The "Art" of Spotting Bubbles

The last two weeks marked a major milestone in the world of art. Between May 5 and May 15, a record $2.7 billion of art was sold at Christie’s, Sotheby’s, and Phillips during a Spring auction bonanza that included sales of Impressionist and contemporary art (Click HERE). In dollars terms, the sales represent a 23% increase over last year’s Spring auction period.

Pablo Picasso’s painting Les Femmes d’Alger was the star of the season, selling for $179.4 million (Click HERE for a video of the actual auction). Alberto Giacometti’s bronze statue of a pointing man sold for $141.3 million. At one point last week when bidding for Francis Bacon’s Seated Woman crossed $25 million, a pregnant auction house assistant fainted, adding to the drama at the Phillips auction (click HERE). The mood over the two weeks was urgent and frenetic.

Francis Bacon, Seated Woman, 1961; Source: Artnews.com

So What? Christie’s themed its latest auction “Looking Forward to the Past,” but now that the auction is complete, what does it say about the future?   As you might imagine, some commentators have used the opportunity of record-setting prices to suggest it’s time to sell assets (click HERE). Others have warned against using anecdotal evidence about the ultra-wealthy to extrapolate market sentiment (click HERE).

There are good reasons for rising art prices. The rapid growth of duty-avoiding freeports (click HERE) has reduced the transaction costs relating to art as an investment by allowing investors to buy, store, and sell their holdings without ever interacting with tax authorities. Further, the boom in billionaires globally is generating new demand (click HERE). And let’s be honest, there’s really only one Les Femmes d’Alger (Version "O"), right? These are genuinely unique assets.

Despite the allure of such seductive rationalizations, healthy skepticism combined with a careful monitoring of the art market points one to the conclusion that it’s unlikely to be different this time.

Record art prices, as manifestations of hubris and overconfidence, should be as disturbing to policymakers and investors as they are exciting to Sotheby’s, Christie’s and Phillips.

By “looking back to the future,” what is clear is that record art prices are often associated with market tops (click HERE for a piece I wrote in 2011). It’s not surprising to me that the most knowledgeable collectors are selling, not buying. Consider the fact that Steven Cohen and Steve Wynn, two of the most active art market participants over the past decade, were both selling last week. Wynn was quoted as saying “I think $179 million is a price you sell a picture at, but not the price you buy it at” (Click HERE).

I also think it is not prudent to dismiss the behavior of the ultra-wealthy as just about them. Rather, it’s precisely because these buyers are corporate leaders that their bidding behavior is so insightful. If Macau were still booming, might Wynn have expressed a different sentiment? Or if stock market valuations were less “full,” might Steve Cohen have been a buyer rather than a seller?

Art is also very cyclical, given that prized pieces only come to market relatively rarely. In this regard, the re-emergence of guarantees for sellers is concerning (click HERE) as it pulls supply into the present faster than would naturally be generated by death, divorce, and debt.  These are the same dynamics that haunted Sotheby’s in 2008 when they found themselves guaranteeing high prices in a falling market (click HERE). In fact, I’ve long believed that Sotheby’s stock price is a wonderful leading indicator of (over)confidence (click HERE for an article I wrote or HERE for a piece written by The Atlantic).

But Sotheby’s stock price is not hitting new highs. Does this mean we are not in bubble territory? While I believe it is too early to tell (I’d love to see a couple of busted auctions after these record prices!), I am also paying attention to the competitive dynamics between Sotheby’s and Christie’s. Christie’s seems to be taking share and the involvement of activist Dan Loeb and a new CEO at Sotheby’s may have diminished its usefulness as a bubble indicator. In fact, I was stunned to hear the sober-minded and responsible commentary from Sotheby’s new CEO Tad Smith last week indicating that he was not going to engage in a guarantee competition. “We will not roll dice in the auction room with shareholders’ money,” Smith noted.

But one thing remains clear: art markets are flashing a caution sign and given their track record, I believe it’s better at this point for investors to focus on risk of loss rather than on opportunity to gain. Paying $179 million for a painting is a sign of greed, not fear… and as noted by Warren Buffett, it’s better to be fearful when others are greedy and greedy when others are fearful.

Vikram Mansharamani is a Lecturer at Yale University in the Program on Ethics, Politics, & Economics and a Senior Fellow at the Mossavar-Rahmani Center for Business and Government at the Harvard Kennedy School. Visit his website for more information or to subscribe to his mailing list. He can also be followed on Twitter.