Art Meets Law in New York Times art securitization piece

NEW YORK. Last month I was interviewed for a piece in The New York Times on the rise of art funds and art securitization generally. The piece is now available here. As I explained to the author, the reasons underlying the growth in art funds are several. Firstly, 2010 saw record auction prices being set for painting, sculpture, rare books and Chinese art and the article correctly references each of these. Secondly, as investments in traditional assets (stocks, bonds) continued to perform erratically, the notion of art as an alternative investment class was firmly consolidated, albeit partly by default, and art is now widely held as an acceptable and important way of diversifying investment portfolios. Thirdly, since the on-set of the financial crisis, investors have shown greater interest in tangible assets including art.

The rise of art funds is not without problems and related to the question of how the pooled art assets will be valued is the issue of conflicts of interest. In Russia for example, investors can not only pay cash for units in the two art funds established by the asset management firm Leader -- they can also contribute art instead, with the fund managers themselves determining how many units an investor gets for a particular art fun. This means that public investors, likely to be investing cash rather than expensive works of art, may be overpaying for the fractions of the art works they will own. The risk of "close friends" of the managers acquiring an inflated number of units is very real given the overlap between wealthy art collectors and financial professionals (and even more so in Russia). While disclosure is vital and would allow investors to assess the risks associated with any conflicts of interest, fund managers should be outsourcing the valuation of the assets to an objective, independent source but in such a knowledge-intensive market, the options are slim. Another issue is how freely transferable the units will be. From what I've read to date on the subject, investments through art funds are medium to long-term which makes sense given how illiquid art assets but it is unclear how liquid the units themselves will be.

Setting aside the legal and financial issues, it's very interesting to see the quote from the President of the Art Dealers Association of America stating that she "would never allow a young artist to sell artwork to a pooled fund." Resistance from certain subcultures within the art world is to be expected but that's a pretty strong statement coming from someone who is actively involved in the art market (Lucy Mitchell-Innes is the co-founder of the Chelsea-based gallery Mitchell-Innes & Nash). Stay tuned for much more on this fascinating field.

Is the Russian initiative to regulate art securitization and art funds merely a ploy to make them seem investment grade?

That was the suggestion made by Artworld Salon as it commented on Russia's newly-implemented art funds regulation introduced last month as part of a modernization program designed to make Russia an international financial center rivaling New York, London and Hong Kong. The allegation that the regulation is merely form over substance is not unfounded given "the relative lack of oversight of the opaque and enthusiastically “managed” system that is the Art Market." Indeed, regulating art securitization and art funds appears to be at odds with a distinctly investor-unfriendly market characterized by "private dealing, auction pumping, the ability to cellar works that aren't selling and [the] lack of any form of reliable pricing register." Surely transparency must precede oversight. The bases for the suspicions gain even greater strength when one learns that the implementation of the regulation was in sync with the creation of two closed end art funds by Leader, "a powerful local asset management firm controlled by Putin loyalists." It's more likely than not then that the regulation is above all a marketing tool.

The author also takes this opportunity to discuss one of the most significant problems afflicting the global art market and its component individual markets: the difficulties associated with pricing acquisitions and disposals of art due to the lack of publicly available information on transaction prices. I have previously discussed the need for increased disclosure in the context of droit de suite and how its introduction in New York would be a highly undesirable way to achieve greater market transparency. In my view, the proposal of "a price register for each and every work of art that someone tries to promote as “investment grade,” with NO exceptions and NO omissions" is far more compelling than Edward Winkleman's case in favor of droit de suite, which suffers from the serious risk of shrinking the New York market ultimately to the detriment of all artists.

NOTE: "with an exception of perhaps only India, no country of any significant domestic investment market has a well defined regulatory framework for art funds," reported Skate's. "We are not aware of any regulatory framework anywhere in the world defining how art assets can be put into mutual funds and such funds can be offered to [the] general public [and/or] qualified investors."