Odd Lots - How Auction Guarantees Are Changing The World Of Art

Episode Date: June 17, 2019

Famous, unique pieces of art are inherently illiquid. They don't sell very often, and pricing is inherently difficult to estimate. Nonetheless, it's a huge business, and investors have been attempting for a long time to turn art into a proper asset class. On this week's podcast, we speak to Margaret Carrigan, an editor at The Art Newspaper, about how investors are attempting to financialize the art world via the use of guaranteed prices at auction.See omnystudio.com/listener for privacy information.

Thanks for listening to Odd Lots. Follow the show on Amazon Music for more future episodes or just ask, Alexa, play the Odd Lots podcast on Amazon Music. Hello and welcome to another episode of the Odd Lots podcast. I'm Joe Wisenthal. And I'm Tracy Allaway. Tracy, did you know we just had something in New York that's apparently called Gigawweek? See, now I don't know how to answer this question because we were sort of talking about it a few minutes before we started recording. I am aware that there is a big, big art auction. I was unaware that it's actually called Gigawake. Yeah, I didn't realize that either.

Like, I guess every once in a while, auctions, like big weeks of art auctions are kind of like Mardi Gras in New Orleans or something. They suddenly just pop up and your feed just gets dominated by people who are at this event. And you're like, oh, yeah, this is happening again. So obviously, in New York recently, we just had a series of gigantic art.

auctions. And apparently because of how much money the art sells for during the course of the week, they call it giga week because over a billion dollars of art gets sold. Okay, so lots of money flowing through those auctions. And there was one point of interest in particular, because I remember you actually tweeting about it, but the father of Treasury Secretary Steve Mnuchin, he bought a pretty large, how do I describe it? A sculpture that resembles like a balloon bunny. Yeah, and I don't even think it was that large, although we can get into it. But yeah, so a balloon bunny sold for a ton of money. I forget how much. It sold for a crazy amount. And the guy who bought it at the auction, although I guess he was just a dealer,

so he bought it on behalf of someone else, was the Treasury Secretary's dad. But it was sort of like this perfect, you know, zeitgeist, other moment thing, an insane amount of money for a sculpture, the Treasury Secretary's dad. So it seems like a good time to talk about the art world and the financialization of the art world and where it's all going and what it says about the state of the economy. Oh, I feel so cultured.

This will be the most cultured episode of Odd Lots. That's probably true, because I don't think we've talked about this before. So without further ado, I wanted to bring in our guest. And it was actually from a tweet by our guest that I, the first time I saw the whole thing about Mnuchin's dad and making the big purchase. So Margaret Kerrigan, she's the deputy art market editor at the art newspapers from her tweet that I saw about the Coons Bunny sale. Thank you very much for joining us.

Thank you so much for having me. So what was that like being in the room when the Coons Bunny sold and how much was it? And sort of tell us what that was all about. Well, being in the room, I have to say, was pretty much business as usual. This has become very derriggerer to be selling art for that much money. Now, of course, I say that rather flippantly because I have to cover these all the time. But, you know, it wound up selling for just over 90 million. And that's nothing to, you know, look down your nose at.

The Coons Bunny work was actually really interesting because it sold for $80 million. And with fees that came out to about $91 million, it was sold without a guarantee. Now, that's kind of like a big deal for a piece that has that money. much worth behind it. More and more frequently, we're seeing the use of third-party guarantees by auction houses to basically offset the risk of selling these high-value works of art. And this one, they were just kind of let fly by the seat of its pants to see how it did. Before we get into the question of guarantees and how all that works, I just want to talk about the bunny a little bit more. When I saw that it was sold for $91 million, I assumed it was

one of these gigantic sculptures that's as big as an entire room or you need to add a wing to your house. But it's not really even that big, right? No, it's only about three and a half feet. That's crazy. If it's appropriate, I'd love to give people a visual of this bunny. It looks like a balloon animal. And this is kind of something that the artist Jeff Coons is famous for. It's one of his most iconic works.

It was one of only four ever made. So in that way, because there's a limited amount of these bunny sculptures out there, it had a lot of cash. but yeah, when you look at it, it looks like a silver toy. So let's get back to the guarantees then. Can you walk us through what those are exactly? And you know, you mentioned that it was unusual that the Coons, Bunny, or Rabbit didn't come with a guarantee given the price tag attached to it. How much of the art market currently does come with a guarantee?

