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Think you’re buying the next Picasso? Art investing caveats

Art has become an asset class that can offer significant returns … if investors choose the right piece. It is also a potential minefield of hype, illiquidity and fraud

In 2017, Leonardo da Vinci’s Salvator Mundi sold for about $600-million and remains the most expensive piece of art ever sold. But there is only one Salvator Mundi , and those who invest in fine art without doing their due diligence may be in for a surprise if seeking to sell.
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Art is not only exciting and beautiful, there can be significant financial advantages to investing in fine art that are not seen in many other asset classes.

Works of art have a low correlation to other financial assets, like bonds or stocks, offering the investor further portfolio diversification. Fine art can provide a hedge against inflation and currency devaluation and often receive favourable tax treatment. Art can also garner decent returns over the long-term.

According to a recent study by Citi Global Art Market, contemporary art (meaning art produced after 1945) has offered an annual return of 14 per cent over the last 25 years, versus a 9.5-per-cent annual return from the S&P 500. Citi noted that the broad art market rose at an annualized rate of 5.3 per cent since 1985 in a 2019 report . Other reports suggest lower returns than equitie s but higher returns than bonds.

“I think there’s just greater awareness about art as another asset class,” says Bonnie Brennan, president of auction house Christie’s Americas. The pandemic was also a driver of interest as it was a time that saw many collectors at home with their art and, “there was an increased energy and enthusiasm, not only to buy, but also reviewing their collections and thinking about where they might want to sell to upgrade,” adds Brennan.

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While the idea of buying a painting from the next (but still unknown) Picasso is possible, it is incredibly rare, which is why experts advise potential art buyers and collectors to buy primarily with aesthetic reasons in mind. They also recommend having research done before a big art purchase and taking steps to ensure the pieces purchased have long-term viability because, like any significant investment, an art purchase can come with risk.

For years, many have shied away from the idea of art as a new asset class because it is unregulated and illiquid, but perhaps its most risky property is that the valuation of art is often driven by hype and this can equal serious risky business, as one New York gallery found out.

A gallery’s downfall

Knoedler and Co. gallery opened in 1846 in Manhattan and was a renowned dealer of Old Masters paintings in its early days. In 2004, an American couple paid $US8.3 million for what they thought was a Mark Rothko piece and upon discovering it was a fake, the couple kicked-off an investigation that would eventually see the gallery at the centre of a more than US$80-million forgery scandal. This led to the gallery’s downfall in 2011 after 165 years in business.

These are sensational circumstances, but forgeries and shady dealings are not unheard of in this largely unregulated market, so there is a level of caution and some mitigating steps that need to be taken when it comes to transacting in the art world, explains Brennan.

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“I think one is getting good advice.

“The second is buying from trusted sources. I always tell people, ‘If it’s too good to be true, it usually is.’”

The illiquidity of this asset is an important consideration, as paintings and sculptures are not as easily traded as other investments. Because of this, the asset’s appreciation will not necessarily happen overnight, but neither will the crashes, explains Doug Woodham, managing partner of New York-based Art Fiduciary Advisors and author of the book, Art Collecting Today .

“When you think about the stock market, it’s so easy today to buy an S&P 500 Index, an MSCI weighted index. You, as an investor, can buy that and [there’s] a very good chance over time that investment is going to increase because you’re buying a diversified portfolio of the market.”

“There is nothing like an index in the art market,” he adds. “If you want to get exposure to the art market, you’ve got to buy objects. There’s no index you can buy.”

Due diligence

More and more wealth managers are considering art as its own asset class.

But the effort it takes to make a lot of money from an art purchase might be something only a select few can afford.

There are people “who devote an enormous amount of time to following market trends, to buying from certain galleries, having great advisors who are really looking for this to be an alpha generator for them,” explains Woodham. “That takes a level of seriousness, a level of capital, and an access to expertise that 95 per cent of those who are collecting don’t have access to.”

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Although headlines about paintings that sell in auction for millions can lure in those that think they are going to make a big return on an art investment, Woodham says this is a rarity and should be treated as such.

“I think sometimes people are under the faulty impression that most of the art objects that they may be fortunate enough to be able to buy are going to rise in value, so they don’t have to worry as much about risk,” he says. “Totally a wrong way to think about it. Investing in art is extraordinarily risky.”

One such risk can come from objects or artists dropping out of public favour. Take ivory, for example. After the Obama administration placed a total ban on the material in 2016, collectors who owned pieces that did not meet the exemption requirements (such as being more than a century old) were left with objects no one wanted. Before the motion passed, it was estimated by collectors and dealers that century-old carvings, worth almost US$12 billion, would be rendered worthless as their age would be too hard to determine. In fact, international auction house Sotheby’s refused to sell anything ivory in the months leading up to the ban.

Advice from the next generation

While it can be difficult to predict moves like these, it might prove helpful for collectors to get input from a younger generation on a collection to help make it relevant for decades and retain its value over time, explains Adriano Picinati di Torcello, the art and finance coordinator for Deloitte.

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“What we have to keep in mind is that art is a legacy of our cultural heritage … so to ensure the long-term viability of the collection is to make sure the next generation is involved in the decision-making process, meaning the collection will evolve with the heirs,” he says.

Picinati di Torcello says that while he is not in the business of recommending whether people take on art as an investment, if this is the route people take, then art and collectibles must be given the same care and attention as other asset classes. This includes ensuring you have the proper record and right valuation for your collection.

He adds, “Our recommendation, especially for newcomers in the art world, is to look for advisors that they can trust, to help educate their eyes and their taste, and someone to be impartial.”