Art Funds

Just yesterday I posted on 10 must know points about the current art market, with one of the points being interest in art funds will continue to grow.  Baron's recently published an article stating there was shrinkage in the number of funds with 72 globally, with a peak in 2012 of 115.

The Baron's article also states that art fund assets being managed has dropped by 40% since 2012 to an estimated $1.3 billion. It states part of the reasons for the decline is a lack of confidence due to poor financial regulations, although that appears to be changing. The last sentence sums things up, with a note that art funds are in decline, but its not terminal.

Baron's reports

There’s a shake-out under way among art funds, vehicles that invest in art and have hedge fund-like structures, high fees, and long-term lock-ups. Through the end of June, there were an estimated 72 art funds globally, with 55 in China and the rest in Europe and the U.S. That’s down considerably from the peak of 115 funds recorded in 2012, 90 of which were in China.

Assets under management also have declined, by some 40% since 2012, to an estimated $1.3 billion, according to a recently released report by London-based ArtTactic, a market research firm, and Deloitte Luxembourg.

“There is mixed confidence. There is a positive trend for art and wealth management, and a negative trend for art as an investment,” says Adriano Picinati di Torcello, Deloitte Luxembourg’s advisory and consulting director.

That’s probably because the unregulated art market and strong demand for art funds has attracted some scoundrels. Earlier this year, the Autorité des Marchés Financiers, France’s SEC equivalent, announced that it would bolster its scrutiny of nontraditional asset funds. The AMF said it would verify “a posteriori” that all risks attached to these investments are outlined.

The authority’s move came after an entity known as Marble Art Invest promised hundreds of investors a 16% per annum return on the resale of artworks, which, the French regulators noted, was “unrealistic in light of current interest rates.” The AMF fined the founder of the art fund one million euros ($1.3 million).

The U.K. has imposed similar regulations on marketing materials for “unregulated collective investment schemes.” Closer scrutiny in China revealed that 80% of the Middle Kingdom’s art funds were apparently finance vehicles for other investments; some even leveraged artworks to fund real-estate deals. China’s Ministry of Finance and others are working on a new regulatory framework for the rapidly growing Chinese art market. U.S. regulators have been quiet because the U.S. art fund scene has been quiet, too.

Perhaps it’s no surprise that the ArtTactic and Deloitte 2014 Art & Finance report cites “tougher regulation on transparency and marketing” as partly responsible for the waning supply of new funds, which, in turn, is “hampering confidence” with investors. Maybe so. But we expect that, once the hustlers have been chased from the scene, new regulation and oversight will create a second wave of art funds.

That’s because demand is still there. The Art & Finance report said that 20% of surveyed wealth managers had seen increased demand for art funds in the past 12 months, compared with 30% in 2012. Yes, that’s down from the previous year’s level, but still fairly robust. Furthermore, some 10% of the wealth managers’ clients will consider art fund investments, with 28% of art collectors also game. That sounds like pretty healthy interest to us, considering that art funds are a tiny subset of the hedge fund and private equity investments that account for just 14% of all portfolio asset allocations. So expect the reputable players to grow and spawn some quality new competition.

Phillip Hoffman is the founder of London-based Fine Art Fund Group, which has about $350 million in assets under management—more than a quarter of the total assets parked in art funds worldwide. Has demand for what he is doing cooled? Not at all, he insists. In fact, the Fine Art Fund Group could hit $500 million in assets by the end of 2015, with much of that growth coming from endowments, pension funds, and wealthy individuals who want their own funds. He’s also partnering with Chinese investors who want to establish new art funds that will comply with expected regulations.

The Fine Art Fund Group’s first fund, which matures in the next couple of years, has already returned initially invested capital to its investors. Real returns will come from the sales of the remaining assets. Says Hoffman: “We reckon 9% to 10% compound annualized growth. We’re never going to match the big private equity funds, but art funds are more about [portfolio] diversification.”

Not a bad return, in this environment, and the diversification pitch always sells well with the private banking crowd. So look for more growth in art funds in the medium term. “Regulation on one hand can be very good,” observes Deloitte’s di Torcello. “It builds investor confidence and requires more information disclosure. So we will get a more regulated product, which means nonprofessionals will get out of the market.”

In short: Art funds aren’t in terminal decline. They’re getting their act together.

Source: Baron's