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Art is not an investment, but unfortunately investment is an art
Someone from the art world or the money world, or both, is always making the case that art is an investment, not just an adornment. It is not only a store of value; it creates wealth over time, they say. Sotheby’s fine art index pegs the compound annual growth in nominal art prices between 1950 and 2021 at 8.5 per cent, well ahead of inflation. Banks and consultancies turn out reports tracking the growth of the art market and discussing its beneficial contributions to a diversified portfolio. Art, in short, is positioned as the best of the esoteric asset class, a group that includes wine, stamps, handbags, trainers, and so on.
These pitches are generally treated with the scepticism they deserve. Talk face to face with someone in the art game — one who is not trying to sell you something — and they will very likely press upon you the folly of buying art with the expectation of gains, and that only the work of the very best artists can even be counted on to retain the value paid for it.
Academic studies on the topic broadly agree with the sceptics. Few if any large high-quality studies find that the art market, however you slice it, can provide returns as high as equities. One large study, which tried to extend beyond the standard technique of tracking repeat sales of the same artworks, found annual real returns just shy of 4 per cent between 1957 and 2007, on par with corporate bonds, but with much higher volatility. Another author surveyed 13 studies of painting and prints, which found annualised returns between 1 and 5 per cent. One study, covering Picassos only, found 8 per cent returns. Again, the author, Benjamin Mandel, found that:
In terms of volatility, art unambiguously has the highest variance of all assets, up to twice or three times that of the Dow Jones industrial index or corporate bonds. Thus, given low average real returns, art is often a dominated asset [eg an asset that will always provide a worse return than some alternative] in a portfolio that seeks to maximise returns and minimise variance.
The debate over returns and portfolio benefits of art is not closed. The measurement problems in the field are too great for that. The intervals between prices observations are often many years apart, the repeat-sales methodology is limited, different sub-markets behave very differently, and so on.
For example, on the key question of whether the highest quality artworks — that is, the most expensive ones — have the highest returns, studies disagree. Renneboog and Spaenjers find that “the annualised real return at the 95th [price] percentile is almost five percentage points higher than the return at the fifth percentile.” On the other hand, the much-followed work of Mei and Moses on art prices from 1875 to 2000 found that:
Our . . . estimate on the American artworks indicates that a 10 per cent increase in purchase price is expected to lower future annual returns by 0.1 per cent. Moreover, our results are robust to whether nominal prices or real prices are used in the regressions. Thus, our study seems to suggest that art investors should buy less expensive artworks at auctions.
Mei and Moses explicitly tie their findings on outperformance by cheaper artworks with the “small firm effect” in stock markets.
Given what we do know, however, there seems to be no pressing reason for wealthy families to add art to their portfolios of stocks, bonds, and real estate, unless they also enjoy looking at it, or using it to impress their friends and enemies. The best that can be said for sure is that owning fine art might not be a big financial mistake.
But the interesting question is not the degree to which artworks can act like a financial asset. It is the degree to which financial assets, especially stocks, often act like artworks.
Don’t scoff. One might insist that the future value of artworks is essentially inscrutable. Buyers of contemporary art, for example, can’t know who will be a future Warhol or Basquiat, and who a forgotten also-ran. Remember the poor reviews for Monet and Degas in the early 1870s (“a chaos of indecipherable palette scrapings”). Recall, however, the work of Hendrik Bessimbinder on equity markets. Over time, a tiny number of super-stocks account for the majority of stock market returns. Stock pickers, like art investors, are hoping they find a Basquiat — that is, an Apple — at the right time. Yes, in stock markets the problem can be solved with diversification and indexing, but probably not in art (though some are trying). The point is that the inscrutability we all attribute to the future of art prices is a characteristic of stock prices, too.
Surely stocks have a fundamental their stock prices can revert to — dividends or, failing those, free cash flow? The same problems apply. Collectively, the stock markets revert to the fundamentals. Those indices, however, contain plenty of big stocks whose prices are linked to fundamentals loosely, or not at all.
Most important, there is a very good case to be made that stock prices, like art prices, respond in the first place to changes in wealth — or if you prefer, liquidity — and in particular the wealth or liquidity owned by the richest decile. In any study that explored the relationship between art and equity prices, Goetzmann, Renneboog and Spaenjers find that equity returns, especially capital appreciation (as opposed to dividends) have a big impact on art prices, and that widening wealth inequality supports art prices, too. They write:
The price of an art object is only limited by how much collectors are willing and able to pay for it. Higher incomes can be expected to lead to higher art consumption, and thus to a higher price level in the art market. However, given the relatively limited supply of high-quality art, average buying power may matter less to the determination of high-end art prices than how much money the wealthiest members of society can spend.
It is amusing to substitute, say, “Nvidia shares” with “art object” in that paragraph. One might even remake the first sentence with 2001 and 2007 in mind, and say: “The price of a stock market is only limited by how much investors are willing and able to pay for it,” and go on from there.
More seriously, Goetzman et al argue that art price changes are largely a function of wealth concentration. This is not far from saying, following Mian, Struab and Sufi, that inequality has contributed to the rise in the values of financial assets held mostly by the rich (and correspondingly the debt held mostly by the poor). Nor is it far from saying, as so many have in recent years, that the Fed has inflated asset prices artificially by forcing more cash on to investor balance sheets than investors want, forcing them out on the risk curve (perhaps as far as the art market).
The stock market and the art market are not the same. The stock market is the better bet. But for all that, there is a lot more of the mystery, irrationality, and inequity of the art market in the stock market than we like to admit.
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