Well, within the last gig a week earlier in May, about 40% of all lots were. guaranteed. And that could be either by an in-house guarantee or a third-party guarantee. So just to back it up a little bit, in their simplest form, a guarantee is like it's just an agreement between a seller who wants to consign their work with an auction house and the auction house that no matter what the outcome of the sale, that seller is going to get their money's worth. So the terms and the conditions of these agreements can really vary and they're always very secretive. So we don't really know that what goes into outlining all of these bare bones guarantees. But whatever terms the auction house decides to offer is a big incentive for that seller to consign with them. So it's definitely within the best interest of the

auction house to minimize the risk for the consigner as much as possible if they're trying to get these like high value trophy works of art like a coon's rabbit sculpture. Because they think that'll help push it forward on the auction block. So just break this down a little bit further. Let's say I have a Coons Bunny in my collection or some other piece of art that I want to sell and I know it's going to be a big hit. And multiple, how many big auction houses are there? In the U.S., there's three predominant ones, the Christie, Sotheby's, and Phillips. And so in theory, what they say is list with us or sell it through us and we'll provide you some guaranteed minimum sale. Right, exactly.

And where does that come from? Then there's a third party entity that promises to do the bidding. Explain how that all works. In the traditional just guarantee model with like the in-house guarantee, and I feel like this is important to set up at why third-party guarantees are kind of on the rise right now. Basically, the auction houses started doing this a lot to attract these bigger collections and these bigger works of art. And it can play out in one of three ways. In one way, the lot fails to sell.

And in that case, it's what's called bought in by the auction house. So the auction house then owns that work of art and pays the consigner whatever their, you know, lowest bit was. And then the problem with that is when a work is bought in, it's called what's burnt. And people like act like it was no good for the art. And so it actually lowers the value of that work of art. Now, if it actually goes for its guaranteed price, then everybody wins. You know, the seller gets the money they were hoping to get for the work. The auction house gets a little off the top.

It's all good. And then best case scenario is it's going to sell for more than its guaranteed price. And then the auction house nets that profit. And everyone's a little bit happier, it's a little bit cushioned. Now, that's where the third party guarantee really gets going because they realize that they can bring in some, the auction houses realize that they can bring in another person to offset the risk for them. And that person gets paid out and makes a little money off the top. And so does the auction house. That's really where it's at right now with the third party guarantees.

we've seen the rise of them over the last couple of years exponentially. And these are also known as irrevocable bids. And what that means is basically that third-party guaranter is saying, I put a bid on this work no matter what for this amount. That amount is secret. No one knows what that is. And that's just negotiated between the auction house and the consigner and the third-party guarantor before the auction happens.

It's probably near the low estimate for the work. So that's what the usual benchmark, but it could be more, it could be less. So it means that when that third-party guarantor comes in with that work, it's basically establishing a market value for that work right that in there that no one else knows about. That's really interesting that it's done sort of off of the public market, I guess. So walk us through who these third-party guarantors are. And just to be clear, if the art doesn't sell for more than the minimum guaranteed price, Do they take delivery of that art?

Yeah, that's the thing. For the most part, these guarantors used to be dealers or collectors that had the capital or the expertise to kind of be like, yes, I will front this money for this piece. Now, that is not necessarily the case anymore. We're seeing a lot more people wanting to get in on this because they've heard that there are good returns on these. So we're seeing a influx of people that are just interested in getting. the work, but they will take possession of the work if it doesn't sell to somebody to a higher bidder. Let's talk about those returns that they expect, and let's just sort of go through the math. So let's say that there is a piece, and maybe at the high end, they think it could fetch $20 million.

I'm just talking hypothetically. And maybe the range is 10 to 20, and I'm one of these third-party guarantors, and I say, okay, I'm going to guarantee that I'll bid $10 million on it. And then let's say it's a blockbuster auction, it goes to $20 million and I don't have to, I don't lose any money. I didn't buy the piece. What do I get paid for having offered that $10 million guarantee? Well, the math is where it gets tricky. The easiest way to look at that is that if you guaranteed that work for $10 million. Yeah. And it went for 20, then you are getting a share of that extra $10 million that it went for. I see. But that breakdown is not necessarily clear. That's something that's negotiated between the guarantor and the auction house.

But that payout is based somewhere on the spread between what I had offered as my guarantee and the ultimate price. But in theory, that could be a very fast, huge return for me if it turns out that the final price is much higher than what I had paid out. Yes, absolutely. And in fact, we're seeing guarantees being made up until like 10 minutes before an auction start now, which is very new. It used to be that these were secured more in advance and they would be notated.

in the catalogs that you would pick up at the beginning of an auction and that are distributed the week before the auction. Now, however, there is usually like a running tally that the auctioneer will give off in the beginning. Some are marked in the catalog, but some are made literally as they're walking up onto the podium. If the auction houses are incentivized to offer minimum guarantees in order to get, you know, interesting art consigned to them from prospective sellers, And if the third-party guarantors are sort of incentivized to provide a floor of some sort, is that dynamic, is that one of the reasons why art prices seem to be getting higher and higher, at least for certain pieces? Does it add upwards pressure on the price of art? So this is such an interesting question. And it really gets to the heart of the art market in general and why it's just so shadowy and weird. So far, there has not been. of a huge correlation between the use of third-party guarantees and the upward prices of art in general.

