Bridge over ocean
1 October 2015 CFA Institute Journal Review

Fine Wine as an Alternative Investment during Equity Market Downturns (Digest Summary)

  1. Karl Strauss, CFA

Collectible fine wine prices exhibit a low correlation with stocks as well as higher returns and lower volatility. For these reasons, along with the increasing transparency and liquidity of the wine market, fine wine is gaining credibility among investors as an alternative asset.

What’s Inside?

The author explores the relationship between fine wine prices and stock prices to test the ability of fine wine to hedge equity market risk in various countries and to determine whether wine provides a safe haven during large market downturns.

How Is This Research Useful to Practitioners?

Economic theory suggests that price movements in the stock market have a wealth effect that spills over into the wine market: When stocks perform well, then wine investors spend more on wine collecting. The author disproves this naive assumption and suggests that wine prices are determined by factors unrelated to equity markets—for example, wine supply/demand imbalances, age, rating, climate, and label or producer reputation.

During the time period examined, wine prices have a higher average monthly return and lower standard deviation than stocks. An investment portfolio of stocks that included fine wine would have had a better risk–return profile than a portfolio of stocks alone. Wine also exhibits positive skewness, meaning that large positive returns are more common than large negative returns. Most stock markets exhibit a negative skewed return distribution. Savvy portfolio managers, who manage risk through asset allocation, may benefit from recognizing the potential of such unconventional alternative assets as fine wine.

The London International Vintners Exchange (Liv-ex), established in 1999, has increased liquidity of the fine wine market through its online marketplace and improved transparency by publishing benchmark indexes using standardized price data. Large endowment funds, such as MIT’s endowment fund, are even allocating a small portion of their portfolios to fine wine, and several wine funds have made fine wine investing more accessible to smaller investors.

How Did the Author Conduct This Research?

The monthly closing prices of fine wine and stocks are compiled over 117 months for the time period of January 2004–September 2013. The Liv-ex Claret Chip Index, which tracks highly rated Bordeaux first-growth wines, is used as a proxy for global fine wine prices, whereas popular stock indexes are used as proxies for global stock markets, including the S&P 500 Index for the United States, the FTSE 100 Index for the United Kingdom, the DAX 30 Index for Germany, the CAC 40 Index for France, and the Nikkei 225 Index for Japan.

The Claret Chip Index was discontinued in 2012, and the author makes no mention of this fact or of what alternative proxy was used for wine prices in the dataset following the discontinuation. Presumably, a similar Bordeaux index is used, but it should have been clearly identified.

The author uses a multivariate model to examine dynamic and conditional correlations between fine wine and stocks to test wine’s ability to hedge stocks and to test the safe haven properties of wine during times of market stress. Dynamic conditional correlation (DCC) accounts for heteroskedasticity directly because estimates of DCC are based on standardized residuals; using the DCC GARCH (generalized autoregressive conditional heteroskedasticity) model is appropriate to account for the high volatility during periods of market stress when heteroskedasticity might otherwise present an issue.

Times of market stress are identified as occurring during the negative 10th, 5th, and 1st quantiles of the equity return distributions; the smaller the quantile size, the more extreme the market stress. Fine wine is shown to hedge equity risk in the US, UK, German, and French equity markets, but it empirically fails to provide a safe haven, meaning that fine wine does not reduce equity risk during extreme market downturns.

Abstractor’s Viewpoint

Much of the time period used in the dataset coincides with the rapid growth of fine wine investing by collectors in China, particularly their collecting of Bordeaux wines. Some of the returns to the Claret Chip Index, which tracks Bordeaux prices, may be explained by this influx of wine investors in China. But it is difficult to test the hedging properties of wine during other time periods because of a lack of available data for benchmark wine prices prior to the Liv-ex indexes. The author notes the potential for future research to explore the relationship between fine wine prices and broad-based inflation.

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