Art as a really alternative investment

abnormalreturns
October 11th, 2005

James Surowiecki, author of The Wisdom of Crowds, writes in the New Yorker the rise of fine art investment funds.

Art investment funds represent something of a revolution in the relationship between art and commerce. Art collecting has traditionally been the domain of wealthy individuals in search of rewards beyond the purely financial. (The economist John Picard Stein once quixotically tried to quantify these intangible rewards, deciding that they were equivalent to a return on investment of 1.6 per cent a year.) The new funds, by contrast, allow people with smaller bankrolls to play the art market by pooling their resources, and the only benefits are economic, since investors donât get to hang the paintings on their walls. In this scheme, art is just another âalternative asset class,â? like gold or wheat.

This “asset class” has been legitimized to a degree by a couple of academic studies showing that art has significantly outperformed bonds and has kept pace with equities. Not surprisingly these studies find that the returns from art are not particularly correlated with the overall capital markets. You can read the Jianping Mei and Michael Moses paper “Art as an Investment and the Underperformance of Masterpieces” here.

However just because an art fund is possible, does not necessarily make it a smart investment. Any art fund is going to have a number of expenses that will reduce the funds’ overall returns. In addition, the fund managers will undoubtedly not be working for free. To Surowiecki this rush of funds is a sign of a market top, “So the headlong rush to invest in art looks more like a fad than like a rational approach to making money. In some ways, it resembles the boom in Internet stock funds that swamped Wall Street in 1999, when investors were convinced that the only direction was up.”

A more reasonable approach to the art markets requires a little thinking outside the box. What organizations always profit from a boom in the art markets? Answer – the auction houses: Christie’s and Sotheby’s. Sotheby’s Holdings (BID) is a public company. While it has had a rough go of it over the past few years BID may be a worth a look, before diving into any of the new wave of fine art investment funds.