Fine Wine Yearly Market Report 2011

This has been a dramatic year packed with extremes on the charts, price corrections, and another highly praised En Primeur vintage... While wine performance charts of industry benchmark Liv-Ex show a rather gloomy picture following the last trimester of the year, pure statistics and bare numbers don't explain the situation correctly. It's certainly important to face the facts but when we lift the veil we have a clearer picture of the individual factors that have influenced the market. By analysing these, we can see that there are plenty of opportunities ahead and that some of these factors may alter the picture in a positive way.

The problems in the financial markets and the struggles of the Euro are probably the main factors behind the recent dips in numbers and to investors losing confidence in highly priced liquid assets. When political and financial uncertainty rules everywhere we look, it's difficult to embrace a positive attitude towards an asset which has had an excellent track record. Are these prices too high? Is this a bubble? – we ask ourselves. It's probably better to be cautious, wait and see. When mass psychology kicks in it's very hard to keep Warren Buffet-like confidence in our very precious investments and act with logic rather than with emotion. But there are a string of good reasons why we should stay optimistic about the fine wine market, which we will cover in this report.

The first half of the year saw continuous rise on the charts until mid-June, dominated by Bordeaux trading. However, alongside the strong demand for 1^st Growth Bordeaux, especially at the beginning of the year, a trend for seeking out other more affordable investment opportunities started to emerge. This tendency continued throughout the year and became especially prominent during the last few months of 2011.

The turning point on the charts came after the release of the majority of 2010 Bordeaux. Following a successful En Primeur campaign, an uneventful August may initially have seemed a short summer break from trading desks however the return from summer holidays failed to bring back enthusiasm for mainstream Bordeaux. With sliding First Growth prices, the charts started to descend and by the end of November, The Liv-Ex Fine Wine 100 Index had fallen 18.3% since its peak in June.

Despite this drop, however, Liv-Ex claims that it's not all bad news and has published a technical analysis of the index's long-term movement which suggests an overall confident trend. The second chart below shows the Liv-Ex Index's progress since its inception in July 2001, along with support and resistance trend lines*.

*A support trend line identifies the level at which prices will be supported, should the existing trend hold. Resistance trend lines, by contrast, identify the level at which prices are more likely to fall, or experience resistance to growth. – source Liv-Ex

As we pointed out earlier, investors started to seek alternative opportunities to blue chip Bordeaux as early as the beginning of the year. As the year progressed, more and more wines entered the arena as possible substitutes. We saw great comebacks onto investors' radars such as DRC, Cheval Blanc, Petrus, Yquem and some other fine Burgundies. Following a few successful auctions in Hong Kong this autumn, Asian buyers now seem ready to embrace the challenges and complexity of Burgundy. DRC is now unquestionably having a revival after a few of years of neglect by traders.

The quiet but consistently successful contenders such as Supertuscan Sassicaia or Ornellaia have also been added to the lists of an increasing number of investors. Customers with successful wine portfolios should now also consider lesser vintages of great Bordeaux, the likes of 1997, 1992, 2002 or even 2007 – there are some real bargains to pick up from this pool. And last but not least, the Super Seconds have a fantastic year behind them, outperforming First Growths. Their prices have risen by an average of 21 per cent by the end of September, compared to four per cent only for First Growths. The best performers of this group are Pichon Baron, Ducru Beaucaillou, Pontet Canet, Lynch Bages and Montrose.

The two Liv-Ex graphs clearly show that the wine market went through a similarly turbulent period following the collapse of Lehman Brothers in 2008. Prices fell for six consecutive months. This decline stopped in the first quarter of 2009 and following a slow recovery, prices achieved new heights in 2010 and in the first half of 2011. Can we draw a parallel to this and believe that we have now nearly reached rock-bottom? Will Bordeaux First Growth prices return to the level achieved 12 months ago?

It is also worth considering the role of the wine world's great brands, such as DRC. These highly praised wines have undoubtedly lost momentum with investors over recent years. Despite market players broadly accepting their superior qualities, scarcity and their already high prices pushed them out while Left Bank First Growths ruled the market. Now they are most definitely having their comeback. Collectors and investors alike are paying out large sums of money to secure them, with price tags for top vintages of the best Crus (Romanee Conti '99, '05 & '06) now reaching the six-digit case (12 bottles) price zone.

If our prediction is right and we are soon to be entering a period of slow recovery similar to the one in 2009 then what would happen to blue chip Bordeaux prices? We feel two scenarios are likely. Either, their prices will remain static for longer than the next six months whilst collectors focus on other great investment wines. However, once some of these wines, e.g. Super Seconds start to reach the price levels of the First Growths then market players will certainly start to rethink their strategies. Equally, if nature is kind to wine producers and a forthcoming vintage is exceptional, the spotlight will once again be on Bordeaux and surely the top tier of 1855 cannot be disregarded.

Alternatively, First Growth prices will start to increase slowly again once we have reached the bottom of the market. Of course it's difficult to pinpoint the exact date for this but the role they play on the market is just too important to stay out of play for long. And let's not forget that we are talking about the absolute pinnacle of the wine world.

We can be also reassured by the comments of Robert Parker, the world's most prominent wine critic who recently published a list of his predictions for the wine market. The full list of his thoughts can be found here: http://www.winefuture.hk/index.php?opt=noticias&noticia=415 but the most relevant to our focus on wine investment is this:

"World bidding wars will begin for top wines - Competition for the world's greatest wines will increase exponentially: The most limited production wines will become even more expensive and more difficult to obtain. The burgeoning interest in fine wine in Asia, South America, Central and Eastern Europe and Russia will make things even worse. There will be bidding wars at auctions for the few cases of highly praised, limited production wines. No matter how high prices appear today for wines from the most hallowed vineyards, they represent only a fraction of what these wines will fetch in a decade. Americans may scream bloody murder when looking at the future prices for the 2003 first growth Bordeaux (an average of $4,000 a case), but if my instincts are correct, 10 years from now a great vintage of these first growths will cost over $10,000 a case...at the minimum. It is simple: The quantity of these great wines is finite, and the demand for them will become at least 10 times greater."

