Sotheby’s next hot auction: a Picasso-backed bond

Financial cubism. Francisco Goya’s Saturn devoured his son; Damien Hirst cut a shark into pieces. Financial markets are similarly keen on slicing and dicing. Now auction house Sotheby’s, owned by French billionaire Patrick Drahi, is bringing investment creativity to the art world by parcelling and selling chunks of loans secured by Picassos and Manets. The avant-garde $500 million securitization could boost art-backed lending. But there are good reasons why paintings have so far resisted such alchemy.

The wealthy spend a lot on art: Ignoring pandemic-scarred 2020, annual sales have averaged $65 billion since 2014, according to UBS. Sotheby’s Mei Moses index, which tracks prices of repeat sales, grew at an 8.5% rate between 1950 and 2021. But collecting can be a financial drag. With the value of privately owned artwork and collectibles exceeding $2 trillion, Deloitte reckons, there’s a lot of capital hanging on walls.

Collectors can unlock some of that by using their Rothko paintings as security for a loan. The wealth management arms of big banks provide credit, as do specialist firms like Athena Art Finance or Art Capital Group, as well as Sotheby’s and rival Christie’s. Loans are typically 40% to 60% of the value of a collection, and lenders generally prefer multiple works by established 19th and 20th century artists. Loans that offer recourse to a borrower’s other assets may carry an interest rate of 3.5 percentage points or so over a benchmark, while non-recourse debt costs roughly twice as much.

Banks with big balance sheets and lower funding costs dominate the market, which Deloitte pegs at maybe $34 billion of outstanding loans. Securitization could unlock new sources of financing. Slicing a portfolio of loans into tranches of varying risk, with ratings as high as AAA, can appeal to a broad range of buyers at attractive costs.

Art loans, though, are different from securitization staples like credit card and mortgage debt. Valuation checks only happen annually, and accurately divining the worth of a one-of-a-kind Mondrian is a lot trickier than valuing a property. Art lenders have dabbled with securitization before, according to one practitioner, but could not attract enough interest from investors without costly insurance policies.

The Sotheby’s offering is bigger, provides strict protections for investors, and offers the valuation nous of one of the world’s dominant auction houses. Even so, to overlook the complications and appreciate a bit of financial cubism, staid buyers of asset-backed securities will have to rely on the reputation of Drahi’s auctioneers.

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Sotheby’s on April 8 submitted a Securities and Exchange Commission filing for Sotheby’s ArtFi Funding. The auction house will use the vehicle to market a securitized portfolio of personal loans extended by Sotheby’s Financial Services to its customers, secured by the value of their fine art collections. Deloitte in November forecast that the art-secured lending market would reach up to $34 billion at the end of 2023, while predicting growth of 8% in 2024.