Navigating Risk within the Wine Market
Matthew Small, Portfolio Manager
With ongoing financial uncertainty, the allure of the wine market’s growth and stability is leading more investors to increase their exposure to wine as an asset class.
In the recent Cult & Boutique podcast, we looked at how professional investors look at risk-adjusted returns when assessing and managing investments. We have seen that wine has lower price volatility than the mainstream asset classes but what are the inherent risks in investing in wine and can effective portfolio management help to mitigate these?
The largest crash of the modern wine investment era happened in May 2011. Leading up to the crash the Liv-Ex 100, the benchmark wine investment index, was up circa 70% in the previous 16 months. This strong performance was driven by Asian demand following a 4 trillion yuan stimulus package in China.
The market was running hot with the 2010 Bordeaux vintage being priced at a 13% premium to the previous year
The trigger for the crash was two-fold. The market was running hot with the 2010 Bordeaux vintage being priced at a 13% premium to the previous year. American buyers with their cellars recently topped up with a strong 2009 vintage and recovering from the 08 financial crisis withdrew from the 2010 campaign.
Secondly, China announced a crackdown on gift-giving of luxury goods among government officials. This sudden halt in Chinese and American demand saw the Liv-Ex drop 33% over the coming months.
Thankfully the wine investment market has evolved since 2011. The primary fine wine market is now worth circa £4bn each year with a global reach of market participants ranging from wine enthusiasts to institutional investors.
The 2011 crash was symptomatic of an immature market which lacked diversification. The broadening we’ve witnessed has created a situation with Bordeaux comprising circa 35% of the total value traded compared to 95% in 2011. Regions like Burgundy, Champagne, Italy and California have added diversification to the market and reduced non-systematic risk, more than ever investors understand the importance of diversified portfolios.
Diversification is protection against ignorance.
– Warren Buffett
Over the last 5 years, we can see that all 3 wine indices have produced steady market returns as the wine market has evolved. It is no surprise that the top-performing Liv-Ex 1000 is also the most diversified of the three indices.
Interestingly it was the weakness in sterling due to a potential Brexit in 2015 which stimulated the next bull market. The current sterling weakness bodes well for the wine investment market given circa 65% of demand is in non-sterling-denominated currencies and the main wine exchange base currency is sterling.
Investment wines with 95+ point critic scores, low production and with a strong brand have a more international scope and the ability to outperform despite regional differences
Since the 2011 market correction both the benchmark index, the Liv-Ex 100 and the broader index, the Liv-Ex 1000 have enjoyed steady growth despite a few regional underperformers. One country that has struggled in recent times is Australia. In March 2021 the Chinese government formalised a 116%-218% tariff on all imported Australian wine. At the time China was the biggest importer of Australian wine.
This saw the Aussie wine export market to China shrink from A$1.1bn to A$25m in just over a year with the majority of the losses in sales coming from everyday drinking wines. We also saw a reduction in the fine wine market where Australian wine trading volumes fell less dramatically from 34.1% on the rest of the world index to 22.9% YTD.
As discussed in previous articles, identifying investment wines with a 95+ point critic score, low annual production, long drinking windows, an ability to age and a strong brand limit downside risk and tend to outperform despite regional challenges. Grange from Australia’s producer Penfold is a great example of a wine with international appeal that outperforms despite regional challenges.
Most recently we have seen the Sterling depreciate against both the Dollar and the Euro. With the majority of the on-exchange secondary market denominated in Sterling, this is clearly good for the non-sterling investor, but how do we mitigate FX risk for the UK investor? Firstly, with around 65% of the total value demand on Liv-Ex coming from non-sterling-denominated currencies, a weaker Sterling is good for those who already own investment wine. We saw back in 2016 when the Sterling value depreciated due to Brexit, this was the initial catalyst for a market bull run.
So, what about the UK investor looking to get into fine wine? With the strength of both the Dollar and the Euro, the US and European primary market may be a more expensive entry point. Instead, invest in high-quality wines already on the secondary market from classic vintage years, listed in Sterling. Thankfully this is easily achieved with both the two main wine exchanges based in Sterling.
The FX differential also provides profitable exit opportunities. At Cult & Boutique, we can list wine on American auctions due to our ongoing relationships with the two main US auction houses, Acker and Zachys. This provides our clients with the option to maximise the Dollar value of their wine and convert it back into Sterling. This can often be a more profitable option than selling in Sterling and is something we closely monitor for our clients.
Despite wine having the lowest price volatility of the main investment asset classes, like any investment, it’s not without risk. Working with an experienced portfolio manager can help mitigate a lot of these risks through diversification, asset selection and active management. At Cult and Boutique, we tailor each client’s portfolio to their unique time frame and return requirements.
