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174: How to Invest in Fine Art with Beer Money!

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Buck: Welcome back there show everyone today my guest and wealth formula podcast is Scott Lynn. Scott has been an active collector of contemporary art for more than 15 years and has built an internationally recognized collection of abstract expressionism that has included works from Clyfford Still, Barnett Newman, Mark Rothko and he’s also the founder and CEO of Masterworks, the first company to allow investors to buy shares of masterpiece art like Picasso’s Monet’s and Warhol’s. Scott, welcome to Wealth Formula Podcast.

Scott: Thanks Buck. Excited to be on.

Buck: Great. So you know let’s start out a little bit with your background because I was kind of reading up on it. Sounds like you’ve kind of got a background significant tech background and also internet marketing. So where does the art come from is that just did that start as a passion project that sort of as an entrepreneur that you just found an inefficiency for?

Scott: Yeah that’s a great question. I started collecting alarm it was very young. So that’s probably 19 years old and on the Masterworks website of a blog article it’s were talking about the learnings with doing that at a young age and being a first time collector. But it really was just a passion. It was a hobby as I think it is for for most people when they start collecting.

Buck: Got it and and how did evolve because obviously when you’re young can you’re not really and you don’t have any money I mean how do you even I mean were you just buying stuff that you liked or were you looking at things as investment even early on?

Scott: Yeah usual situation that I started my first company when I was 16 or 17 so I think when I was 20, 21 I was running one of the top dot com companies at the time so I was super fortunate to make money in a very, very early age so I was buying real art. I was buying Picasso’s the first great painting above was the painting by an artist named Marc Chagall. Yeah so you know I guess I was I was buying real art, but was also making a lot of mistakes at the same time and the art market was very different in the late 90s than it is today, you know it was definitely a market but it wasn’t I guess the average person didn’t think of it as an investable a supply so here it was really just a very niche collector market.

Buck: Yeah so I want to talk a little bit about fine art as an investment as you know, my audience is jam-packed full of of you know active accredited investors. What we tend to focus on assets like real estate you know in various classes within real estate what is the case for someone who’s got real estate maybe some equities etc to add fine art to your portfolio?

Scott: Yeah I think if you look at certain segments of the art market in the affirmative our price is published. Some of this research firms like tabloid and publish other components but if you put it all together basically what you conclude is that the blue-chip segment of the market and that’s really defined as art created by the top 100 most selling artists. So these are household name artists like Picasso, Monet, Warhol, Basquiat, etc. That segment of the market has outperformed the S&P for the past several decades but maybe as importantly it’s uncorrelated. So Citibank did the first correlation study on the asset class in 2015 and they concluded the correlation between art and the SP was roughly 0.11. Similarly if you look at correlation between art and other asset classes it’s close to zero . So what that means very high level is if you were allocating capital to art in the public equity markets decline, theoretically art should not move move in the same pattern. So we think it’s this really interesting hedge almost against other asset classes, just behaves differently due to that lack of correlation.

Buck: So let’s talk a little bit about because one of the things you mentioned was, because I’ve seen these you know these outperforming sp500, I’ve seen oh you know performance measures and can you talk a little bit a little bit more detail in terms of what determines the art that you’re counting yeah that goes into those rankings over those comparisons rather.

Scott: Yeah so the art market is like any other market and that there you know there are all different types of assets in the market different risk return profiles. So there’s there’s emerging artists there’s mid-career artists there’s what we refer to in our price to first just blue chip art. When we talk about blue chip art which is really our focus and what we think is the most interesting segment of the market to invest in that literally is just the top 100 artists by transaction volume so we just staggering all of the artists from top to bottom take the top 100 and analyze that segment of market. Now interestingly and a lot of people don’t realize this you know there’s been hundreds of thousands of artists over the over the I guess the number of centuries they’ve existed there’s really 100 artists that compromise 60–62 percent of the art market overall on a dollar wager basis so when you talk about the top 100 most of which are no longer living that really is the majority of the market.

Buck: Right. So say I’m worth fifty hundred million dollars I’m interested in beginning to collect myself, how would you even get started and when you talk about for example you’re talking about the blue chip art what is the you know what is the price point that you’re potentially looking to enter on if you’re doing it as an individual and where do you start.

