By tracking the price changes of specific pieces, Mei/Moses distinguishes itself from other art indices which may simply tally all sales and divide them by the number of pieces sold to generate an approximate year-over-year performance of the art market.
Nifty Numbers
While investing in established quality is normally essential for profiting in art, Moses has observed that “you don't have to buy the most expensive works to garner substantial returns. We have found that in over 4,500 instances of pieces sold after 1950 that the low-priced works tend to appreciate faster than high-priced ones.”
A good example: Picasso's 1932 Le Joueur de Flute sold at Sotheby's in New York for $7,700 in 1977. The same auction house resold the painting 25 years later for more than $254,000, reflecting an annualized gain of nearly 15 percent, almost two percent a year more than would have been earned by investing in the S&P 500.
In its semi-annual update, Mei/Moses reported that since 1960 through spring 2003, its broad index was up an annualized rate of 13.2 percent versus the S&P 500 average total return of 12 percent. Moses notes, however, that art investors confront greater volatility than the broad market offers, finding its annual standard deviation was 22.7 percent, 5.5 percent higher than the S&P. But as a means to diversify beyond stocks, Moses has found that the art index has a low correlation with equities — 0.098 on a semi-annualized basis.
Adriana Buckley, a financial market specialist based in London and associate director of the new Fine Art Fund, corroborates this view and adds that, “Paintings, for example, have a negative correlation with bonds and commodities.”
Attesting to the growing interest of art as an investment, the Fine Art Fund now makes it possible for qualified investors to participate in some serious acquisitions for profit. Minimum investment starts at $250,000, which advisors may raise through pooling various accounts. A two percent annual management fee will cover the costs of maintaining its network of buyers, advisors and in-house managers, along with a myriad of additional costs such as insurance and storage. It will seek to generate a dividend by lending the work out at annualized rate of 1.25 percent of its insured value.
Conceived by Philip Hoffman, a former KPMG accountant and deputy managing director of Christies London, the fund has already raised nearly all of the $70 million it needs to get underway. Approximately 70 percent of the equity is coming from investment banks, which will redistribute their positions to their high net-worth clients. The balance of its capital will come directly from private investors.
Designed to last 10 years, this Delaware-based limited partnership is expected to start operating by the end of year. It will spend its first three years investing exclusively in a variety of European and American canvases: 30 percent Old Masters, 30 percent Impressionists, 20 percent in Modern Art and 20 percent in Contemporary Art.
Paintings can be sold anytime after the third year when a profitable opportunity presents itself. And the portfolio will be liquidated entirely by the end of the 10th year. However, the fund can take up to an additional three years to wait for more desirable market demand before completing the sell off.
As a private placement, the fund shares are not readily tradable. However, after the third year, investors may attempt to privately sell their positions. To help assess their value and tax implications, the portfolio will be marked to market on an annual basis.
Pointing to the performance of the London-based Art Market Research index, which has tracked the sales of paintings across 800 auction houses worldwide since 1975, Buckley expects see annualized returns — before expenses — of between 10 and 12 percent.
Caveats
When purchasing art as an investment, an important caveat can be those pesky expenses. We are not dealing with virtual shares held in street name. Insurance and storage are real annual costs that can add up. An even greater concern is the cost of getting into and out of an investment. Auction houses typically charge between 12 and 20 percent for moving a piece. Dealers can take up to 50 percent. So knowing how to efficiently trade art is essential for realizing gains art indices suggest are available.
Toward that end, the Fine Art Fund is establishing key agreements to help reign in transaction charges to the single digits.
One way individuals can sidestep this issue all together is leveraging their investment. Mary Hoeveler, director of the Citigroup art advisory service, suggests borrowing on up to half the current value of a work can be an effective means of reinvesting profits without being hit by either high commissions or capital gains taxes.
While familiar with all aspects of art as an investment, Hoeveler is realistic about the risks. “If you're looking at art in exactly the same way as you would at shares, for example, I'd say art tends to perform as well as any very low-risk investment. However, it has all the volatility of a high-risk investment.”
Money managers looking to steer up to five percent of their high net-worth clients' portfolios into art would thus be best served by working with experienced advisors, and treating this foray into oils and sculpture and gelatin prints as a long-term play that will likely prove its worth.
But you'll need a new set of analytical lenses to figure out how you're doing, because unlike anything else in which you've invested, your Bloomberg will be absolutely no help to you.
