President and member of the Board of Directors
The Art Fund Association LLC, New York, NY
The Art Fund Association is the trade association for the art fund industry dedicated to the advancement and promotion of art investment funds to the alternative investment community, general public, and the art market.
Katharine Markley: As a founding member of The Art Fund Association, can you tell me a little bit about what necessitated its existence and what your goals were in starting the Association?
Enrique Liberman: The Art Fund Association was founded in 2009 in response to the various challenges facing the art fund industry. At the time, art funds were struggling to overcome a number of misperceptions as to their role in the art market, as well as their viability as an investment vehicle capable of producing attractive returns. With the very public failures of certain early players in the industry such as Fernwood Art Investments, as well as the limited operating history of art funds in general, art fund managers were facing difficult questions from potential investors and financial institutions as to their performance and sustainability. Simultaneously, various art market professionals were propagating falsities in the marketplace as to the intentions and purposes of art funds, often characterizing art funds as “flippers” or market manipulators that could not produce returns for their investors.
The Art Fund Association was formed specifically to assist art fund managers in overcoming the aforesaid challenges by providing a forum where leaders, investors, and practitioners in the global art fund industry can come together for the advancement and promotion of art investment vehicles. Through its efforts, the Association has succeeded in becoming the leading voice for the art fund industry, and in many ways contributed to the growing acceptance of the idea that (a) properly structured and managed art funds can produce significant investment returns for their investors, and (b) art funds are an integral and growing part of the overall art market that provide positive contributions to the proper functioning and growth of said market.
KM: What do you see as the biggest challenge for art funds operating or starting today?
EL: The largest challenge facing art funds today is the difficulty in raising investment capital. Art fund managers that have approached traditional sources of capital, such as investment banks, have rarely met with success. This is owing to a number of factors, including the nascent nature of the art fund industry, which is less than a decade old, the lack of prior performance records by prospective art fund managers in running an investment fund, and the general unfamiliarity of traditional investors to the art market. Turning to high-net-worth individuals familiar with art collecting has also not yielded much success in raising capital, as such, existing collectors already believe that they can successfully navigate the art market themselves. As a result, art fund managers have struggled to raise significant capital to launch.
KM: What advice would you give investors when looking to invest in art–whether at auction, at a gallery, or through a fund?
EL: Success in the art market revolves around making sure that proper due diligence is performed and that the individuals working for or advising you have their interests properly aligned with your own. When investing in an art fund, one should seek the advice of experts in the field who can properly evaluate the governance, transparency, and operational surety of the fund. Moreover, the fund manager should be compensated in ways that align its interests with your own. For example, the fund manager should be paid in such a way that the lion’s share of its compensation comes solely if the fund is successful in generating investment returns. High annual management fees are red flags that the fund manager may be running the fund for such fees and not with a view to necessarily producing significant returns.
In the general art market, investors in Fine Art should be sure that they use art advisors with professional training in art history and commercial art. It has been said that it is harder to become a cab driver than it is to become an art dealer. Without any required certifications or review boards of any kind, it is incumbent on investors to perform basic due diligence on those seeking to procure artworks for them. Investors should insist on art advisors with significant art education backgrounds and experience. Art advisors with histories of legal proceedings involving fraud, money laundering, and similar conduct should be avoided at all costs. Any art advisors utilized by investors should fully disclose all compensation being paid to them and if possible, compensation payable to art advisors should be structured as a percentage of future profits to ensure that they are incentivized to source investment-quality works at price levels likely to generate significant returns.
KM: Can you discuss what impact new federal regulations and reforms will have on art funds? Do you envision that additional oversight will make art funds more attractive to investors in the long run?
EL: The art fund industry has been most impacted by the United States Securities and Exchange Commission’s recent release on July 11 of final rules, removing the long–standing general restrictions on advertising and general solicitations of securities offerings to the general public. Previously, fund managers (including art fund managers) could only approach persons with the opportunity to invest in their funds that they knew were accredited investors based on a preexisting substantive relationship with such persons. This had a very limiting effect on the sources that art fund managers could draw on for investment capital. With the SEC’s new rules, art fund managers can now publicly advertise their art funds and speak to the general public about their funds via press interviews, publications, or any other available media; provided that they only accept investment capital from accredited investors (i.e., individuals with over US$1 million of net worth, excluding the value of their home, or who make US$200,000 individually or US$300,000 with their spouse in the two years prior). In the not too distant future, we will be seeing advertisements in ARTNews, Art+Auction, and even on artnet, not just for upcoming shows or auctions, but for art fund offerings.
Even more exciting is the fact that many foreign art fund managers that avoided accessing United States capital markets for fear of the aforesaid restrictions are now actively exploring launching United States feeder funds to provide American investors with access to their art funds. The Art Fund Association has been busy in advising such foreign fund managers on the new regulatory environment in the United States.
While the new rules are clearly cause for celebration among art fund professionals, art fund managers must be careful not to run afoul of their new found freedom. First, art fund managers must make the newly required securities filings with the SEC. Second, art fund managers will have to take reasonable steps to confirm that all their investors are accredited investors. The days of simply sending prospective investors an accredited investor questionnaire to fill out and sign are over. Finally, art fund managers must remember that they are still bound by the general prohibition on making misrepresentations or omissions in connection with their fund’s offering of equity to investors. The greatest danger in this regard lies in an art fund manager making misstatements with respect to its performance record. Art fund managers making public statements about their past or current rates of return would be well served by looking to the various rules and interpretive releases governing similar disclosures by securities advisors under the Investment Advisors Act of 1940.
