Family offices and (U)HNWI’s may consider investing in works of art to diversify their portfolio’s or to use their art collections as a financial tool (i.e. as collateral for a loan). If you are a family office about to dip your toe in the art market there are two things you need to keep in mind. Firstly, don’t underestimate the unusual characteristics of the art market. Secondly, in order to navigate the market successfully, you’ll need to set clear expectations with your art advisors.
1 The art market is unlike the financial markets
Although the art market may be similar to financial markets in principle, it is very different in practical terms, partly due to its unregulated and opaque nature. Aside from the fact that art is an illiquid asset and risky from a title and authenticity perspective, your biggest problem as an investor is a lack of reliable price data. The generally accepted estimate is that about fifty percent of art transactions are conducted at auction and the remaining fifty percent through private sales and galleries. Although auction results can be found online in price databases such as artnet.com, numbers for private and gallery sales are not readily available.
Additionally, auction records alone are not sufficient for determining an artwork's currentmarket value. For example, a painting may have generated an unusually low hammer price because it has been unfavorably restored or had been offered at auction and failed to sell a year earlier (collectors and dealers like artworks that are ‘fresh to the market’). This may lead you to believe, mistakenly, that the similar painting you want to buy is worth less than it actually is. Artworks are not traded as frequently as stocks or bonds. It can take an entire generation for an artwork to come back to the market. Therefore, repeat sales are not always available nor relevant.
Lastly, many investors don’t realize that the record prices achieved at the major auction houses are not representative of the middle and lower ends of the market. The fact that Picasso’s ‘Plant de Tomates’ sold for just over GBP 17 million (incl. buyer’s premium) at Sotheby’s earlier this month, does not mean that all his works do, for reasons beyond the scope of this article. Therefore, although analyzing the numbers is absolutely helpful in understanding the part of the art market you want to invest in, it does not paint the entire picture.
2 Managing expectations with your art advisor
Another unfortunate result of the unregulated nature of the art market is that anyone can call themselves an art expert. You don’t need certificates or licenses to operate as an art advisor, dealer or broker. There are many competent and honest art professionals out there but as an investor it is not always easy to tell the difference. You need to do your due diligence and ask questions.
You need to know, for example, whether your advisor, dealer or broker has a conflict of interest in relation to the transaction they are advising you on. Is your advisor also acting on behalf of the party on the other side of the transaction? Transaction and holding costs for art are exorbitant at the best of times so you don’t want to lose money as a result of undisclosed commissions. Does your art advisor receive a kickback from the auction house they referred you to for the sale of your collection? And is the person who appraised your art also interested in getting the work on consignment? If so, they may be incentivized to lowball your appraisal.
You need to ensure that your advisor acts in your best interest and if they cannot, for whatever reason, they should disclose this. Managing expectations from the start will avoid disappointment later on. If you are working with a professional, they will have consignment and advisory contracts that clarify the terms of your agreement, includingbut not limited to commissions, duration of the agreement and who pays for expenses. It may be worth hiring an art lawyer who is familiar with the peculiarities of an art transaction, particularly if a lot of money is involved.
This article was written for Family Office Elite's Art and Museum Spring Edition 2017.