Many a conversation on this topic has led to a debate about basic nomenclature… so we shall start with definitions. Then we can talk about the parallels with the art world, the psychology of buying watches as an investment (or speculation), and then round off with some concluding thoughts on the matter.
This is likely the first question a person asks when they find themselves with excess cash to put into some sort of vehicle, with the expectation of growing that money over time. Asset allocation refers to how you split your investment across different types of assets. On a basic level, that means deciding the proportions and distribution of your investment among the various options such as stocks, bonds, real estate and other such ‘traditional’ investments… but also includes the more exotic options like cryptocurrency, fine art, or even watches… more that the final one later.
Investment vs. Speculation
Now rather than trying to reinvent the wheel with definitions, I will refer to Investopedia which summarises it as follows:
- The main difference between speculating and investing is the amount of risk involved.
- Investors try to generate a satisfactory return on their capital by taking on an average or below-average amount of risk.
- Speculators are seeking to make abnormally high returns from bets that can go one way or the other.
- Speculative traders often utilize futures, options, and short selling trading strategies.
As discussed previously with Todd Levin, the issue with watches, is that you can’t attribute any inherent underlying value to the piece. When buying a share in Amazon, you can break down its valuation into all the relevant components such as buildings, prime subscriber revenue and so on… thus making you able to calculate the “present value of future cash flows” – you can then take a view on the future growth opportunities to decide what the share is worth, and buy or sell it accordingly; simplified, but that’s the general idea with investing.
What is a Rolex Daytona worth? If you buy one at retail, you can double your money (or more) the moment you leave the store – but there is no underlying rationale for this. Supply isn’t a problem, as the watches are readily available – people often cite ‘hype’ as the reason… ok fair enough. How do you quantify ‘hype’ and how does one feel certain that this ‘hype’ will sustain itself into perpetuity? I am not saying it will, or it won’t – merely highlighting how speculative it is, solely because there is no quantifiable driver for it.
Some comparisons to the art world
During a recent Clubhouse discussion about the investment potential of art, Nirmalya Kumar cited an example of a $90m art sale for a piece which had cost much less – this appreciation took place over a couple of decades, but when looking at the data, the same initial investment would have been worth $100-110m if invested in the S&P500. (This also doesn’t account for other hidden costs such as auction fees, storage fees, insurance over the duration of ownership and so on – many of which are relevant to watch ownership/sales too.)
During the same discussion, he explained how another study had evaluated the average return and the average volatility on portfolios of different art, and found that the returns were closely matched with US Treasury Bonds, but the volatility was more similar to the S&P500 – meaning that art would never have any place in an efficient portfolio, simply because you would not be getting adequate compensation for the risk taken.
To add to this, if you wish to invest or speculate in these alternative assets, you would need to disregard the common advice of ‘buy the best’ – because yet another study he cites in the art world, compares the performance of ‘the best’ art versus relatively unknown artists who later went on to do well – it turns out, you are better off gambling and ‘picking winners’ rather than simply buying the best- because the best stuff is already priced s such, leaving little room for upside.
In the art world, people trade on insider information all the time… whether it is knowledge about someone getting a solo-exhibition at a famous gallery, or some huge collector buying into a new artist’s work – these events cause a price spike, and knowing about them in advance is lucrative… and because the SEC isn’t there to oversee this stuff, it isn’t really spoken about. The watch world seems no different by the way… I once heard a story about large dealers who own several Paul Newman Daytonas… and have zero-commission arrangements with auction houses; What they do, is simply buy each other’s watches at auction, to maintain the price in the open market. Through this shady practice, the average joe on the street thinks that Paul Newman Daytonas are priced at that level – but it’s actually artificial. I concede this is heresy, but food for thought nonetheless.
If we can concede that ‘hype’ is unpredictable, and that watch prices have no underlying rationale such as defined supply/demand constraints, then we must agree that buying watches for potential financial gain is simply speculation. Sure, if you buy a Daytona today at retail, you’re likely not to lose any money tomorrow. However, if you’re trying to replicate this model, you probably won’t get very far since that same money would do better on the S&P500 over a few decades, as the Daytona won’t show the same compound annual growth rate beyond day 1.
I would argue, buying a luxury watch is meant to be an emotional purchase, and so, if you dissect it into a price/value discussion, the obsession with the data overpowers the emotional aspect and this simply drains the enjoyment from the hobby. Besides, predicting future value is in many ways related to predicting societal trends and economic conditions (which drive people to like a particular watch, and which allow them to be able to afford them) – now if anyone could do that, there are probably 100 better ways to profit from that!
I would start by saying watches are an asset class; they can definitely have a place in the ‘alternative investment’ category when making asset allocation decisions, but they will likely form part of the ‘speculative’ category, rather than ‘investment grade’ assets – and the simple reason for this, is they have no rational way of being valued appropriately (in terms of future growth potential).
With that being said, I think that entering the watch world with the intent of making money is a fool’s errand. Could you make money over time? Sure! However, in all likelihood, you will do better with other assets instead. What you DO get from watches is unquantifiable value, let’s call it happiness.
Happiness is not a conditional state… it is a state of being. It might feel quite pleasant to own a watch which is in high demand, which you bought at retail and which others can’t seem to acquire – but how long will that last? If your happiness is tied to some external driver like this, which you have no control over, you’re actually in a pretty bad situation. This is where the phrase “buy what you like” comes to mind – something which many collectors say to newer collectors. The nuance here, is that the emphasis must be on “YOU” – and in order to buy what YOU like, you will need to do a lot of research to find out what you like… independent of social media and other external influences. Once you find out what you like, buy it using money you can afford to lose completely!
After that, enjoy it – if the watch goes down in value, you won’t care – after all, you get your ‘value’ from wearing it, and in the joy it brings to you. Of course, if it goes up in value, happy days – your kids might inherit something valuable and that’s just a cherry on top – but if not, they will still have something to cherish, which you held dear to yourself, and which they in turn will hopefully cherish as well.