J.P. Morgan on Investing in Art

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Beautiful Asset Advisors/Mei Moses Fine Art Index recently noted a J.P Morgan paper on investing in art where their index and investment return data was used.

The J.P. Morgan report does note the growth in fine art as an investment, especially in emerging regions such as Asia and the Middle East, but also notes in addition to the upside as an investment, there is also the problems of illiquidity  high object costs and market transparency.  The report also notes the two main methods or measuring returns, inlcluding repeat sales, which is what BAA/Mei Moses bases their findings upon, and hedonistic models which includes characteristics and quailities of the work.  One of the downsides of the reporting methods is most only use auction results, and not private or gallery sales.

The J.P. Morgan report states

Gaining Exposure

Investors may look to gain exposure to art through funds. Funds that specialize in art works remain few, though that number has grown in recent years, as global interest in art has steadily increased and investors sought out higher performing investments in an ultra-low interest rate environment. It is estimated that the global art fund industry is approximately $700 million with over 40 unique art funds.6 Not surprisingly, about a third of that number is located in Asia, with China fueling most of the recent growth. Art funds vary in terms of structure and strategy but are generally defined as privately offered investment vehicles that seek to generate returns through the buying and selling of works of art. In such a model, investors typically do not have input into the acquisitions and rely solely on the investment manager. Most funds have a defined investment period and pre-determined liquidation date, in which all art work must be sold. This can be seven to ten years depending on the fund. Minimum investments for these funds vary, with several starting at $250,000.

Institutional investors, such as pensions and endowments, have historically been reluctant to invest in art or art funds. The British Rail Pension Fund (Railpen) is widely considered one of the first institutional investors to allocate money to a fund of art works. In the mid 1970s, about $70 million, or about 3% of Railpen's capital was invested in approximately 2,500 works of art. This collection included a wide range of works including paintings, manuscripts, furniture and ceramics. Railpen was reportedly able to deliver an annualized return of 11.3% in their art allocation from 1974 to 1999. Critics, however, were quick to point out that most of the returns came from just a few works that were sold at a very good time in the market. Despite the return potential, institutional investors have largely kept out of the market. It is worth noting, however, views on alternatives have evolved significantly over the last several decades and will continue to evolve. What most fiduciaries today consider "mainstream" alternatives: namely, hedge funds, private equity and real estate, weren't always considered mainstream. Today, over 22% of institutional investors' portfolios are in such investments, a significant increase from just a few years ago.7 Whether or not art will be accepted as a viable alternative asset remains to be seen. However, given a low interest rate environment for the foreseeable future, unease about the global equity and bond markets and chronic pension funding shortfalls, less mainstream assets like art may draw more attention among institutional investors seeking greater return and diversification potential.

Conclusion

The art market has undergone significant changes over the last several decades. Newly acquired wealth in emerging economies has globalized the market in many ways, giving the market much needed depth and resiliency. Studies have shown relatively strong returns over extended periods of time, and recent risk-adjusted performance looks comparable with other traditional asset classes. Low and even negative correlations with equities and fixed income suggest an allocation to art can potentially diversify one's portfolio. In addition, solid returns during periods of high and rising inflation indicates that art can be an effective hedge against inflation. Performance measurement of the asset class is not without limitations and assumptions which should be considered when looking at historical returns.

Source: J.P. Morgan