Imagine it’s still 2000: during the bubble, before Spitzer. The market’s white-hot,
and IPOs from hyped young companies are hugely in demand. The broker-dealers
deliberately underprice the IPOs they get, guaranteeing mark-to-market profits
for their favoured customers – the ones who can get in at the IPO price.
That’s bad enough, and in fact is more or less what happened in the US stock
market a few years ago. It also meant that virtually every bank on Wall Street
ended up paying a lot of money out in settlements, and many high-profile executives
were fined, lost their jobs, or worse.
But let’s say it didn’t stop there. Let’s say that the deliberate underpricing
applied not only to IPOs but to secondary offerings as well: that broker-dealers
would sell stock in Google, say, for $20 a share even when it’s already trading
in the secondary market at $185.
And that’s just the beginning. Broker-dealers also quite explicitly sell access
to their offerings for cash: you give me money now, and I’ll make sure that
you’re able to get in on the ground floor in the future.
And the much-prized access to IPOs and secondary offerings is based only partly
on the basic market relationship of how much money the investor has and how
much they trade with the broker-dealer. A lot of other factors come into play,
such as who you know, what your surname is, and whether you have managed to
gain a good reputation in the market already. In fact, it’s reached the point
at which investors wanting in on those offerings end up employing other people,
with good names, to represent them – just so that they can get the necessary
access to the broker-dealers. It’s a whole second level of intermediation: the
broker-dealers are the intermediaries between the issuers and the investors,
while there are also "consultants" who intermediate between the investors
and the broker-dealers.
But wait: there’s more. Let’s say that there’s a small open liquid market but
that there’s a much larger behind-the-scenes market, with opaque prices, where
the broker-dealers put together trades between buyers and sellers without ever
having to disclose how much is being paid. What’s more, the broker-dealers feel
so threatened by the open market that they quite explicitly try to place their
IPOs only with investors who won’t ever try to take profits by selling in public.
Much better that their investors, if and when they do want to sell, come back
to the original broker-dealer, and place the property for sale privately, giving
the broker-dealer another chance to make money as well as giving them valuable
proprietary information that is not available to the rest of the market.
In this market, the most revered investors are buy-and-hold funds which never
(OK, which almost never) sell their holdings. These super-investors make their
holdings public, and all the broker-dealers want to sell to them. The problem
is that the super-investors rarely if ever buy in the IPO market: they prefer
to sit back and use their enormous leverage behind the scenes, often acquiring
from smaller investors at prices well below market. One broker-dealer, in an
attempt to get an issuer into one of the super-investors’ portfolios, has even
told his normal investors that they have to give the lion’s share of whatever
they buy in the IPO market directly to a super-investor. No gift, no deal, and
the investor gets nothing at all.
You get the picture? So now a magazine runs an exposé
about all this, and a major blogger responds
"So [this stuff] sells and a lot of people want to buy it. Great. But
so what? And, er, isn’t people wanting to buy [this stuff] a good thing
Well, I’ve given it away now. The market I’m talking about is the art market,
the broker-dealers are the galleries, who are both brokers (trading privately
in the secondary market) and dealers (offering new works of art for sale). The
issuers, of course, are the artists, the investors are the collectors, the super-investors
are the museums, and the small open market is that provided by the auction houses.
The New York Magazine piece is shocking, and one of the most shocking
things about it is that it really doesn’t tell us anything we didn’t already
know. We’ve all become so used to the situation in the art world that it’s impossible
to shock us any more, even when we learn that galleries are selling paintings
to favoured collectors at just 10% of the price they would receive at auction;
even when we learn that a collector who spends more than $1 million a year on
contemporary art had to "invest" $75,000 in the Project Worldwide
gallery just in order to be able to be allowed to buy the art it was showing.
(And still he wasn’t able to, in practice: the paintings he’s now suing over
went to Jeanne Greenberg Rohatyn instead.)
What’s more, the galleries are quite shameless about their own behaviour: as
the article says, "dealers often rejoice, and collectors despair, that
the art world is the last big unregulated business in America." It’s so
clubby that even a budget of $1 million a year isn’t enough to give you real
clout: for that you need to be spending, um, real money. Like $300
The system as it stands doesn’t just benefit the galleries at the expense of
the collectors. It also benefits the galleries at the expense of the artists
(who could get much more money for their works than they get from their galleries),
and, more broadly, it benefits the established art-world names at the expense
of smaller players and newcomers. It creates enormous barriers to entry, especially
for anybody who might be interested in collecting art, and it creates a general
atmosphere of distrust and resentment which makes the art world one of the bitchiest
and most unpleasant arenas that anybody could ever consider getting involved
It used to be the case that someone with a great eye and limited funds could
amass an impressive art collection just by buying early in artists’ careers.
Today, collectors buy the work of great artists at low prices the whole time.
But those prices are only available to the richest and most established collectors:
Charles Saatchi, say, could snap up that Elizabeth Peyton from Gavin Brown for
$50,000 (that’s what they were priced at, at her last show there), but you
sure couldn’t. You will need to wait – and wait – and wait
– and eventually something will come up for auction, and there will be
such a frenzy for such a rare piece that it will go for half a million or more.
Which is just as artificial a number as that original pricetag.
Upshot: If you’re thinking about collecting contemporary art, don’t. You might
be OK if you limit yourself to multiples – just remember that prints on
paper have to be kept away from daylight. In general, however, the art market
is a high-stakes game played among sophisticated insiders, and you