Is Art Investment Profitable?

Considering the high prices paid at art auctions in recent years, the answer seems to be obvious. However, over a longer time period, the high prices are only partly reflected in high rates of return on investment in art. In an article published in Management Science in 2013, Renneboog and Spaenjers show that, for example, in 1987 the real rate of return on art investment was no < 37 percent per year (p.a.), and in 2007 it exceeded 22 percent p.a. However, over the period 1957–2007, the real rate of return was only 3.9 percent p.a. In some years, it was even highly negative, as in 1991 where it reached –32 percent p.a. Artworks are taken to be unique and, hence, no substitutes exist to compare prices of artworks of the same quality. Moreover, most artworks are only rarely traded. There exist two methods to calculate the rate of return on art objects: – Repeat sales regressions. They estimate the returns based on the purchase and sales price of the identical art object traded several times. Repeat sales regressions allow controlling for art quality, but the data are of limited extent and disregard the many art objects that are only sold once; hence, selection bias plays an important role. – Hedonic regressions. This method takes into account all auction results. A regression is then used to identify the hedonistic factors affecting price (e.g., artistic reputation, authenticity, size, topic, date of origin), including time dummies to measure positive or negative returns. It is assumed that the time-invariant quality is captured by the hedonic characteristics. Yet, if this is not the case, the estimates are biased due to omitted variables. Despite these difficulties, the work of art economists has produced valuable insights on the rates of return on art markets. William Baumol’s seminal study in 1986 points out that, when considering all the additional risks and frictions on the art market, investment returns in art do not exceed their opportunity costs. Frey and Eichenberger provide an extended survey of studies on art market returns covering the period from 1977 until 1995. Again, the general picture is that investment in art on average yields a lower rate of return than financial investments. The recent study by Renneboog and Spaenjers includes more than one million auction trades for 10,000 artists over the period 1900–2007. Using a hedonic regression, they calculate a geometric mean real return, as well as the dispersion and the Sharpe ratio for investments in art. While stocks yield a return of over 6.5 percent, for art it is only 4 percent per year. However, art investment is shown to be more profitable than government bonds and gold, which yield returns between 2 percent and 3 percent p.a. Compared to corporate bonds, the average return on art is the same, whereas the risk in terms of price variations is about 10 percent points higher for art investments than for corporate bonds. Compared to gold, art delivers a higher return at a much lower risk, which is indicated by the lower Sharpe ratio of gold. Although the investment performance of art is not overwhelming, the figures reveal another reason to invest in art: hedging. In a period of financial turmoil, many investors seek to place their money in a comparatively safe asset class. In 2009, Jeff Segal and Jeffrey Goldfarb reported that hedge funds tried to offer protection against inflation to investors by investing in art. According to Renneboog and Spaenjers, art investment can serve as a hedging instrument against inflation and as a possibility to diversify a portfolio. They provide evidence that art is not correlated with financial assets such as equities or bonds, but that it is associated with tangible assets such as gold or commodities. In an earlier study, Dimson and Spaenjers claim that art can serve at least partially as a good hedging instrument against inflationary risks – only gold is more immune to inflation. Despite these findings, Adam Davidson reported last year in a New York Times article that many of the art hedge funds have collapsed. How can this happen?

Tags: Art, investment

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