That seems to just being fueled by general, you know, wealth in the world today that's driving those prices forward. But this, a lot of these studies that have been done about the correlation between third-party guarantees and the price of a work of art came out several years ago. And this has changed just within that time. To backtrack just a little bit, the use of these irrevocable bids became increasingly popular after the 2008 financial crisis when the major auction houses had to pay out some big sums to consigners for works that they had guaranteed in-house when those failed to sell. And I think between Chrissies and Sotheby's like $200 million was paid out for these consigners that guaranteed work with them and they couldn't sell it.

So that's when we really started to see people bringing in the third-party guarantors. And again, those were significant, usually significant collectors like the Namads, the Mugrabi family. like those people were the ones fron the money for these things. Also big name dealers like Goshen, Pace, Tasman, they'd come in and also front the money for it because they'd be looking to kind of back their own artist's markets. So this third-party model actually started to increase the liquidity of the art market, which is a notorious problem because it started tempting people to buy and sell work

when they didn't necessarily need to by offering the promise of some kind of return on it. And it started to morph into the speculative tool then. And now there are just a lot more people that are wanting to get in on this. And then I think according to a recent report that was published in the Wall Street Journal, before the recession, there was a handful of people doing third-party guarantees, and they, you know, reap 50% of the overage and half the buyer is premium in exchange for staking these works. And today, guarantors say that they're expanding ranks. They've already started whittling the returns on this,

and they're only getting about 15 to 30% of that overage. So it's kind of an interesting dynamic where there's not a lot of like concrete numbers to back up why this is financially feasible for some people. So it's interesting thinking about these kind of returns. And you mentioned that a lot of the third party guarantors were these famous collectors of art. And they had lots of them. But essentially you could, I mean, is it getting to the point where people who have zero interest in art or the art world are backing funds that just do nothing, but, you know, you have one guy's like, I'm really good at

pricing guarantees, back me, give me, you know, I'll raise 100 million and we'll do all these. And you don't have to care about art at all, but make some money for you. Yeah, there has been a huge boom in, like a boutique industry of businesses that are actually tailored to backing guarantees, essentially. I mean, they do other work as well. And it's kind of a big function of what is called art secured lending at this point where people are leveraging specific works of art already in their collection or the entirety of their collections get money up front to guarantee other works. So it's this kind of like circular loop here. And then, but beyond that, we've seen a lot of guarantees at Sotheby's and Christie's mainly,

but also Phillips. And I think last year, about 1.3 billion combined was guaranteed in sales across those auction houses all year long. That's according to a report by Art Tactic, which is an auction tracking firm. And all of these accounted for about 58% of the value of the houses, evening sales of like post-war and contemporary art, which is like the big money maker sales that you see all the headlines about. That's up 39% from recently, I think, 2016. And what's really interesting about that is that a lot of these art financing companies are offering loans to investors that they expect will guarantee works.

There's one called Athena that publishes lists of auction offerings that will look like safe bets going into the major auction rounds. Other companies also offer these arcbacked loans to guarantors that are, you know, just so that they can buy out the works that they stake that ended up not selling that they thought would. And then, like I said, last minute guarantees are kind of fueling as well because there's a sense that like the market's shifting at any given time. There's a new firm called PiX, I think started with in the last couple years. they are trying to turn the guarantee into a sort of like derivative with shares of risk being parceled out to like a dozen investors in any given time who don't know one another and don't show the same taste in art and maybe don't even like art. And it's kind of aimed at bringing in institutional investors and they're offering these contract on future sales and treating it like a futures contract and therefore it's tradable. So it's the first product like that too, also to be authorized by the UK's financial conduct authority. We haven't had the same kind of ruling on it in America, but actually, which is interesting because the U.S. market is the largest art market in the world, and it's also where most of these guarantees are happening.

