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17 January 2019 CFA Institute Journal Review

When Rationality Meets Passion: On the Financial Performance of Collectibles (Digest summary)

  1. Gregory G. Gocek, CFA

Investment in collectibles such as classic cars, fine wine, and visual arts is compared with investment in traditional US asset classes over the past 20 years to assess its potential return and diversification benefits to portfolios. Overall, diversification is the defensible rationale for their inclusion.

How Is This Research Useful to Practitioners?

To explore the merits of an expanded set of choices of alternative investments, the authors examine the performance of collectibles (“passion assets”) for the last 20 years. The research is helpful both in providing a thorough survey of the related literature extending back several decades and in devising an up-to-date empirical test of three broad classes of the most popular collectibles—namely, classic cars, fine wine, and visual art. Their financial results are compared with traditional US equity, fixed income, and real estate assets, as well as segmented into their own alternative investment submarkets, to assess potential intra-asset diversification potential.

Investment in classic cars, about which only one academic study has been conducted, is shown to be a standout for the group, generating a +5% alpha in a CAPM framework with approximately zero systematic risk. In the post-financial-crisis period, with its ultra-low interest rates, most collectibles categories lost any outperformance advantage relative to equity. The post-war European car subsegment retained superior returns. Overall, while recognizing that non-pecuniary factors, such as enjoying the assets’ beauty, are important determinants for exposure to collectibles, the authors provide a principled risk reduction investment rationale for including them in portfolios.

How Did the Authors Conduct This Research?

The authors rely on established collectible indexes for the three categories of interest. They adjust for the indexes’ potential statistical biases of smoothing because of limited trading, which can underestimate volatilities and cross-relationships with other assets. For the comparison with traditional financial assets, the authors use the Thomson Reuters Datastream for an exclusively US focus (S&P 500 Index, investment-grade government and corporate bonds, real estate, and gold) from January 1998 through December  2016. The authors make comparisons within the CAPM framework and use regression analyses with autoregressive filters for bias adjustment, with desmoothed quarterly and biannual returns.

Four correlation matrixes across the asset classes gauge diversification and show that collectibles provide differentiation both with traditional assets and among each other. Finally, the authors test portfolio allocation to mimic the holdings of a potential ultra-high-net-worth investor to assess the results of traditional (i.e., no collectibles) and weighted (10% and 30% total collectibles) asset mixes.

Abstractor’s Viewpoint

Although the authors are finance professors with a specialist perspective on the unconventional niche of collectible investing (both are wine economists), they seem motivated to offer practical generalist guidance for wealth managers. A collectible market appears hypothetically well suited for a well-informed investor to capture potential inefficiencies. So, in presenting their introduction to this arena, the authors highlight broad themes on participation and appropriately steer clear of tactical advice.

The standard counsel offered to prospective buyers of collectibles is that the purchase decision should be justifiable based on deriving sufficient joy of ownership, independent of any financial rewards, with any investment profit being an unexpected, if welcome, supplementary reward. The authors likely recognize the fundamental prudence of this point and caution on the drawbacks of this marketplace—namely, limited liquidity, scarcity of supply, high transaction costs, and exposure to pricing bubbles with changing tastes.

Speculation here by the typical investor would be highly unwise, although the authors—in an aside—note that collectible funds have been launched for retail participation. This development deserves more discussion. For example, do increased means for retail exposure in historically restricted alternative assets such as hedge funds offer any instructive parallels? And given the likely significance of investor psychology in this niche, findings from behavioral finance may have real applicability. Nonetheless, for an opening piece, the authors seem to effectively identify a potentially useful new investment tool for suitable situations.

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