Thursday, 8 November 2012

No guaranteed 9% return, some major draw backs...but not as bad as originally imagined

In a previous post I had questioned the validity of a 9% guaranteed return being offered by Collins & Kent International (CKI) for an investment in art.  From their advertising and after trawling their site quite thoroughly I could not work out how this investment worked - this is never a good sign.

I had received several questions about this investment for several months after I uploaded my original post but it was only a recently that a reader sent me the relevant contracts which set out how the arrangements actually work.  Those documents very clearly outlined how the arrangement worked and I am happy to say that this investment is not as bad as it first seemed - but the advertising is still misleading and there is no way they are guaranteeing a 9% return

So how does it work?

The investment proposition is actually rather simple:
  1. You either buy a piece of artwork from CKI (or presumably you can bring along a collection of your own - I did not see anything in the contracts restricting this to art works sold by CKI)
  2. They assign the artwork a value
  3. You get a fixed percentage return on this initial valuation for the life of the agreement
  4. CKI then loans this asset to their clients making a spread on the rate they lend it out at
It is actually just a simple rental / loan type agreement where you are providing the asset and in turn you are being compensated for this (much the same as a return on a rental property).  

Why do I think the advertising is misleading?

The original advertisement that I had seen had, as the most prominent part of the advertisement a guaranteed 9% return.  In reality what you are getting from this arrangement is a rate of interest on a predetermined art work for a predetermined period of time with.

What is wrong with this?
  • As an investor in art (or indeed any other type of investment) the rental yield is not your only form of return.  Indeed in property and art it is typically not your primary form of return.
  • The primary form of return is the change in capital value associated with the asset
  • There is no guarantee in this arrangement as to capital value and so the investor is not getting a 9% rate of return on their investment - in fact it is almost guaranteed NOT to be 9%
    • This is because if the value of the investment moves your effective yield is moving; and
    • This capital value movement forms part of your return

What are the other drawbacks?

There are several other drawbacks from this type of investment (and also from the contracts that I had a look at)
  1. There is always a risk that you overpay for an asset when you are buying it as part of a 'bundled' return 
    • There is a risk (although I am not saying they do this) that CKI offers the high rate of return on an inflated price in order to 'prove' the value of the original price they sell the asset for
    • I do not know if art dealers typically do this however it is quite common in commercial real estate where you are buying a piece of property from a party that is going to be your tenant for a specified period of time - there is a risk that you capitalise too high a number
    • Again I have no insight into how objective their valuation and pricing process is so this is just outlining a risk
  2. For someone inexperienced in art - their forgery provisions seem quite onerous
    • I know nothing about art and I would be trusting that an art gallery was selling me the real deal when I was investing with them
    • However when you buy a piece of art from CKI you have less than a month to get it evaluated by two separate independent experts to see whether it is a forgery to get a refund from CKI
    • I have no idea whether this is industry standard or not but from an outsiders point of view it seemed quite onerous
  3. It does not de-risk art investment - but some may assume that it does
    • The biggest risks around art investment is around paying too much for something that is in vogue which then loses capital value
    • CKI provides no protection against this so their scheme is not for 'beginners' investing in art
  4. No rent escalation clauses
    • The rent is not linked in any way to the capital value so in the event that your artwork's value shoots through the roof you are not getting an appropriate rental for it - the original rent stays the same for the life of the agreement

However - this scheme CAN be handy for those who were looking to invest in art ANYWAY

The more I thought about this investment proposition I realised that it would be very useful for those who were going to invest in art for the capital appreciation anyway (i.e. without CKI's guaranteed return).  It offers the chance for people who understand art to reduce or eliminate the holding costs of art.  If they are borrowing to invest in it, it can help cover the borrowing costs and CKI pays for the insurance so that is one other major cost that the investor does not have to bear

The investment does have merit IF you were looking to invest in art anyway, if you understand what drives the value of the painting that YOU have picked.  It should be a secondary step in your art investment process - not the first step.

If you have any further views or questions please let me know.  

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  1. 3 years later now and they're still around. I've crawled through lots of sites to try to find info on them and you are the only one who has written about it (thanks so much for the write up). While the deal seems too good to be true? I find it legit for say, the period of rental when you do get the income. When I ask them what happens after the lease is over? They were slightly evasive about it. Makes me think if the piece was indeed overvalued, then you'll be screwed once you try to sell it. However the sales guy did insist that the prices are recorded in an official art transactions record database that anyone can look up. I haven't looked into it yet. Also, are there that many entities renting art (they claim hotels, restaurants, banks, etc). One thing I'd like to see is that the piece I buy be physically there hanging somewhere. Also how do they guarantee the ownership of the piece on a legal level? I would really want to see feedback from people who really went through the whole thing but so far can't find anyone! It's 2015 now I suppose whoever did this in 2012 can tell us what it's all about!

  2. I have invested into it and have so far been impressed with the information they have provided to me. Whilst I have not actually seen the piece in real life I am happy to take it on face value following on from my risk assessment and my own due diligence on the investment. CKI provide documents and links to online references as part of the sales offering, with at least one document showing a certificate of authenticity of the piece and/or official certificate from the printer/publisher/etc. and also the value as recorded in whatever art database they use. My take on the whole scheme is that it simply offers a slightly different instrument to investing money that yields a higher-than-cash return for a fixed term. For me the term I invested in was 2 years so it is long enough to theoretically demonstrate some value but short enough to get out if it didn't seem right. 9% for 2 years as opposed to the current cash rate works especially if there is the chance of increase in capital value as well. I see this as a loose metaphor to buying a Wide-World-of-Sports memorabilia framed cricket bat from some random cricket match... there is a certificate of authenticity and a 'value' for the purchase! Only difference is CKI 'rent' out your piece whilst the cricket bat will be hanging up in your pool room. Incidentally, like any investment, it is all up to the individual in their strategy. I always calculate how much I am prepared to lose. Also, artworks range from $5,000 (I think) to over $100k... average is between $10k to $50k...