Furthermore, the wine market itself is going through some radical changes...

While until 10-15 years ago top quality wines were mainly bought by wealthy wine lovers who purchased a few cases so they could finance their future drinking, today fine wine investment is more mainstream. Coupled to this information is now so abundant and accessible, making the wine market increasingly sensitive to its environment and its players.

The financial world now widely accepts wine as an investment class in its own right. Mushrooming wine funds or financial institutions offering wine as an alternative investment reinforce this trend. The latest on the already long list is from China. Dinghong Wine Fund, China's first wine investment fund was formed in August and is targeting a 15% per annum return for its investors. According to the China Times, the fund offers investors a placement combining profitability and taste for claret or burgundy. "Once you have tasted French wine, you'll not turn back", said its founder Ms.Ling Zhijun. They plan to buy 40% of their wine as "En Primeur" and the remaining 60% in Bordeaux or Burgundy just bottled wines, where the ageing period is 10-15 years.

This year the investment world has grouped wine – alongside silver, art and gold - into a new asset class under the acronym SWAG. According to a leading industry magazine for professional fund managers "...the nature of each asset has its own fabric and character, but they all share a similar characteristic. Namely, notwithstanding two global recessions, a severe global banking crisis, a credit crunch and (generally speaking) highly volatile and mostly negative equity market performance, they have all appreciated quite sharply with a relatively limited volatility given the size of their appreciation. The FTSE All-Share index, by comparison, stands almost at the same level as a decade ago."

They established their common characteristics as:

1) They are all physical assets.
2) They all have longevity – Lafite will last for 50 to 100 years.
3) There is no incumbent debt associated with the asset.
4) They are transportable and relatively easy to store/hold.
5) There is scarcity – a finite supply.
6) There is no income stream – so no income tax liability.
7) Asset performance seems relatively uncorrelated to equity markets.
8) A sovereign default would not alter any of the above traits.

Liv-Ex published a chart and analysis on the performance of SWAGs: "An ideal investment is one that combines low risk with high return. Our analysis of the SWAGs' individual fortunes over the last decade reveals that fine wine (as represented by the Liv-ex Fine Wine Investables Index) has performed well on both counts. The Liv-ex Fine Wine Investables Index recorded the lowest volatility - a broad measure of risk - and the second-highest return in the ten years to August 2011, making it one of the group's strongest performers."

The chart below shows the annualised standard deviation (risk) and the compound annual growth rate (return) of each asset class. Art prices are based on the Art Price Global Index and all benchmarks have been converted to GBP to remove the effects of currency movements."

Coupled to this we anticipate demand to swell from an increasing number of high net worth individuals.

Source of chart: Liv-Ex

The world's high net worth individuals (HNWIs) expanded in population and wealth in 2010 surpassing 2007 pre-crisis levels in nearly every region, according to the recently released annual World Wealth Report from Merrill Lynch Global Wealth Management and Capgemini. The number of high net worth individuals (HNWIs are defined as those having investable assets of US$1 million or more, excluding primary residence, collectibles, consumables, and consumer durables) grew 8.3 per cent to 10.9 million in 2010, whilst their financial wealth rose 9.7 per cent to US$42.7 trillion.

According to the report "HNWIs are clearly motivated to acquire investments of passion (fine wine is included in this category) by more than financial considerations, and the amount of money flowing into this category tends to rise and fall with overall levels of wealth. However, many investments of passion are also solid financial investments and will continue to play a role in HNW portfolios, especially for HNWIs seeking investments with a low correlation to global financial markets."

Earlier in the year Liv-Ex pointed out that there is a strong correlation between the number of HNWIs and fine wine prices. This can be seen from the chart below, which tracks Forbes data against the Liv-ex Fine Wine 100 Index. They claim that this argument is strengthened by the findings of a recent IMF report, which suggests a close relationship between growth in emerging market economies - such as China - and fine wine prices (see second chart).

The fine wine market is undoubtedly going through a period of price adjustments. With greater economic turmoil in the background investors are rightly cautious. Investors are putting themselves in the backseat and are waiting for the right moment to re-enter the market. Fine wine has proven to be a very credible asset over the last decade, outperforming traditional investment options, and its success has attracted the attention of old and new collectors alike, creating a robust pool of interest. With the Asian market's love of luxury products and French wine in particular, the growing number of wealthy individuals in traditional and emerging markets alike, more and more willing investors are entering the arena. Meanwhile production of fine wine is the same level or even lower due to more rigorous selection both in the vineyards and in the cellar as it was 20 years ago.

While interest in top Bordeaux may have dried up following this year's En Primeur campaign and its prices continue to fall, autumn auctions have proved the revival of great Burgundies. Serious collectors should consider expanding their portfolios with some of these wines but their tradable quantities are tiny.

Diversification is therefore likely where availability is better and pricing more approachable, for example with Super seconds, and as investors broaden their horizons new wines will enter into the field of wine investment.

And once prices of top Bordeaux stabilise they will again be considered a good opportunity as we enter into another cycle with its highs and lows, readjustments and revivals.

Whatever stage you are at with your wine investment portfolio, we would be delighted to assist you.

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