Wow. Okay. So it sounds like there's quite a lot going on. I suppose if you put all of this under the umbrella term, like the financialization of the art market. I'm wondering, is that financialization? Is part of it reflective of the nature of the art market itself at the moment? And what I mean by that is you have a bunch of people. who are sort of interested in it, maybe because they have newfound wealth. But at the same time, you have a lot of new artists, modern artists who are, you know, contributing new pieces. And it feels to me like for a lot of that modern art, it's much harder to attach a firm price tag to it, right? Because you don't really know what's going to happen with the artist. You don't really know what the scarcity value of that art is going to be, you know, if Jeff Coons wakes up and decides to do another like 500, bunny statues, does that diminish the value of the one that Robert Mnuchin just bought? Is that part of the problem when it comes to financialization? Are people trying to solve

that issue through all these different financings? Yes, although I'm hesitant to say solve, because there's a huge tension here between the finance industry's approach to art and the art world's approach to art, which has been really interesting to see this, because the issue is, is that institutional investment has always kind of shied away from the art market because it is just so illiquid and so unregulated and shadowy. There's an adage that's like the art world is the most unregulated market behind guns and drugs. And I don't really know if that's 100% true, but it certainly like takes something rather nerdy and sexes it up. But the opacity and the volatility of the market for especially contemporary art because supply is so unregulated. these artists are still alive and working and creating art for the most part makes it a really bad investment prospect.

So there hasn't been a lot of things like that's going on until the last couple of years. That being said, I do want to like offer because I feel like there's a lot of media hype around what's happening with the art market right now. It does command a lot of attention and it does fetch these big numbers, which draw on people and be like, oh, wow, this has never been seen before. I will say I think that there has been a lot of speculation on the art market and smaller, more. delegitimized fashion for a really long time. Something I always like to bring out actually is that in the early 20th century, there is actually this French financier named Andre Lavelle who kind of started out what we would term the first art investment fund when he pulled together money from, I think, like a dozen people, and created this theme called the Paudelaure. Excuse my bet, a terrible French, which it means the skin of the bear.

And this pool of money was used to invest in around 100 works of art at the time by up-and-coming artists that were performing well, selling well. That included then... Oh, I remember this. Yeah, it included people like Pablo Picasso at the time. Like, he was an emerging artist doing well. And the collection was liquidated in 1914, and everyone, you know, profits were shared out to everyone that invested. And by then, the works had about, like, quadrupled in price. So it was a tidy little something that they got.

When was this? This was in the 19th century. It was in the early 20th century. early 20th century. Yeah. So this isn't exactly like a new idea per se. And like by the 50s and 60s, the New York Times is already publishing articles about using art as an investment tool. But it was just happening on such a smaller level. Now, like you said, Tracy, like the art market is just grown. It's just bigger now. That's like you said, there's just more people with money and they want somewhere to spend it. And then according to the annual UBS and Art Basel, art market report, which is published every year, last year's sales. amounted to 67 billion worldwide. Most of that was in the U.S., but that is also trailed by UK and China.

Yeah, I want to go back to something you said very early on that I meant to follow up on, which is you said, when the auction house had its own in-house guarantee and had to take inventory, and that was called the art being burnt in. Is that what you said? Bauden. But if it's bought in, it was burnt. And so then there was a stigma attached to that art forever.

Is there a stigma the same way attached to pieces of art that had to be acquired by a third party guarantee? So not really. That's, yeah, okay. This gets into the thing I mentioned earlier where there is kind of a moral issue at stake between the art world and the way the art world conceives of itself attributing value to a work of art and the financial world way of attributing value to a work, which is purely monetary. The issue with the art world's approach to this and the use of third-party guarantees and something like that is because it does increase the frothiness of the market and gets people participating in it that wouldn't otherwise. They're worried that the actual intangible good of cultural value will be lost in art. That is obviously a really great PR campaign. This is also just an issue of controlling the marketplace.

too. Like when it comes down to its fair funds, they want people that have this insider knowledge working at like establishing the price. They don't want people coming in and essentially backing an artist like, you know, completely inflating its market and making it unsustainable for the next 20 years. So just going back to that fund that you mentioned in the early 1900s, I remember a sort of similar instance of a certain art dealer who started collecting a bunch of avant-garde artists at the time, like Picasso and Van Gogh. And he ended up investing a lot of money in those artists, sort of supporting them.

