How does one hedge against inflation and falling stocks? Well, perhaps the spending habits of the ultra-rich at auction houses can teach us something!
Andy Warhol, $ (4) (Portfolio of 2), 1982. Courtesy of Artsy.
Global inflation is at an all-time high, reaching levels above 7%, and stocks are tumbling, yet the art market has seen a total of $5.7 billion in sales so far this year. This begs the obvious question: Is art the attractive asset class favored by the ultra-rich as an attempt to preserve their capital and increase their financial portfolios' risk-adjusted returns? And can that portfolio diversification work for everyone, despite net worth?
Understanding Inflation
At this point, you have seen it all over the news, and your pocket has felt the squeeze as well; inflation is making the cost of living a lot more expensive. Your rent, commute to work, food, and entertainment have all skyrocketed in recent months, yet your salary remains the same. This, of course, is due to the geopolitical mess we are currently facing post-Covid lockdowns and war. Russia's invasion of Ukraine has increased prices for everything from energy to wheat, adding to inflationary pressures worldwide. And to make things worse, stocks tend to be more volatile when inflation is elevated. So if you have any money invested in the stock market, chances are you are not so happy with its performance. In times like these, the best way to keep your money's value is by hedging it against something unrelated to interest rates or stock markets, such as art.
Contemporary Art has demonstrated strong real appreciation in high inflation periods and appears well positioned for a medium to high inflation environment.
Courtesy of Masterwork.io
Art Market Risks
The biggest risk is the opaqueness of the art market and lack of regulations. Unlike the financial market, there is no such thing as the Securities and Exchange Commission (SEC) responsible for protecting investors, maintaining fair and orderly functioning of the securities markets, and facilitating capital formation. There are no set rules in the art market. One can say it is the last place where the Wild West still exists.
Another major risk is the illiquidity of art. Unlike stock, art is not as easy to sell. Artwork is highly illiquid because items are often one of a kind, with a limited pool of potential buyers.
How To Invest In The Art Market
Like stocks and bonds, art can increase in value. If an up-and-coming artist goes on to a successful career, their work's value will appreciate. A long-term hold is crucial to see a return on art investments. Warren Buffet said, "If you aren't thinking about owning a stock for ten years, don't even think about owning it for ten minutes." The same goes for art.
Someone interested in investing in art can go through traditional venues such as art fairs, galleries, auctions, and private dealers, to acquire art. There are also modern ways like online marketplaces such as Artsy and fractional ownership platforms. The fractional ownership option is excellent for investors interested in investing in the art market, similar to the stock market.
Masterworks can be an excellent option for people interested in investing in blue-chip art but can't afford to acquire the entire artwork. This fractional ownership scheme allows investors to invest in the art market just as people do in the stock market. With Masterworks, you don't own or store the artwork. Instead, you and several other investors purchase shares in high-value works vetted by experts for authenticity. However, I do want to warn people of this type of investment. I don't find value in investing in art solely for financial gain, especially when you don't get to live with it. So for art lovers, there is more value in investing in an artwork that one can live with at home or in the office.
Art Investment Returns
Contemporary Art has demonstrated strong appreciation in high inflation periods and appears well positioned for a medium to high inflation environment. According to the Masterwork.io chart, contemporary art has offered an annual return of 13.8% over the last 25 years, as of December 2020, versus a 10.2% annual return from the S&P 500.
Courtesy of Masterwork.io
Art has a higher appreciation rate and low correlation to more traditional investments, meaning it is unlikely to rise and fall with those assets. Citi Private Bank calculated the long-term correlation coefficient of 0.12 between art and the S&P 500 Index, which is a very low correlation. This is why contemporary art is crucial in diversifying financial portfolios and managing investment risk.
Courtesy of Masterwork.io
When thinking of the art that will give an investor high returns, one has to think of art like any other asset class. This alternative asset class has subcategories, and it is essential to know that not all art has the same returns. Art can be categorized by medium, year, style, region, etc. And to add to the subcategories, just like stocks, art also ranges from new issued (emerging in the art market) to blue-chip. According to Artprice, the value of blue-chip art has outpaced the S&P 500 by 180% from 2000–2018. With this in mind, blue-chip is the safest type of art to invest in. Let's take, for example, the 5-meter painting “Untitled,” a 1982 work by Jean-Michel Basquiat. In 2004, the painting sold for $4.5m. Back on the market 12 years later, it fetched $57.3m, then a record for a Basquiat. Earlier this year, it went under the hammer in New York for $85m (£68m), including fees, to a buyer from Asia. With headlines such as Basquiat's auction sales, high-net-worth collectors see blue-chip art as an attractive asset that they can liquidate fast due to the high demand in the market for art by well-known artists.
However, emerging art can be an outstanding category to diversify a portfolio if you intend to hold onto it for an extended period. As previously mentioned, Warren Buffet's recommended investment strategy is to buy at a low price and hold for a long time. And to put things in perspective, Basquiat was not selling artworks in the millions during his lifetime, so collectors that believed in him during the beginning of his career have seen significant gains.
How to Get Started
Investors should always research the artists they want to invest in, such as education, the number of exhibitions, if they are signed with a gallery, etc. Of course, blue-chip art is always more attractive to investors and less risky as a financial investment because they have proven the high demand from art buyers. However, not everyone has an extra million dollars lying around for art. Here at The Nomad Salon, we specialize in sourcing quality art under $10K. We believe in investing in the careers of emerging to mid-career artists because we believe in finding the artists who we think will have lasting careers and invest in them early on. Not only is it an affordable way to build meaningful collections both in quality and value, but it is also a great way to diversify your financial portfolio and hedge against inflation.
Contact us today if you are interested in building a collection. We do the research so that you can make informed decisions when buying contemporary art.