KM: What type of investor is the ideal candidate for investing in an art fund?
EL: The ideal investor for an art fund is someone with approximately US$5 to 10 million in net worth, and a little (if any) exposure to Fine Art. Such investors should typically look to invest between 3% and 8% of their net worth in alternative investments, of which Fine Art should be a significant part. As true money managers will tell you, the days of investing one’s capital in only two buckets–stocks and bonds–is over.
In addition, high-net-worth individuals who are already art collectors become investors in art funds to benefit from the various perks given to the fund’s preferred or strategic investors. These benefits include rights to borrow and live with the fund’s premier artworks, rights to co-invest with the fund on certain art acquisitions, free art advisory and collection management services, and rights to include their individual works with the fund’s artworks in order to receive the preferred terms afforded to the fund in connection with consignments and museum loans.
KM: What characteristics do the most successful funds possess, in terms of leadership qualities, diversity of the collection represented, financial structure, oversight, etc.?
EL: The most successful art funds are those that can combine the following two characteristics– the ability to source investment-quality artworks at prices significantly below current fair market value, and to maintain a low overall cost of running the fund (including commissions on purchase and sale).
KM: How do you see art evolving as an asset class? What needs to happen for art to become a more appealing asset to high-net-worth individuals who haven’t purchased art in the past?
EL: The establishment of any asset class requires the general acceptance by the investment community of the idea that the underlying asset can historically produce significant investment returns, and that a developed and functioning market for the orderly acquisition, management, and disposition of the asset exists.
Over the last decade, the art market has come a long way to meeting such criteria. Through art indices such as the Mei Moses Fine Art Index and artnet’s various indices, the investment community has been able to quantify the long-term trends of price appreciation in the Fine Art market, and have been able to prove that in many cases, the returns generated from Fine Art investments equals, and in some cases exceeds, the returns generated from traditional investments like stocks, bonds, and real estate.
While the art market does continue to be plagued by challenges relating to price transparency, and in some instances acts of fraud, various art market players have emerged, providing important and effective solutions to some of the problems plaguing the proper and orderly functioning of the art market. The introduction of various databases for tracking recent sales of artworks such as the artnet Price Database have helped to instill more price transparency and provide benchmarks for the valuation and orderly trading of artworks. Likewise, the development by Aris Title Insurance of title insurance on Fine Art transactions has helped to reduce the risks inherent to the purchase and sale of any work of Fine Art. Even accounting firms and law firms are launching art-focused practice groups to finally provide art market participants with proper advice and planning on a level akin to more traditional investment markets.
If current trends continue, we can all expect to see the continued development of the Fine Art market into a sophisticated investment market with investment tools, platforms, and strategies similar to those involving other longstanding asset classes.
KM: Many people tend to focus on the failures of past funds when considering the sustainability of art funds as investment vehicles; how would you respond to these concerns? Have new art funds learned from the mistakes of past funds, and will the new generation of funds face the same kinds of obstacles?
EL: While the current generation of art funds continues to face an uphill battle in terms of raising capital and correcting inaccurate market perceptions as to their viability and intentions, they do benefit from the lesson learned by art fund managers during the 2008 recession. Art fund managers today are seeking less investment capital from their investors, opting instead to limit their investments to those artworks affording the greatest potential for price appreciation. Moreover, art fund managers have begun to incorporate band restrictions into their overall investment portfolio restrictions. These band restrictions essentially limit the amount of investment capital that can be invested into Fine Art in any one year, thereby decreasing the chances of buying the lion’s share of the fund’s artworks at the top of the market, as well as helping to keep some of the fund’s “powder dry” to make investments after significant market corrections.
KM: In addition to your role at The Art Fund Association, you are also a recognized art law attorney, heading up the Art Law and Art Funds practice group at di Santo Bruno LLP. What can you tell us about the development of the field of art law over the last several years?
EL: Most people today, when they think of art law, think of high-profile lawsuits involving expensive works of art between major players of the art market. While this is an important part of the practice, what has been most exciting over the last 10 years is the growing recognition among collectors and art advisors as to the importance of commercial art law—namely the negotiation of commercial art transactions and contracts. While 30 years ago, collectors would buy artworks using invoices that looked like they could have been written on a napkin, or consign artworks to galleries on a hand shake, today’s collectors have come to realize that they need to insist upon proper representations and warranties from, and guaranties by, gallerists and dealers alike. This is especially true now that investment-quality works of art regularly exceed US$1 million in price.
The recent allegations involving money laundering by several high profile art market players have also prompted collectors and advisors to begin making inquiries and require assurances in their bills of sale that the counterparties to their art transactions are not involved in money laundering, terrorism financing, or other illegal activities. We are seeing these provisions make their way into art purchase and sale agreements today.
I have been fortunate to work with some of the art market’s most important collectors and have assisted in negotiating some of the largest acquisitions, sales, consignments, and museum loans in the art market today. It is a privilege to continue to do so, and to be able to work with the cultural treasures of our day.