Risking the Lot – Subprime Stupidity and Art Auction Arrogance

cash trap Risking the Lot   Subprime Stupidity and Art Auction ArroganceThe US subprime housing crisis is one of those things that makes you wonder what the people involved were thinking. The lenders had to have known the risks involved in lending money to people to buy a house who couldn’t get finance through the more main stream, traditional lenders yet these lenders let these people borrow money anyway driven by what could only be described as blatant greed. Lending money to people who have the highest probability of not being able to pay the money back is risky enough but when you add the possibility of property values dropping below the value of the mortgages which would result in the lender not being able to recoup the money that they lent, the risk goes through the roof.

It would seem that the art auction houses are taking the same risks as the mortgage lenders by giving minimum price guarantees to their clients which means that they are gambling on their ability to achieve the sale prices they have promised their vendors. As an indicator of how much risk some of the art auction houses are taking, Sotheby’s have given minimum price guarantees for a massive 78% of the value of one of their contemporary art auctions to be held in March which equates to approximately US$200 million.

Regardless of whether or not the artworks reach the minimum guaranteed price that the auction houses have given, the auction houses have to pay the vendor the promised amount of money. The reason that the auction houses give guarantees is to entice the sellers with the most valuable artworks to sell through their auction house. By having the most valuable artworks to sell, auction houses get more publicity, more bidders and potentially greater profits but by giving minimum price guarantees they are also risking their reputation and business. Just like the subprime mortgage lenders it would seem that greed is motivating the art auction houses and just like the subprime mortgage lenders the auction houses are creating a time bomb which could explode at any time.

Not only are the auction houses risking their own businesses but they are also creating false expectations of the art market and presenting a manipulated view of the art market by promising minimum sale prices just to secure the sale of particular artworks which may not reflect the true market value of the artwork. If there were to be a situation where the auction houses were not able to sell the artworks for the prices that they had guaranteed the sellers then there would not only be significant repercussions for the auction house but it would also be likely to cause a general panic in the art market which would effect many people. As far as I am concerned the auction houses are taking far too many risks and not considering the consequences for themselves and others but greed can unfortunately cause people to make significant errors of judgement.

 Risking the Lot   Subprime Stupidity and Art Auction Arrogance**Nicholas Forrest is an art market analyst, art critic and journalist based in Sydney, Australia. He is the founder of artmarketblog.com, writes the art column for the magazine Antiques and Collectibles for Pleasure and Profit and contributes to many other publications.

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  • Adam

    Perhaps if a duopoly did not exist but instead many auction houses thrived in the art auction market, these minimum price guarantees wouldn’t be too risky, because at least they would be spread out among many auction houses, with each auction house possessing not too many of them. But because of the present duopolist market which exists, by competing for clients through the use of minimum price guarantees, Sotheby’s and Christie’s have put themselves in very vulnerable positions.

    In regard to the subprime crisis comparison, while the lenders should be blamed, I do believe that they weren’t 100% aware of the state of the subprime market. Specifically, many borrowers lied about their occupations and income in order to obtain these loans. Further, rating services did an awful job rating the quality of these mortgages, which certainly contributed to the credit crisis. We can only hope that Sotheby’s and Christie’s have a better sense of the art market than lenders did about the subprime market, because if not these minimum price guarantees really could bite them in the butt…and we should find out soon enough with the big NY auctions coming up!

  • http://www.artforprofits.com artforprofits

    Hi Adam,

    I think that the risk is there regardless of the existence of the duopoly because it is the outside influences that have the potential to have an impact on the art auctions.

    Regards,

    Nicholas Forrest
    artmarketblog.com

  • Adam

    Hi Nicholas,

    I agree with you, I was simply stating that because there are only so many artworks, the fact that there is a duopoly in the auction market, only two houses are holding all of this risk rather than it being spread out over more houses.

    Now that I have thought about it, I do agree with you very much about the comparison to the subprime market. Banks were making extremely risky mortgages that worked if and only if the housing market (which was nearing a bubble) continued to thrive. And when the housing market crashed, disaster ensued in the banking/finance world. This I find very interesting when relating the subprime to the art market, specifically these guarantees you speak of in your post. Only as long as the art market continues to be as successful as it has been the past few years will these guarantees work. But like the subprime, if the art market crashes or even falls just a bit, the auction houses are in trouble. Do you know how long in advance these guarantees are being made? If they are “stuck” in a lot of future guarantees, the auction houses are basically living or dieing with the success or failure of the art market. I think that is an extremely vulnerable position to be in, especially considering the art market is at an all-time high (or at least approaching it) and most of the global economy isn’t exactly too confident about present and near future times.

    At least a few banks like Goldman Sachs didn’t lose money during this subprime/credit crisis, because of hedging. I wonder if Sotheby’s and Christie’s should consider hedging, perhaps via shorting Sotheby’s stock….just in case.

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