Scott: Yeah that’s a very good question so we we get this question a lot it really varies by artists but I would say that to really get blue chip exposure in today’s market on per painting basis probably spending you know one or two to five million dollars per painting per artist. So we think about allocating you know certainly if you have 100 million dollars you can allocate effectively by purchasing paintings. But outside of that you know it’s challenging to allocate too with was just fine whole paintings.

Buck: Got it and is there you know one of the things I was curious about and I have to I just tell you the for me personally this is completely foreign. My wife is always interested in talking about potentially starting to get collecting collecting art but I’m about vintage cars are about as close as I get to art personally right now. I remember watching in this episode of 60 minutes recently and there was this like big thing about art fraud from art collectors you know around the world and they were spending all this money and some of them they’re finding they’re forgeries. How big of a problem is that and how do you mitigate risk?

Scott: You know I’m on the board of an organization called IFAR which is the International Foundation for Art Research which is one of the leading art authenticity nonprofits and you know it certainly happens in the art market it’s a rare occurrence when you look at the total volume of art overall and it tends to happen at the lower end of the market. So prints tend to be often faked or very simple drawings like Picasso drawings tend to be often faked. But in the market at least from what Masterworks is doing we’re purchasing paintings that have strong promenades. They’ve been in museums, they have a little history behind them. So the history to a certain extent is already written so the length of the fraud is you know you can never say non-existent but very, very low for that segment.

Buck: Yeah and so are you buying these typically at auctions where you know you can already describe you already have all the provenance like you mentioned.

Scott: Yeah the Masterwork strategy so far has been to acquire everything at auction and that’s really to give investors comfort so you know these questions of authenticity or you know price things like that tend to go away if people know that we’ve acquired paintings in a public auction contract.

Buck: Right so let’s talk specifically about Masterworks because I have to say it, I mean I think it’s just a brilliant concept can you tell us how it works and you know at a high level first and then if you would just kind of take a step by step through the process of how one would potentially get exposure to art.

Scott: Sure yeah so very high level I’d like we talked about is you know if you’re an investor and you conclude in today’s world that you want to allocate 5% of art there’s there’s not an effective way to do that other than by buying paintings and for all the reasons you talked about I think the vast majority of people don’t know anything about the art market and really don’t don’t even necessary want to know about the art market or recognize that it’s this interesting asset class. So our approach to solving that problem has been to go out, purchase an individual artwork a single artwork using balance sheet capital, file that painting with the SEC to go public very similar to how Uber goes public, and then sells shares and that painting so everyone can gain exposure to that that individual asset. So that’s the platform we have today and that’s that’s how you you really allocate these assets so most of our investors and they think about building a portfolio of art they’re thinking about purchasing shares and different paintings over time so they can they can construct a securities portfolio rather than a paintings portfolio whole assets over time.

Buck: Let me ask you this because when as I serve alluded earlier we have fairly sophisticated audience and probably there are people wondering at this point wait so you’re going to actually file this with the SEC you’re not going to do some kind of a Reg D exemption but then these are you know asset specific offerings so isn’t that a long process? Like to you know take a piece of art, so presumably you guys are buying it yourself because there’s no way you’d be able to you know raise capital that quickly on a particular piece of art if you were not doing some sort of a Reg d exemption. Can you just explain kind of like the nuances there because that’s probably something that you know people are curious about.

Scott: Sure yeah so we we’ve created this community today of really exclusive investors interested in art as an asset class so the minimum investment per painting is ten thousand dollars. There are certain cases for various reasons why people may not meet the accredited criteria and that’s that’s why we filed these with the SEC. You know I would say that the other the other benefit that these qualified offerings give investors important things that we struggle with a lot as a business there’s a lot of people that aren’t involved in the art industry that look into the industry and say this is a messy unregulated industry that sort of operates lots of people that you know may can’t trust. Qualified offerings do bring a new level of transparency in an asset class that historically has been entirely unregulated. So we frankly use it as a selling point and a trust signal so investors can get comfortable with the asset class.

Buck: Got it. So is there like you mentioned something about another group where there’s a minimum of 10,000 what is that a separate group that you have or a separate type of platform or whatever that is that is dealing primarily with accredited investors or?

Scott: No I mean a hundred percent of our one hundred percent of our offerings are these qualified SEC offerings. Again that has less to do about investor size and more to do with just bringing transparency the asset class. So yeah so it’s 110 the offerings are registered qualified offerings.

