art as investment: promise & perils

The market for Indian contemporary art is getting hotter and hotter, with prices rising unabated especially for the top names such as FN Souza, SH Raza, MF Husain, Tyeb Mehta, Ramkumar, Akbar Padamsee and J Swaminathan amongst others that make up over 60% of the frenzied buying at auctions. World records are tumbling at every successive sale and new price benchmarks are being set with uncomfortable regularity. Sellout shows and spectacular tales such as the Tyeb bought for three thousand rupee and sold for three crores at public auctions are making front page news. As a result, the idea of investing in art is gaining traction, and giving birth to a new breed of investors and art funds eager to profit from this new found ‘asset class’. This tells you where we are in the cycle of the Indian art market right now i.e. the speculative phase

However there are many questions that arise. Can art be considered at par with other financial assets like stocks, bonds, gold or even real estate? Is there an asset allocation model applicable to art? What are the factors that drive returns in art anyway? What has been the genesis of art funds and more importantly, what are the lessons learned?

We will discuss these and other questions in this multipart series on the promise and perils of art investment and art funds. In this article I am sharing a macro overview of art investment by highlighting a few defining moments across four decades from the 70’s onward to see what we can learn from history.

1970’s and the British Railway Pension Fund
To understand the perils of art investment it may be worth examining one of the earliest and arguably the most successful and sophisticated example in the past 30 years - The British Railway Pension Fund. Plagued with double digit inflation rates in the mid 70’s, British Rail decided to diversify its pension assets and spent close to $100 million on art buying at the markets low moment (as a direct result of the 1974 oil crisis).

The fund realized $300million when it sold mostly between 1988 and 1990 at the markets highest point in the 20th century. The fund had invested across 20 categories in everything from impressionist and modern art to Chinese art and European sculptures. It was considered to be the perfect hedge. Moreover, through the entire process they had seasoned professionals and sector specialists from Sothebys advising on what to buy and when to sell. Despite all of this, the result was an unflattering return of 13.1% per annum which was far less then equities during the same period.

On closer examination of its investments you find that only about a third of the works actually made money and most of those were impressionist paintings. The key takeaway here is that despite buying low, selling high, having a good team, a flexible approach and a diversified portfolio, it was just as much about luck than smart investing because they sold when the impressionist market was still booming. Had they waited a few more years, even the modest 13.1% return would have not been forthcoming.

1980’s and the Japanese Invasion
For five years from 1986 to 1991, the Japanese yen flooded into art investment only to end in tears when the market crashed in 1990’s over the Kuwait oil crisis. The late 80’s saw major corporations from across the world lavished huge sums of money on what was then a tiny market. The Toyota Motor Company plunged $508 million in art; the Itoman Mortgage Corporation threw in another $521.5 million on 7,300 paintings from Renoir to Picassos. Even companies like Chase Manhattan, NY entered with a $300 million art fund, Morgan Grenfell with its $25 million Greek & Roman Fund, Amedeo Corporation of Brunei, Deutsche bank art fund in Frankfurt all entered the playing field with a lot of money power behind them, Art insiders like Sothebys and Acquavella invested over $140 million dollars in 1990 and are still seeking to make a return.

So where did the Japanese and so many other heavyweights go wrong? Those who analyzed what happened then say that the Japanese broke the three cardinal rules of safe investing;

1. Buy only top quality not the third and fourth rate
2. Do not push the market beyond what it is willing to pay
3. Do not buy at the peak of the market and never sell to quickly

1990’s and Banque Nationale de Paris (BNP)
Yet another example worth citing is the fund created by Banque Nationale de Paris (BNP). They spent over $13 million between 1989 and 1991 (the height of the art boom) on 28 French paintings and drawings by masters such as Cezanne and Courbet and close to $9 million on 60 Italian drawings. Like British Rail they too had specialist advisors of repute on their roster. Shares in the two collections were sold to hundreds of clients who would split the profits when the works were sold but when BNP disposed the collection in several sales at Christies between November 1998 and January 1999, the result was a net loss reportedly of around $8 million. So what went wrong here? In this case it was clearly a timing issue. It is reported that the market for old masters was very bad at the time of the sale but the fund had to divest after 10 years as part of commitments made to investors. The lesson here is that no one has a crystal ball to be able to time the market to perfection. Success lies not just in knowing what to buy, when to buy and how much to pay but also when and how to sell. For most people the later is the harder part to get right!

2004 and Picasso’s Garcon a la Pipe'
The last example worth putting into perspective is the spectacular sale of Picasso’s Garcon a la pipe'. This painting was purchased by Betsy and John Hay Whitney in 1950 for $30,000 fetching $104 million 54 years later at Sothebys on May 5th 2004 making it the most expensive painting ever sold in a public auction.

At an absolute level $104 million sounds like a astronomicaL figure and it is. However, when you do the math and look at it purely from an investment perspective, what you get is a yield of 16.05% (compounded average growth) over the 54 year period that the painting was held. While this rate of return is certainly good, it is not an outlier by any means. In fact had the Whitney’s invested the same amount in IBM stock and held it over the same period, they would be financially better rewarded. So for those who think art is the next gold think again!

By examining and assessing the past perhaps we may be better equipped to make decisions that will have bearing on our own future. To be continued....