by Joseph L. Breeden and Sisi Liang, featured on Forbes Lifestyle on 6/29/16
“Wine has been an investment for hundreds of years. Buy five cases. Sell two. Drink three.” Joe Marchant from BIWine offered this straight-forward answer.
When a chateau holds back 20% of their production for sale after the value appreciates, that is an investment. When a distributor buys inventory to resell, that is an investment. When a restaurant fills their cellar for the pleasure of elite diners at an appropriate mark-up, that is an investment.
However, in an age of 401k’s where experts constantly advise that the novice can do well by investing in stock market index ETFs (Exchange Traded Funds), perhaps the question means something different.
Can an outside enthusiast invest in wine purely to buy and resell for a profit? Not everything can be an investment for the enthusiast. To be an investment, certain characteristics are required.
We should consider each of these to determine if wine can be an investment for the wine industry outsiders.
Aside from the obvious pun, is the wine market sufficiently liquid for an investor? Liquidity can be viewed as the time lag required to sell a wine and the transaction cost in doing so.
Jeff Zacharia, CEO of Zachys Wine and Liquor, Inc. explained, “We take care to know our sellers. We will visit their cellar and share a bottle before we consider selling their wine.” Assuring the integrity of the wines offered for auction takes time–two to five months to sell a wine at auction. Given the time needed to buy and sell wine, wine auctions are not a mechanism for market arbitrage. Rather, wine is a long-term trading opportunity.
As for transaction costs, most auction houses apply a fee of 20% to 22%, either deducted from the sale price (hammer price) or added as the buyer’s price. To an investor, that means that the wine must appreciate enough to cover a 20% fee assessed on the final sale price and whatever annual rate of return is desired. If wines had a rate of return equal to the annual return of the S&P 500 between 1980 and 2015 (8.4%), almost three years would be needed to break even. The expected rate of return for a wine investment will be the topic of another article, but clearly this sets a significant hurdle.
Giles Cooper, Head of Marketing & PR of BIWine, explained that these issues of market liquidity were problems they sought to solve. “BIWine is still the only market maker in wine,” although they make a market only in a specific collection of about 100 wines. This means that if you are buying or selling wines held in their stock, the trade is immediate and the transaction cost is in the 5 to 8% range. “We can’t make a market in Burgundy, because there just isn’t enough supply,” but they can create the kind of market familiar to investors, at least in the most popular French Bordeaux wines.
When investing in an asset, that asset must last until it can be sold. A florist understands that cut flowers must be sold quickly before they wilt. Given the long times needed for appreciation in wine, the wine must last and retain its inherent value. This strongly limits which wines are suitable for investment. The so called “Blue Chip” Bordeaux and Burgundy wines have this lasting value.
Significant expertise is required to find other investment grade wines, but Jeff Zacharia explained that your favorite Italian or Australian wines are really just to enjoy with dinner. That said, according to data from auctionforecast.com, over the last decade, Zachys auctions have included roughly 12% Californian and 6% Italian wines. Across a dozen top auction houses globally, auctionforecast.com estimates that Bordeaux wines fill for 50% of auctions, Burgundy 14%, and the rest are from California, Italy, Australia, and elsewhere. Although being sold at auction does not guarantee it is suitable for investment, it does demonstrate that a secondary market exists for these other wines.
Critical to durability is careful storage. A display of bottles of fine wine can be a beautiful work of art, but an investor must be more careful. John Hart, Chairman of Hart Davis Hart explained that careful storage is essential to their business. “What if your cooling system goes out for a week?” Mr. Hart explained that they take pride in their storage facilities. For HDH, 15% of their buyers keep the wine in storage at HDH longer than 60 days. For investors or those who want to drink the wine in perfect condition, taking delivery could be too great a risk.
“You have to have a lot of trust in who is storing your wine,” concluded Mr. Hart.
What if the wine storage facility is a fraud? Investors must be careful in choosing where to store their wines. Among the most famous cases of wine storage fraud is that of Mark Anderson, where he sold off the wines supposedly being stored for others, and eventually tried to destroy the evidence along with a quarter billion dollars in irreplaceable wine.
What if the wine itself is a fraud? Numerous stories exist of wine forgery, but Rudy Kurniawan’s forgery of tens of millions of dollars in rare wines is notorious. Forgery of investment grade items is nothing new across many industries. Where a breeder of champion racehorses might discuss pedigree, “provenance” has become critical to wine investment. Since options are limited for peering inside the bottle, the best bottles are tracked back through storage and transport to their chateau of origin. “Know your seller” seems to be the essential message.
An investor can profit either through appreciation in the value of the asset or by taking advantage of market movements. A barrel of oil does not appreciate with age, but a trader can profit as supply and demand moves prices. Collectibles can increase in value with age and yet have a fairly flat market.
Wine has both aspects. Wine appreciates systematically with age as the quality and the scarcity both increase. The market for wine can be quite volatile, as seen through the 2010 bubble.
However, market watchers debate both of these items. Does wine appreciation exceed the transaction and storage costs? Will the market experience future bubbles like the Lafite Bubble, or was that a one-time surge as the Chinese market developed and then matured their taste for fine wines? Future columns will pursue these questions in depth.
Some yes, some no
We can say with certainty that many wines do not qualify for investment. We regularly get emails saying, “I found some bottles of this wine in my father’s closet. Are they worth anything?” It’s doubtful, if only because of the complete lack of provenance.
“We have a pretty smart market now,” explained John Hart of HDH.
Mr. Hart explained further that the Chinese buyers and those who seek to invest have gotten much smarter about wine selection and vintage selection. “HDH doesn’t just auction wine. We try to educate people on how to select wines to buy.”
Looking across the fine wine market, many steps are being taken that appear to make wine more of an investment. Liquidity, durability, and integrity of wines and wine transactions have all seen significant advancement in recent years.
Between a blue chip wine in a climate controlled storage facility and a bottle from your father’s closet is a vast minefield scattered with buried treasure. Looking for the gems among the bombs will keep us busy in this column for quite some time.
Joseph L Breeden, PhD has been building forecasting models for over 20 years for such areas as currency futures, sporting events, agricultural commodities, and loans. The methods he pioneered in his book, Reinventing Retail Lending Analytics (2014) are considered are considered best practice in the industry and performed well through the US mortgage crisis and many other international economic crises over the last 20 years. His love of wine and data analysis led to his participation in auctionforecast.com.
Sisi Liang loves to find connections between seemingly unrelated ideas. Her curious mind has taken her to places from business strategy to entrepreneurship, from angel investing to marketing strategy, from metals mining equity research to regulatory stress test modeling in the largest financial institutions. She's a trailblazer and a ruckus maker.
Sisi holds a BA in English and Mathematics double major, with Honors, from Washington and Lee University, and an MS in Quantitative Finance. She is also an alumna from Seth Godin's altMBA program. Her passions for forecast modeling, the poetic and commodity elements in wine, yoga, along with her curiosity in the interconnectedness in diverse fields have drawn her to the collaboration of auctionforecast.com.