Buck: So it’s interesting you know I’m thinking about the process in just the nuances and I apologize for just pounding on this a little bit you buy these you buy these pieces of art you guys are buying them right that with your own capital and then how long does it actually take out of curiosity to get the actual SEC registration from there?

Scott: Yeah that’s a great question so we I mean the SEC had never seen a product like this before yeah so we filed our first painting to go public with the SEC you know a year and a half ago and I think it took 14 months to get the first one qualified. That was certainly a long process. We think on a go-forward basis that process is around 45 days and we have two other paintings right now that we filed subsequent to that that are the process of being qualifying that that looks like that looks like the amount of time it’ll take.

Buck: Yeah I mean and I think there’s probably just some additional advantages there to where like if you’re trying to take a you know 10 20 million-dollar painting down you don’t have to deal with like the Reg you know an entity where you have a ninety nine investor limit or whatever so that’s cool. Let’s kind of move on a little bit I just curious so it’s an art art piece specific funds so it’s not just like a blind fund where you’re just buying art right so you just say you’ll post okay we have a like a Warhol like and I believe you had a Warhol or something like that recently right, go ahead and tell us how that’s how that worked.

Scott: Yeah so we have a Warhol that’s still available I think the offering probably sold out sometime in the next week or two so it’s it’s almost and then we have two other paintings coming up coming up after it but yeah I mean investors can see the individual asset so it’s not technically a fun they’re really individual vehicles that whole individual paintings right and that that’s that’s sort of a strategy that we believe in we think maybe there’s an opportunity in the future to do a fun but we really think with art it’s important that you can see the asset, analyze the individual asset, come to your own conclusion around your investment thesis with that painting and then decide how much capital delegate. I’m part of you know part of art in general is a visual asset it’s sort of you know unlike a reach or something that might be a bit more technical it is nice to see these paintings and make a decision before you allocate.

Buck: Yeah and I would just add to that I’m a big fan of the asset specific offerings there’s a general rule even in real estate because of there’s a certain level of efficiency of capital for investors you don’t have dead money sitting around waiting to acquire something you know and I think that’s that’s another advantage what so we taught you so what other I mean I don’t know how long you’ve been doing this but do you have some other examples of artists that have gone through this process?

Scott: So the Warhol’s the first painting that we’ve done business has been around slightly more than a year and a half that’s really the first the first painting of the platform. We have I think eighteen thousand investors signed up now and then we the next painting that will be coming up in the near future is a Claude Money and that’s a seven million dollar painting. So you know we intend to roll out one of these paintings every every month or so for people to allocate to.

Buck: Cool. And once you buy the art where do you keep it because obviously you know it needs to go somewhere really really safe.

Scott: That’s a great question. So we have for your listeners there in New York we have a gallery in Soho at West Broadway in Broome so anyone can stop by the gallery at any point in time during the day and see paintings. At some point we will likely cycle those paintings either into fine art storage or send them on exhibition when institutions or museums have relevant relevant shows for artists. So like even with the Monet the divert museum had a Monet landscape show for late nineteenth-century Monet landscapes that that was a really relevant over the painting that they own.

Buck: Got it and so that actually solves another issue which is like we own people who like to buy these types of things they like to actually go and feel like they own it so you’ve kind of you’ve kind of actually circumvented that challenge right there. I presume there’s a big process of insurance and you know how does that work I mean you got it it’s got to be pretty expensive to insure this stuff right?

Scott: Yeah insurances is obviously a critical issue that we think a lot about we take those insured values and we adjust as effectively for investors so that they’re always they’re always fully insured if something happens to a painting but yeah insurance is critical if it is interesting when you think about real estate compared to our with art you do have insurance you have storage and transportation you don’t really have significant carrying costs. These assets are pretty easy relatively to maintain sure so it’s nice from that perspective that you don’t really have an expense drag on the returns over time.

Buck: So you’re probably I mean you’ve got to have a sense early on just to factor in the cost of insurance etc how long the hold period is talk a little bit about that how do you decide you know do you know from the get-go the idea is we’re gonna hold this for you know 10 years we’re gonna hold this for 5 years how does that work?

Scott: Yeah so art is very similar real estate in a liquid asset class. We tell people that they they really should expect that there’s there’s really no liquidity the investment for the first few years. It’s very hard to purchase a painting and sell a painting and get after you buy it for a whole host of reasons that are specific to the art industry so I would think about the whole period in general between three and seven years mass sources a company is in the process of launching training windows so that investors have the ability to sell their securities rather than only rely on us to sell the painting. So there will be some ability for investors to get liquid before the painting sells but those trading markets haven’t launched and it’s unclear at this point how much liquidity there will be. So I still think it’s important for investors to think of these as three to seven year illiquid holds.