And by doing that, he managed to almost start the market for that art. So I guess my question is, when it comes to the third party guarantors, how much power are they actually wielding in the art market when it comes to deciding, you know, this artist is going to be cool or valuable, you know, this one maybe not. so much. Are they the arbiters of, you know, future art prices? That's kind of the question that's at stake right now and why the art world is really confused about how third-party guarantees will

shake out long term. There's just not a lot of data to indicate that they're doing much more than essentially falsely propping up the market for some artist's work and maybe the market in general. The biggest concern about it is that they're just falsely establishing prices based on whatever they're willing to pay behind closed doors. I don't know if that's like actually that new of an issue because most auction houses are making a lot of revenue through private sales anyway. So it might just be making visible something that's been going on for a really long time. And that might just make the art world uncomfortable because it's been so opaque for so long. And again, like I said, it is increasing the liquidity of art, which has always been a real issue in it as an

asset class. So the question you pose is the question that we're still trying to figure out. And I just think that there needs to be a lot more analysis of these auctions that separate out guaranteed works and the results for those versus non-guaranteed works. And so far, there hasn't been a lot of that that's come forward. Merger Kerrigan, this is a fascinating conversation. I love how in-depth it got. Really appreciate you coming on. And to your last point, it'll be interesting to see what that analysis when it eventually happens. Yes, I look forward to seeing what comes with it. Sounds good. Thank you for joining us.

Thank you for having me. Thanks, Margaret. That was great. Tracy, I really enjoyed that conversation. The whole time I was thinking about it and that last point that Margaret made about the introduction of liquidity to the market, it seems like we're seeing this all over the place, which is people trying to conceive of ways to bring liquidity to traditionally illiquid. assets. So you see it obviously with art, people try to do it with wine. You see I get ads on Instagram for invested in classic cars. And another thing that we're seeing a lot, and it's actually a much

bigger deal is houses and the rise of eye buying and you upload some photos and specs of your house to a website and it spits out an offer. It feels like we're sort of in this era of everyone trying to figure out how they can make sort of traditional illiquid assets trade more low. like liquid assets. Yeah. And I mean, on the one hand, a lot of that would make sense, right? Because as you sort of get technological platforms that are capable of doing that, then you could see why a lot of people would try to do it. But I got to say, I know you mentioned traditional assets then, but the conversation reminded me of something else, which is cryptocurrencies, right? And the notion that you have all these different cryptocurrencies and a giant market trying to attach a value to,

to them based pretty much on adoption and maybe a little bit of underlying technology, maybe. It just, it reminds me of the art market, right? Like, how do you go to an art market and say, this painting is inherently better or more valuable than this other painting? Yeah, I think about this a lot, too, even with, like, sometimes when I'm walking through Central Park and I look at those gigantic, really skinny skyscrapers where people pay insane amounts of money for a condo that they might not even live in. And it does feel like we are in an age in which a lot of money is paid out to things. And the main value that those things have is that

they're worth a lot of money. Like there's a recursiveness to it. So the price itself sort of imbues value in it. I always make this joke when I see really expensive art sales like the $91 million Kuhn's Bunny where it's like at 91 million dollars it's a steal of a price but at 45 million dollars it would have been a it would have been a rip off where it's like suddenly the fact that something gets more expensive suddenly makes it a better value so I'm wondering how many expensive art auctions you're going to that you need to have set piece jokes for each one of them I know after we have these conversations I do feel like an indescribable urge to log on to the Christie's website and start looking at art which I'm sure would be

a terrible, terrible idea. Yeah, I think that would be a bad idea. But, you know, maybe like we can find some up-and-coming artists. Maybe we can find the next Picasso and sort of make them a thing. Yes, please donate to the Oddlots Art Fund so we can start providing minimum guarantees for artwork worth, what, 10,000 maybe? Two other things that I thought of real quickly is, like, one is, in the end, like, if there are outsized returns in art guarantees, it's only a matter of,

time before institutions drive those returns to where they aren't any better than anything else. So you sort of think, like, if you just have like a few families offering guaranteed returns, by the time it gets to the point where anyone with some money can go into an art guarantee fund, like you could, you have to imagine that, uh, the juicy returns can't last too long. Right. Like the liquidity currently being hoarded in the art market eventually is going to lead to all the sort of price arbitrage possibilities being arbitraged out, I guess. And in the end, any attempt to sort of via financial alchemy turn a sort of naturally illiquid, non-commodified market like art into a liquid tradable asset, like, it's probably going to end

to some people taking huge losses when they have a bunch of inventory on their books and it goes out of style or there's a financial crisis or something like that. Like, in the end, someone is going to lose big time. on this stuff. Well, I guess we'll find out, won't we? I guess we will. All right. This has been another edition of the Odd Lots podcast. I'm Tracy Allaway. You can follow me on Twitter at Tracy Allaway. And I'm Jill Wisenthal. You can follow me on Twitter at the stalwart. And you should follow our guest on Twitter, Margaret Kerrigan. She's at Real Life Maggie. And be sure to follow our producer, Laura Carlson. She's at Laura M. Carlson, as well as the Bloomberg head of podcast,

Francesca Levy at Francesca today. Thanks for listening.