The fine Art of Investment – Laurent Noël

By Laurent Noël,

Strategy Professor at Audencia Nantes School of Management, France

Baumol, Goetzmann, Locatelli, Mei, Pesando and Shum: just some of the respected researchers who over the years have analysed the question of art investment. Far from the emotions produced by works of art, these experts have tried to understand what affects the price of a painting or sculpture and how best to invest in them.

The riddle everyone seeks to answer is how sound an investment is art investment, especially when compared to other forms of placement.

In early studies the focus was firmly on the overall art market and more precisely on painting. In this way, there was no attempt to make a distinction between styles and artists. In addition, research took account of a timeline of sometimes more than three centuries of art buying and selling. Clearly, the criteria were too vast.

More recently, this very general approach has been replaced by studies taking into account the constraints of certain specific art market segments and looking at shorter periods of time which show better cyclical market fluctuations.

In an attempt to evaluate the worth of art investment one technique is to measure the level of correlation between the art market and financial markets. Such research applies the theory of the Capital Asset Pricing Model (CAPM) to works of art therefore considered as “art assets”.

In practice, this means that a work of art must offer a minimum return greater than that of a risk-free investment and that it must be in line with the world’s stock market values. If these two requirements are met, investments in art can be considered as effective tools that can make a placements portfolio more varied.

The problem here comes from the very nature of a work of art: it is unique. In this way, it is the polar opposite of company shares which are issued in massive numbers. How can we therefore compare price trends of areas with such vastly different characteristics?

All the studies in the field carried out since the mid-1970s reach similar conclusions. Firstly, that whether or not comparable with risk-free investments, even in the equity markets, the rates of return of the art market are higher than inflation. However, investments in art are always more risky than traditional placements meaning that profits can be significantly lower or higher than the average.

Another widespread finding is that return on investment in art depends very much on the periods and art schools concerned. The most obvious way to approach this in terms of measurement would be to try to set up an index that allowed each ‘school’ or period of art to find its place on an investment range. Here, once again, the unique nature of artworks poses a basic problem. The very fact that each work of art is one of a kind makes it paradoxical to try to establish an index that would consist of goods with common characteristics.

Even the sources of data on art prices and profits do not lend themselves to a scientific analysis. The most obvious path would be to take account of auction house prices which are easy to track. However, the specific origin of this data raises several problems.

In reality, auctions only account for a minority of art market sales. Between 33 and 50% of the world’s fine art sales pass through the hands of these experts. What about sales made by gallery owners, antique dealers or even the artists themselves?

Added to this there is no indication that the public part of art investment that takes place via auction houses is representative of the whole. On the contrary, these public auctions tend not to concern the upper and lower parts of the market such as works which have disappeared from circulation after being acquired by museums or those which have lost almost all of their market value.

One big difference between classic stock market shares and art sales is the assumption that the selling goal is one of financial return. While this can be applied to financial markets such a notion does not reflect what really motivates those selling artworks. Sotheby’s auction house illustrates this point when it states that its business is founded on four main reasons for selling art:  death, divorce, discretion and debts. It could be argued that the profit aspect can be found in the term ‘discretion’, but even if this is conceded return on investment is far from being the only motivation for selling. It seems to be rather life’s ‘accidents’ that push owners of artworks to sell.

Such a complex and shifting environment means that choosing fine art as a principle means of investing is far from simple. Care then needs to be taken over what kind of artistic production is concerned. In this way, investments should be made in niche art sectors where the level of quality is accepted by all. It also means buying art that is at least several decades old so that the views of the market (high prices) and of museums (exhibitions) converge to create wider buying interest. Works that are not acknowledged as classic and those yet to be recognised as such belong more to the unstable market of contemporary modern art. This means that very recent works cannot claim to be safe and liquid securities. As a result, prices might be disconnected from basic artistic value.

Perhaps the best policy to adopt is that of the collector. Collections of a certain branch of art have proved themselves to be very strong in terms of return on investment. Several factors explain this success. The collection is overall a guarantee of quality and highlights a selectivity that appeals to buyers. What is more, if the collection is a large one then few other works from the school of art in question will have been brought to market recently. This makes the collection to be sold more attractive due to the comparative rarity of what is being offered.

Art, like fashion, is a volatile environment which can scare off investors who seek to impose wide-ranging investment rules on a world that cannot be easily generalised. However, for those with the patience and passion to build up a stock of desirable and well-targeted works it can be a means of adding a new angle to an investment policy that otherwise risks being too closely tied to the moods of the world’s stock markets.