Buck: Are you looking at are you looking, out of curiosity at any of the tokenization models for that.

Scott: We hear about blockchain stuff all the time you know I think it is it’s certainly interesting. The reality is we live in a very regulated world all of our offering profile goes to the SEC. We have a broker dealer on the offerings who is governed by FINRA. You know the the blockchain stuff is interesting but from a regulatory perspective in the US at least I think we’re a long way from making that a reality.

Buck: Well they’re certainly making some strides you see tZERO which is Patrick Byrne’s new platform and there’s you know that’s basically Securities tokenized securities. But that’s certainly making things easier. So that’s really interesting though. So in terms of the liquidity part of it, do think that if you did it as of right if you the way you were thinking about theoretically it would just be in some platform within your business that you’d be able to exchange or buy shares correct?

Scott: Correct and it’s very similar to have Lending Club for example works with folio of power trading platform with a very Co system.

Buck: Got it. Well let’s talk a little bit about sort of where you’d think this is going how you’re gonna how you’re going to continue to grow this you know any other features that you think that you’re gonna have on masterworks over time obviously because it’s brand new.

Scott: How do you how do you think about the factors that are driving our prices over time and and you know how do we think about that ten years from now 20 years from now. So you know we have a research team that master works and we’ve done a lot of work studying or a market returns in general and it sounds like your your listeners are familiar with real estate so they’re probably familiar with Case Shiller which is an index that tracks returns of real estate. So one of the things that we’ve done from a research perspective is frankly trying to replicate what Case Schiller did with real estate several decades ago. So as I mentioned earlier roughly half of the art market trades through public auction. So our research team has went back in history and identified at this point over thirty five thousand times a painting has been purchased and then later sold publicly to understand the returns on individual objects and then it construct an art market index to analyze our market returns and that’s led to a lot of questions and some answers around really what’s what’s driving prices in the art market. So we think there’s there’s two main things that drive prices in the art market and are correlated with price increases: one very high level is that we believe our prices are correlated to ultra wealth creation on a global basis. So the wealthier people get around the world, the more we expect art prices to go up and we haven’t proven that yet but there does seem to be some correlation between for example art prices and luxury goods indexes. The second thing that we believe which we can show I think is correlated is art is one of the very few asset classes where you have a continuing decline in supply, and this is this is really unique to art overall but if you think about a particular artist such as Andy Warhol so when he was living made all these paintings, he subsequently died. Paintings got acquired by collectors and then collectors tend to donate those paintings to institutions when they pass away when they get divorced when they go through life events so every single artists market over time has this continuing decline and supply which we believe drives prices up and and even if I look at the artists that I collect personally and artists that I know really well taken artists like Jackson Pollock to my knowledge there’s there’s 21 drip paintings sort of iconic paintings that exist in private collections today. Out of those 21 there’s only a handful that I think any art critic would regard as as good drip paintings being you know well executed good paintings. The remaining are probably B or C examples but those B or C examples are still selling for three million dollars because nothing else left so if you want on a trip as a collector those are the paintings that you can buy. So then that dynamic of decreasing supply is really unique and you know I tend to think about other asset classes like real estate or like gold where supply is actually increasing right with gold you’re mining more gold every single year with real estate you’re building more homes every single year so I think it’s you know I think it’s unique to the art market that you have defining supply for these individual artists.

Buck: Yeah absolutely this is a deflationary thing whereas in even in real estate we have finite you know places where we can build and stuff but at the end of the day if we’re talking about a specific artist you’re just not gonna see more of it especially since they’re dead. So that’s fantastic. Well listen we’re where can we learn more and how can we get involved?

Scott: Yeah see if you can go to Masterworks.io anyone can sign up to apply for a membership to begin investing in these paintings. If they mention your your name we’re happy to let them skip the waitlist. We have a waitlist now several thousand people and yeah we’ll hop on the phone and walk them through the asset class high-level talk about particular offerings that we have available and get them involved.

Buck: Fantastic. Scott thanks for being on Wealth Formula Podcast.

Scott: Thanks Buck.

Buck: We’ll be right back.