Art as an Alternative Investment Asset III
Investing in art has multiple benefits. Art has several attractive return characteristics for a long term investor, including low correlations with other asset classes and that it holds up well during weak economic environments. Unlike stocks and bonds, art prices tend to have a positive correlation with inflation. The greatest risk involved in investing in art is that there is low transparency into the market. The art markets inefficiency is what makes investing in art so difficult. Expertise in the art market and knowledge of surrounding tax issues is scarce and valuable knowledge. The art market is driven by the following attributes:
•Art is a heterogeneous asset. There are few pieces of art of a specific author traded each year despite the number of fairs and auctions in the market.
•Market transparency is low.
•There are large differences in expertise between buyer and seller. •There is low liquidity.
•Transaction costs are far higher than other markets.
•There are psychological benefits of owning arts, which are not calculated in the case of owning other financial assets.
•The art market has a much weaker equilibrium process than other securities.
•For dead artists, elasticity of supply is equal to zero.
•The inventories of stocks can be substituted by other securities, but each individual work of art is unique.
•Monopolies with art do exist – mainly for owners of art.
•The equilibrium price is unknown, so an objective evaluation (for example the present value of future cash flows) is often impossible.
The value of an artwork stems from multiple factors, it is tied to, for example, the rising demand for artworks and increasing prices, which is driven by increasing global wealth. Value of artworks is constantly changing so one must be aware of artists’ markets when buying.
Social changes in taste and the way art funds are perceived can make or break them. Many private collectors have banded together against the notion of investing in an art fund, thinking it ‘unethical’ as they believe collectors should buy what they love and not confine themselves to limited areas of art and artists. The excitement to them comes when they find that ‘fantastic’ piece. Collectors are less likely to invest as they feel they need control over their purchases and want some sort of quality control.
The entering of more art funds into the market will create volume and greater choice for investors, all positive things for investors. As the concept is fairly new, time, has presented the gravest concerns for investors, track record will be corrected with the increase in competition. With more competition comes more public financial support which will help establish investor confidence.
While the returns on art may not always beat the stock market and art may not always be the fastest growing asset, when measured against spending on rapidly depreciating alternatives, it’s a great asset and provides valuable portfolio diversification. There is a value of putting a portion of ones asset into art, as the art market has echoed the stock market over extended periods. Different kinds of art investments offer radically different risk return profiles. Buying the works of contemporary art, such as brand new ‘undiscovered’ artists is a high risk/potentially very high reward approach.