Fine wine investment: Secondary market

Our recent explorations into the wider reaches of the market, with particular reference to Burgundy, have given rise to a lot of enquiries about whether there is any secondary market light at the end of the tunnel for a vast range of esoteric wines that unsuspecting people have been sold as “investments” in the past.

We talk a lot about risk in our discussions about the fine wine market for the profoundly important reason that the concept of risk, and its management, is fundamental to the investment process. At Amphora we offer an investment proposition, not a blind foray into wine ownership. As a result when we go off piste we make it very clear both that we are doing so, and why, and that any resultant risk is under control.

Yet we constantly see collections of wines whose secondary market has never seen the light of day, and which often dominate those portfolios to an alarming degree. Well of course its not alarming at all if the objective is to drink them one day, but it is absolutely catastrophic if you are hoping to make a nice investment return.

Many of the victims of situations like this have no idea what the lack of a secondary market means. The fact of the matter is that the fine wine market is sufficiently illiquid even at the most tradeable end that most merchants will bid a double-digit discount to their offer price for any seller in need of a cash transaction. That is not in any way unfair, by the way, it simply reflects the fact that the merchants are going “on risk”, meaning that they may not be able to find a buyer at the price at which they would hope to sell.

We used to have a client whose main business was second hand car dealing, and there was no-one more vociferous about pricing, yet the two situations are very much analogous. We would ask him if he might ever buy a car and put it out on the forecourt at the same price. It simply does not happen, and the reason is that he is providing a service for which he justifiably expects to get paid. That payment comes in the spread between what he buys a car for, and the price at which he sells it.

Merchants operate in the same way, so let me make as clear as possible the fact of life that unless you are paying someone a fee for conducting a transaction for you in a physical good of any kind, they are taking a spread. Even in a world as liquid as foreign exchange anyone offering you a “commission free” transaction is taking your eyes out on the spread. People like M&S and the Post Office even advertise the fact through their “we buy at… we sell at” rate notices.

Some wines, of course, are more tradeable than others, so the spread is reduced even to single figures on occasion, but if you are trying to offload a magnum of something perfectly desirable like Le Pin, you are exposed as to whether your counterparty (usually a merchant) really wants it (lower spread), or not (higher spread).

How we at Amphora address this is to try and operate more of a willing buyer willing seller arrangement in an attempt to trade within the spread, and while this is not always possible we do often manage a preferential deal for both parties than if they were exposed to a spread. The problem arises when you can’t find hide or hair of a buyer.

“But isn’t it your job to find a buyer?”

The answer to that question reflects our position as an investment house rather than a retailer. An investment house by definition can only deal in investment grade wines, and this is where we still find a degree of confusion. “Investment grade” is not synonymous with “fine wine”, by which we mean that it is perfectly possible to have a wine which improves over time as it ages in the bottle (the customary definition of a “fine wine”), but for which there is simply no ready secondary market.

To be clear: investment grade = fine wine + secondary market.

We apologise to all readers who may already know this, but our experience is that “investors” are constantly hoodwinked into parting with money in exchange for something which there is absolutely no guarantee of their being able to sell. As a result from time to time we feel it important to reinforce the message.

As the fine wine market expands more and more wines are becoming tradable, so it is perfectly possible for people to get lucky and end up with a wine which has suddenly found a secondary market, and thereby make a profit which would have been denied a buyer of the same wine in the past. The market is evolving and as it grows and more people become interested in it the number of new wines making the grade increases, which is all to the good.

The fact remains, however, that at this point there are more fine wines failing the investment grade test than passing it, and an investor in this market place needs to be aware of this. There is even a very coherent way of playing the potential for wines to make the grade, and that is by allowing them to be absorbed within a portfolio of “safer harbour” wines which you know you can easily sell. We call this mitigating your risk.

The bottom line is that we would prefer investors only be exposed to market risk. “Known unknowns” tend to be a lot less damaging than “unknown unknowns”, yet it is the latter which confound most portfolios that are sent to us for audit or review, and by far the biggest torpedo results from the absence of a secondary market for many of the wines.

Philip Staveley is head of research at Amphora Portfolio Management. After a career in the City running emerging markets businesses for such investment banks as Merrill Lynch and Deutsche Bank he now heads up the fine wine investment research proposition with Amphora.

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