Art funds return

By Felix Salmon
January 11, 2011
Heidi Moore, no less -- is running a long story about art funds.

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If proof were needed that the crisis is over and that we’re back to idiotic business-as-usual, then look no further than the fact that Dealbook—Heidi Moore, no less—is running a long story about art funds. These ludicrous creatures have strong claim to being the most ridiculous asset class in the world, no one should ever invest in them, and they invariably fail.

Heidi takes a disappointingly evenhanded “opinions on shape of earth differ” tone, presenting various art funds, and even the hilarious Art Exchange, with a perfectly straight face:

Proponents, like the art research firm Skate’s, are trying to legitimize the emerging movement by making the market more transparent and providing guidance to investors new to the art world…

By investing through funds, wealthy individuals can own art without paying the large fees and heavy taxes usually associated with full ownership. Some money managers claim returns can run as high 20 percent.

The field, with $300 million in assets, is small but growing. In Paris, the Art Exchange has plans to publicly list at least six pieces, including one by Sol LeWitt, and sell shares to investors. The Russian asset management firm Leader — controlled by close associates of Vladimir V. Putin’s — created two art-related investments. Last summer, Russia passed regulations to allow art to be turned into securities, the second country to do so after India. Noah Wealth Management and the Terry Art Fund are starting portfolios in China…

A handful of companies are trying to bring transparency to the historically shadowy, unregulated arena. Skate’s — founded by a Russian investment banker and entrepreneur, Sergey Skaterschikov — has set out to be “the Standard & Poor’s of art,” said its chairman, Michael Moriarty.

Most tellingly of all, the story comes with a highly-respectful portrait of Mr Skaterschikov by a NYT photographer. Heidi does gesture at reasons to be skeptical of this re-emergent market, but overall her piece is a ratification of the asset class, rather than the stern debunking it really deserves.

The first mini-boom in art funds came between 2005 and 2007; as Heidi notes, most of those funds have already cratered, less than five years after being founded. Anybody who invested in art funds last time around will have lost their money—and anybody who does so today will suffer the same fate. All art funds fail; the only question is when, rather than whether. I have never seen a single example given of an investor (as opposed to a principal) in such funds who has actually made money on his investment, and I don’t expect I will.

The silliest fund of all is the Art Exchange, which takes the concept of art-as-investment to its logical conclusion, and which is selling off shares in pieces by Sol LeWitt and Francesco Vezzoli at €10 apiece. It’s got to be the most stupid investment that anybody could ever make: the only way that it could ever be profitable is through the greater-fool theory.

Art is by its nature a negative-carry investment: you have to pay to store and insure it, but it pays no dividends and throws off no cashflow. As a result, the present value of a share of stock in, say, Sol LeWitt’s “Irregular Form” is equal to the amount it will eventually be sold for in the future, discounted by whatever discount rate you want to use. Except then there’s this, from the official Art Exchange brochure:

Simple exit conditions

In Art & Finance Service’s market, an artwork can only be removed from the marketplace once a single shareholder possesses all the shares.

This is essentially a guarantee that the artwork will never be sold. There are over 10,000 shares outstanding, and some of them will surely be bought on a lark by people tickled by the concept of owning 1/11,000th of a gouache. Trying to find those people and persuading them to sell their shares is far more trouble than it’s worth.* But since the piece will never be sold, the value of the shares, on any kind of DCF analysis, is clearly negative.

There is a case to be made that the wealth-management arms of big banks can and should have experts in the art market on staff. High net worth individuals often have a significant proportion of their net worth in art form, and that changes their risk profile. On top of that, they will occasionally want to borrow money against some or all of their collection. Their financial advisers should understand how the art market works and how much financial value there really is in the collection, over and above the pleasure that the collectors get from owning and viewing the work.

But if any adviser is asked about the wisdom of investing in an art fund, the answer should come clearly and swiftly: don’t even think about it. It’s all downside and no upside, and people who invest in such funds would always be better off just taking their money and buying an artwork they like instead.

*Update: Nicolai Hartvig reports that if an investor buys 80 percent of the shares, he or she can force the sale of the remaining 20 percent. But if an investor can buy 80% of a Sol LeWitt, they might as well just buy 100% of one outright, from a gallery.

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