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Forget about stocks; the ultra-rich turn to art

Art used to be known as an "investment of passion"; today for those who can pay, it is a form of haven. Demand for art, rare wines and other luxuries rose in 2010 as the super-rich rebounded from the 2008 financial crisis.
Image: Bottles of Chateau Lafite Rochschild on display
John Kapon, president and auction director of Acker Merrall & Condit poses with a lot of 70 "Four Centuries of Chateau Lafite Rothschild" bottles, which includes bottles between 1799 and 2003.Bobby Yip / Reuters
/ Source: Reuters

At Christie's auction house in London one evening last July, as art investors bid millions for an 18th-century painting of a horse, the sons and daughters of the capital's super-rich were going through their paces in a simulated auction.

In an upstairs room in London's plush St James's district, around 30 people mostly in their 20s chatted politely in fluent English, their accents Russian, Arabic, South Asian and Chinese. After a three-course dinner of salmon and roast lamb, the program began: a role-play in which teams bid in an imaginary auction for various works of art.

A crew of experts was on hand to advise on the value of the pieces. The bidding gathered pace. Staff took fake phone calls and bid on behalf of "mystery buyers." A young woman shouted encouragement in Arabic. One team bid hard, driving prices far higher than the recommended valuations. At the last minute they pulled out, landing rivals with an exorbitant bill. A large plasma screen showed the real-life bidding going on downstairs. George Stubbs' "Gimcrack on Newmarket Heath" sold for 22.4 million pounds ($35 million), making it the third most valuable Old Master ever sold at auction.

For the young would-be buyers, the event was one of a series of workshops aimed at grooming them for the responsibilities of inheriting vast wealth. A taster of how to invest in alternatives to stocks and bonds, the session showed how some of their 'high net worth' parents are protecting their wealth from the market ructions of the financial crisis.

But it went further. It also showed the young investors how they could boost their budgets by offering art in their collections as collateral for loans.

"It's a way for them to get liquidity out of the art collection to invest back into their business or buy other new business," said Suzanne Gyorgy, a New York-based art finance manager at Citi's private banking arm, which organized the event.

Art used to be known as an "investment of passion"; today for those who can pay, it is a form of haven. Demand for art, watches, rare wines, vintage cars, boats and wine expanded in 2010 as the world's super-rich rebounded from the 2008 financial crisis, according to a report by Capgemini and Merrill Lynch in June. A 300-bottle collection of Chateau Lafite-Rothschild sold at auction earlier this month in Hong Kong for $540,000, the highest value lot achieved at any wine auction in the world during 2011.

The Christie's lesson went beyond using alternative assets to hedge a portfolio. When the players' budgets ran out, they could borrow against the value of what they already owned.

That's an increasingly common phenomenon as stock market volatility climbs back toward levels seen after the collapse of Lehman Brothers, financial advisers say. At a time of tight credit for all, more of the world's wealthy are using such collections to finance property purchases and inject capital into their businesses.

Significantly, many of the people who are borrowing against such assets are financial professionals, who made their wealth in banking, hedge funds or private equity.

"Typically it is a hedge fund manager, private equity manager or entrepreneur who has a private art collection that's on their wall," Gyorgy said.

Buff credit
Interest in setting up such facilities started to spike in summer, in anticipation of market volatility that hit in August, Gyorgy says. The S&P 500 index is currently about 8 percent below where it started the year; even safe-haven gold has slumped in recent days.

Such deals are limited to the top end of the market, using works valued above $1 million. The best terms are offered on Old Masters, pieces by the likes of Thomas Gainsborough or Michelangelo, as well as impressionists such as Claude Monet. Another top-end group includes Andy Warhol, referred to in the trade as "post-war contemporary." Gyorgy won't name any paintings that have been used in this way, for fear of revealing the identity of the borrowers.

Pierre Valentin, a partner at London-based law firm Withers, specializes in commercial transactions involving art, antiques and design. He says more banks are now looking into offering similar services, mainly to open up relationships with a lucrative client base among the newly rich.

"Usually the banks are not just interested in making a loan against the art, they are interested in the relationship as a whole," he said. Due diligence for such transactions can be complex so the loans are large -- typically $10-$50 million, Valentin says. He was once involved in a $100 million loan.

"Banks tend to prefer fine art, paintings, rather than the decorative art but I've been involved in transactions where furniture may be involved, silver or sculptures, even vintage cars," he says.

Martin Rapaport, chairman of diamond services company Rapaport Group, says owners of top-quality precious stones have also started to use these as collateral in financial transactions, repeating a trend he saw in the first days of the crisis in 2008.

"We know it happened in 2008 and I expect to see more of (it) this year. The stock market fell so much recently so these people are looking at tangible assets like high end diamonds," he told Reuters.

New Medicis
At the root of this trend is the fact that such assets are proving better stores of value than investments such as equities. Their value is still appreciating, driven by huge demand from the fast-growing rich of Asia and Russia. David Prager, director of communications at diamond miner De Beers, said the firm's prices rose by an "unprecedented" 35 percent in the first half of 2011. "That was driven by big increases in consumer demand, particularly in China and India."

The first half of 2011 saw a record 944 artworks sell for more than $1 million, according to Artprice, a consultant tracking the international art market. The previous record was 735 lots in the first half of 2008.

Prominent super-rich art buyers include U.S. billionaire and hedge fund manager Steve A. Cohen, and the London-based billionaire owner of Chelsea football club Roman Abramovich, who was widely reported to have snapped up paintings by Lucian Freud and Francis Bacon in New York in 2008 for a combined total of $120 million. Ronald Lauder, the cosmetics magnate, paid $135 million for a portrait by Gustav Klimt in 2006, then the highest known price ever paid for a painting. In 2010, a Picasso sold to an anonymous buyer for a world auction record of $106.5 million, just shading the $104.3 million paid for a Giacometti statue earlier the same year.

Private deals struck away from the public gaze have fetched even more astronomical sums, as collectors pay up for works valued for their investment potential as well as their beauty.

Jussi Pylkkanen, president of Christie's Europe, has likened the modern collectors of such works to the Medicis, the Italian dynasty of art patrons. The phrase comes from the idea that the great Italian merchants found the best workmen from around the world and brought them to Florence, Venice or Rome where they would work as court painters.

But if there are similarities between the new collectors and the Renaissance dynasty, there is also a notable difference.

Where the original Medicis built one of Europe's mightiest banks, The Medici Bank, the "new Medicis" that Pylkkanen has identified are using the arts as a refuge from investments in financial services that have become less and less reliable. With interest rates low and stock markets so volatile, alternative investments offer investors the chance to buy assets with little correlation to global financial markets.

"I've got clients who are looking for something a bit different to do after falling out of favor with stock markets," said Chris Belcher, a partner at law firm Mills & Reeve who specializes in advising wealthy clients on their tax, trusts and estates. "They've been looking at their statements over the summer and seeing them down 35 percent in a couple of days."

Of course, such alternatives aren't for everyone. The investments are deemed high-risk by regulators, so only appeal to people whose minimum commitments -- which can amount to millions -- represent a small proportion of their overall worth.

"Typically it's going to be people looking to invest a small proportion of a large asset base," said Belcher. "You're more likely to be someone who's got 10 million (pounds) in the bank and putting 1 percent into fine wine. That's the kind of scale you're looking at."