Diversifying your investments isn't just about wisely balancing your portfolio between stocks and bonds. Alternative assets such as fine art might have a place in your portfolio as well.
Art collecting and investment is no longer limited to the wealthy elite. If you’re interested in art, then you can diversify your assets and even find something nice to hang on the wall. At the very least, your investment will look a heck of a lot better than a stock certificate.
The art market is not highly correlated with the stock or bond markets. That's exactly what investors should be looking for when diversifying their assets. No matter what the financial markets are doing -- moving up or trending down -- the art market isn't affected very much. While both stocks and bonds were declining in the first half of 2022, art auctions were setting new record prices.
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In 2020, the art market faced a challenging environment when in-person auctions were canceled due to the COVID-19 pandemic. Turnover in contemporary art fell 34%, and many auctions and galleries shifted online, which helped things bounce back. Turnover and transactions reached a new all-time high, and more artworks were sold than ever before.
As we face the highest inflation rates we’ve seen in 40 years, art can serve as a good hedge against inflation. People with a lot of cash on hand are looking to buy hard assets such as art or real estate to protect their wealth. As a result, we’ve seen strong increases in auction values during recent high inflation.
The trend bodes well for the future of art as an investment. Still, investors should be wary of being enticed by the high returns they could theoretically earn by investing in fine art.
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It's possible to generate positive returns from investing in art by being selective, diversifying your collection, and holding pieces for the long term. Art investors should expect returns more comparable to those of bonds and not the market-beating returns touted by the art indices.
When you invest in a piece of art, you're buying it with the expectation that demand for that piece or similar pieces will increase faster than the supply. If that happens, then the value of the piece will increase, and you may be able to sell it for a profit.
Various other costs to consider with the purchase and sale of artwork include sales tax, transportation expenses, authentication and appraisal fees, and insurance. You may also want to buy a nice frame or another type of display mechanism for your artwork.
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You can easily find art to purchase at galleries and auction houses (both physical and online). You might also check out local art fairs. Online magazines and social media channels such as Instagram can help you discover artists you like, and you can buy works directly from artists’ websites. Or you might dive into the world of NFTs, which represent ownership of digital art.
Importantly, if you're going to buy individual works of art, you probably want to buy works that make you happy. If you invest $10, 000 in a painting that you think is ugly just because you expect its value to rise, then you're missing out on the fun part of investing in art versus other asset classes.
If you don't want the hassle of owning a piece of art, it's still possible to invest in artwork without taking possession of the physical asset.
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Art funds, which are structured much like other investment funds, allow investors to partially own pieces of art. MasterWorks, for example, is a fund manager that acquires blue-chip art at auctions on behalf of its investors. It creates a holding company for each piece of art to acquire it, store it, promote it, and resell it for profit. It registers the company with the Securities and Exchange Commission and issues shares to people who want to invest in a specific piece of art.
Securitizing artwork in this way makes investing in art more accessible and the market for the artworks' shares more liquid. Investors can buy and sell shares much more easily than buying and selling the actual pieces of artwork.
Firms such as MasterWorks conduct the research to identify artworks with a good chance of increasing in value, and they oversee the maintenance required to keep the artworks in pristine condition. However, their investors pay a fee for the service, and they don't get to physically take possession of the art.
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Unfortunately, there is no such thing as an art exchange-traded fund (ETF) or mutual fund. Focusing an ETF or mutual fund on art is impractical due to the illiquid nature of the art market. Art's singularity and inherent scarcity prevent fund managers from simply buying more Renoir or Basquiat paintings to satisfy increasing investor demand. Similarly, if many shareholders of an art fund wanted to redeem their shares, then the illiquidity of the art market would prevent the manager from easily selling the fund's assets.
Firms such as Sotheby's and Christie's that sell art as investments will often cite Art Market Research's Art 100 Index to justify their starting bids. The index, which tracks sales of 100 artists across various regions, styles, and periods from 22 auction houses around the world, can convey a broad sense of how the global market for artwork is performing.
In 2018, Artprice launched its Artprice100 Index, which focuses on blue-chip artists. The company says the index grew at an average annual rate of 8.9% from 2000 through 2017. Meanwhile, the S&P 500 grew at less than half that rate during the same period (which, notably, starts just before the dot-com bubble popped and includes the Great Recession). However, the S&P 500 outperformed the Artprice100 every year from 2015 through 2020. The index outperformed in 2021, and, while the data isn’t out yet, it likely outperformed in the first half of 2022 as well.
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There are a couple of problems with these art-focused indices, though. First, they only account for the auction prices of the artworks sold. All of the costs associated with investing in artwork are disregarded. The sale price of a piece may not generate any profit if the art is sold at a price lower than the amount of the up-front costs (including sales tax, transportation, and appraisal).
The second problem is a phenomenon called "selection bias." Art market prices don't update every moment or day like the prices of securities traded in the financial markets. Art indices are based on the available auction data. If a piece of art never sells, then there's no data. And the works that aren't going up for auction are often worth less than the most recent selling price, making the indices’ record returns greater than the overall art market. The indices are biased to only account for the winners.
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You can find art for sale just about anywhere. You could walk down to your favorite local coffee shop, and there's a good chance you'd see some art hanging on the walls that you could purchase.
Investing in art isn't for everyone. It carries a lot of risk, and investors shouldn't expect huge returns, even from a diversified collection of works. But if you buy artwork that makes you happy, at the very least you'll own pieces that you love and can proudly display. If any of your artwork substantially increases in value, then you can sell those pieces for a handsome profit and use the proceeds to redecorate.
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Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 04/17/2023.
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