Wine
A Pour Decision?
Introduction
Outperforming both equities and gold, the Burgundy 150 index, which tracks the best investment grade wines produced in the Burgundy region of France, ended 2018 on a very high note. The rising prominence of wine indices such as the Liv-ex 100, which outpaced the FTSE 100 and S&P 500 in 2018 (FT), along with the strong returns in wine as a result of the positive outlook of the economy, whereby demand is likely to increase, make investing in wine all the more interesting.
From the Bloomberg graph above, the volatility of wine is also seen to be much less than the indexed equities. This might make the investment more attractive for the investor looking for stability in the movement of their asset. This, however, should not be a main driver for investment as the issue of liquidity may not make the benefits of low volatility relevant at all.
This raises the question of whether or not an investment in the wine market provides consistently strong risk-adjusted returns, whilst diversifying your portfolio. This article argues that although wine has seen some strong returns, investors must be wary of their decision to buy into it due to the long holding period, the costs of storage along with the volatility and ultimate subjectivity of wine itself. Thus, wine can provide a good return for a small percentage of your portfolio, but the illiquid asset makes profits harder to pour.
What makes good wine good?
Investment grade wines appreciate because they age well. Their value increases over the years you hold it and makes for an attractive return at the end of the day. This article won’t dive into the acidity, tannins, alcohol level and residual sugar which are components which need to be balanced for an ageing wine. In simple terms, what makes a wine valuable is that it becomes better, albeit subjectively, over time whilst also retaining its demand.
You can find out more about investment grade wine here.
Investment thesis
There are two ways to invest into wine: purchasing your own cases of investment grade wine or buying into a set of wines that an index follows. The first requires judgement whilst the latter relies on an aggregate measure to make your decision. This short article will focus on wines from the Burgundy region due to their exceptional growth in 2018.
An example investment would be to simply purchase a case of 12 wines from a leading vineyard in Burgundy such as Domaine Armand Rousseau and holding these wines in a professional storage facility for 5–10 years which is a typical time horizon for holding investment wine. To spread your investment over multiple wines, purchasing cases from multiple vineyards in Burgundy will allow for a more diverse wine portfolio but concentrated on a region known for good returns.
Key drivers and catalysts
The reason wine is increasing in value is due to interest from ‘new money’ coupled with the recently booming economy. Asian buyers have driven the demand for wine due to their booming wealth, especially from China, causing wine prices to increase exponentially in the past decade.
Further, prices for the region of Burgundy’s wine has been driven up by the scarcity of the wine and its rarity in recent years. This has been reflected in other regions such as Bordeaux as well, as supply of wine and wine production overall has been falling. The competition for wine has also been heated as collectors face off against investors to get the cream of the crop. This has led to further price rises for an initial investment into wine but still coupled with strong growth for selected regions. Burgundy wine has done better due to its relatively unknown status that has shot up in popularity. This might be due to other wines being too pricey or viewed as speculative to enter leading to investors looking for alternatives to make a greater return.
Thus, the opportunity to invest into wine to diversify your portfolio still exists in a booming economy and can effectively offset other uncertain investments that are not correlated with the boom i.e. hedge inflationary concerns, or those investments that suffer from poor risk-adjusted returns because they are overvalued.
Risks and limitations
Yet, investment into wine has its faults. One possible fault is the thin liquidity the commodity has in the holding period (5–10 years, as aforementioned). The payoff from the wine before its assumed maturity date may not be as good as expected, especially if accounting for inflation. Investors and collectors look to buy wine that has aged a minimum period thus if the investor is unable to hold the wine any longer due to unforeseen reasons, the payout when selling it off may net a negative return adjusted for inflation.
Further, the subjectivity of the wine has a risk element to it due to the wine grading system changing from season to season. Investing into a certain wine that might have been harvested from a particularly bad season may lead to a worse-off investment than intended though this risk can be easily avoided with proper consultation before purchasing.
The potential gains from wine investment, especially when tracking an index such as the Liv-ex 100 above, are relatively minimal when looking to trade in short-term frequencies. Traders looking to exploit valuations that are occurring on a day-to-day basis may find other securities more applicable than wine assets.
Limitations on the returns of wine are also inherent in the purchasing of wine from these prized vineyards. Limits are placed on the amounts of wine that investors and collectors are allowed to purchase. In some cases, investors can only purchase one case of wine (6 or 12 wines depending on the vineyard) during any given season or harvest. This limits the exposure of your portfolio to wine but also the potential for returns. Take, for example, the Burgundy 150 which had returned over 30% in 2018. This could only be a small fraction of your portfolio due to the maximum amount of Burgundy wine you can purchase (circa £20k initial investment). To expand your overall exposure to wine and reduce the risk associated with a particular region, you would have to invest in wines from other regions than Burgundy.
Conclusion
Thus, there are clear limits to investment and the amount of exposure the investor can gain in the wine market, limiting their returns. However, it is evident that if done correctly, wine as an alternative investment can do very well and pay great dividends. As noted by the performance in 2018, selection of the right wine can lead to very high returns.
Thus, to choose wine as an alternative to diversify your portfolio would be a good and, for lack of better word, cool addition. The ability to grow with the booming economy and be used as an investment vehicle over an extended period, given that you have the capital to store and manage your collection, can lead to some exciting returns.
Article was written Early 2019 for LSE IRG 2018–19.
Bloomberg Data taken until end 2018.
Information may not be suitable at time of publication.
Article not to be used as an investment guide.
Thanks to Nikunj Paliwal for added guidance.
