Is art really a good investment?

In her new book, our London-based art market editor argues that it’s just about the riskiest thing there is

By Melanie Gerlis. Published online: 06 January 2014

Can art be indexed like other markets?

Like many other art world outsiders, when I began working in the art market in 2005, after a decade of working with investment banks, private equity firms, stock exchanges and hedge funds, I was convinced that the rules of these financial players could be applied fairly easily to art, to produce a more efficient system of trading. Why couldn’t art be commoditised?

Nearly ten years later, I still hold true to some of my initial opinions: there is no reason for the art market to be as secretive and as distorting as a few controlling players would have it, and universally accepted practices—such as including the buyer’s premium (up to 25%) in official auction results but not in the pre-sale estimates, and then comparing one with the other as a measure of success—are at best absurd, and at worst highly misleading to the uninitiated.

I have also learned, however, that there is no universal “art market”: rather, there are several much smaller markets, each of which is comprised of an increasingly limited number of similar items, and which eventually drill down to one, unique object. Even when there are several items that are seemingly identical, such as editions of the same photograph or sculpture, each has a history of ownership, trading or exhibition that separates one ascribed value from another. Art is, quite possibly, the least commoditised asset in the investment universe, offering the potential for great returns but also—as is rarely explained by its market proponents—subject to enormous risk.

Although most of the literature to date on art as an asset has promoted its status as a good investment—a view that is fuelled every time a record price is made at auction—the jury is still out. The lack of transparency on prices (particularly from art galleries, which account for a good 50% of the market’s transactions, alongside auction houses) makes true comparisons to assets such as public equity, gold, property and wine very difficult. Even in the more opaque financial markets, such as private equity, there are considerably more data points from which to create indexes, assess risk and attempt to gauge returns.

It seemed to me that the best way to understand art’s distinct characteristics was through the prism of other such assets and industries, with which it is often compared, but rarely in depth. By looking at the characteristics that are shared and, more importantly, those that are different, this book aims to give a deeper understanding of a complicated and fascinating market. 

Art and stock markets

If you are an institutional investor trying to work out whether or not to put money into art (or if you are the private bank manager trying to explain whether or not this is a good idea), there needs to be some way of pooling the available data to quantify the asset’s performance. So, and despite all the essentially unmappable characteristics of art, market specialists have spent much time and effort creating indices that could (in theory) be compared with other markets. 

The main problem is that even these academically and mathematically conceived indices of art sales are built on data that is so limited and variable that they are like a tower built on very shaky foundations. 

In the continuing pursuit of liquidity in art, somewhat inevitably the idea has emerged of breaking up a painting into equal parts and selling each essentially de-risked part to investors while watching the value of the work go up or down, reflected by the supply and demand for each “share”. The aim is that these shares trade on an “exchange” for art that would provide daily prices of all constituent works and could eventually be a benchmark index for the value of all art—easy, right? 

So far, such attempts have yet to succeed (or at least there is no measurable proof that they have succeeded). The biggest (logical) problem with such schemes is that they could only really work if a work of art could be seen, primarily, as an investment. A business needs to be profitable to exist, to employ its staff, to buy its machinery, to market itself, to grow; it therefore makes sense that people should want to invest in its possible growth through shares. A painting can exist perfectly easily without generating any profit at all. In fact, the primary reason for which the average work of art is bought (an emotional response to its visual qualities) is completely negated by trading the work on an exchange. The biggest (illogical) problem with such schemes is that the art market is rather elitist about applying financial metrics to works. Not because of concerns that would-be investors could be disappointed; simply because—like a designer clothes shop that doesn’t display its prices—money somehow diminishes the greatness of art. 

Art and gold

One of the most interesting aspects of gold as an investment is how deeply it divides opinion. Those who are believers, known as “gold bugs”, define the metal as the purest, ultimate form of money. This is because individual currencies, known as “fiat money” (“fiat” being Latin for “let it be done”), are essentially IOUs. “I promise to pay the bearer on demand the sum of…” is printed on UK banknotes, “this note is legal tender for all debts, public and private” on US bills—both reminders that someone at some point might call in the debt. Gold is the only money without counterparty risk, emphasise its proponents. 

Others believe that gold’s role as a financial asset should be limited to the history books, and that its perceived price is merely relative (it is easy to draw parallels with the more recent digital currency phenomenon, Bitcoin). Gold today has very little use.

Many investors are “uncomfortable that gold is not ‘consumed’ like other commodities—it is not eaten or burned or forged, as food, energy or industrial metals would be”, explains Daniel Brebner, the former head of Metals Research at Deutsche Bank.

In many ways, this is a wise way to think about art: not as an investment that can go up in value, but as a rainy-day security (that hopefully also looks good on the wall). However, the combination of the art market’s illiquidity, opacity, lumpy supply and asymmetry of information undermines its security as an asset. This is underpinned by the unique qualities of each work, which can create enormous ranges of pricing and valuation, and open it up to greater manipulation. Although the pricing of gold is more subjective than for public equities, and its market’s regulation less secure, it is still, however, a much safer bet than art, as well as being physically more secure. This is largely due to the size of the market, which enables gold to be traded as a liquid commodity, regardless of its essentially function-free properties. 

Art and wine 

Like the art market, wine investment has received a reviving boost in the form of demand from new markets, after the credit crunch dampened enthusiasm elsewhere. Countries with new wealth and a growing middle class (in particular China, Russia and Brazil) have proved one of the most significant sources of confidence, at least, in both markets. Until late 2011, Sotheby’s had never had an unsold bottle of fine French wine in Hong Kong (where it began selling it two years previously), and in China, Lafite—known as “La Fei” in mainland China—soon became a brand associated with success. Helping the cause was a significant tax break: in 2008, Hong Kong cut its duty on wine from 80% to zero, making it one of the only places in the world where wine is untaxed (at the time of writing, the UK imposes a flat rate of £266.72 per 100 litres, for an alcohol-by-volume of between 5.5% and 15%, irrespective of value). Hong Kong also doesn’t have any sales tax.

That this came at the same time as the traditional wine markets of North America and Europe were wobbling from the effects of the long-drawn-out debt crisis gave some much-needed succour to the industry. A similar dynamic underpinned the art market between 2008 and 2011.

The threat for the art market—that the arrival of new wealth meant it went up in value too fast and needed to correct itself—hit the wine market first (as can be expected where liquidity is better). Demand for Château Lafite-Rothschild, which singularly defined China’s wine market, began to tail off in 2011. The Liv-ex Fine Wine 100 Index (which gives greater weighting to wines with the most supply on its exchange, so Lafite looms large) fell 4.1% in the nine months to 30 September 2011 and was down 6.4% for that month. Wine buyers in Asia are real, and have made a huge difference to the market, but they have their limits—and these seemed to be reached sooner than expected. The market began to mature fairly quickly after measured trading emerged. 

To read more, pick up our January 2014 edition, on stands now, ortake out a subscription and gain online access to the full issue.

Melanie Gerlis, The Art Newspaper’s art market editor (Europe, Asia, Africa), will be taking part in a panel discussion, “Is art really a good investment?”, at the London Art Fair on Friday 17 January at 1pm

Art as an Investment? A Survey of Comparative Assets, by Melanie Gerlis, published by Lund Humphries in the UK (priced at £30) on 17 January and in the US in February (priced at $60); ISBN 978-1-84822-134-5, 192pp (hb); also available as an e-book. For more, seewww.lundhumphries.com