JLD: Boooom, shake the room Fire Nation. JLD here with an audio masterclass on why blue-chip art should be in everyone’s portfolio. To drop these vibe bombs, I have brought Scott on the mic. He is a serial tech entrepreneur who has been collecting art for over 20 years, and he brings his passion for tech and art together with masterworks.io.

And today Fire Nation, we will be talking about Scott’s art collecting background, some bad investments that he’s made and what he’s learned over the years. We’re going to talk about the fundamentals of a piece of art, which by the way I’m clueless about, how art could fit into the context of FIRE, Financial Independence Retire Early, and just the kind of research and data that people use to determine what to buy and sell, and so much more Fire Nation when we get back from thanking our sponsors.

Scott, say what’s up to Fire Nation, and share something interesting about yourself that most people don’t know.

Scott: I’m sitting in my office in New York, and most people don’t know this, in fact, everyone who works with me doesn’t know this, but my childhood dream was actually to be an actor, and I’m looking at my headshot right now. That feels like ages ago, but yeah, that’s what comes to mind.

JLD: Hey, we all have dreams, we all have dreams and aspirations. Sometimes life just turns out a little bit differently, but the reality is, I’m not the starting shortstop for the Boston Red Sox, and you are not an actor apparently. So, we have some cool things to talk about though, and that specifically is going to be why blue-chip art should be in everyone’s portfolio. And I have to say I really wanted to have a conversation with you because I am clueless. I mean, I’m in my forties, I’ve been running a seven-figure business for eight years in and row, and I still don’t have any idea about blue-chip art.

I mean, I worked for John Hancock for a number of years back in my corporate days, and I got to know all about variable annuities, stocks, mutual funds, bonds, you name it. But I never really got to know about blue-chip art, and I’m really looking forward to this conversation. But before we get into some real, real specifics, I wanted to talk about your art collecting background. Like, how do you get into this, and what are some things that you have learned over the years?

Scott: My background generally has been as a technology entrepreneur. So, I’ve been starting tech companies for the past 20 years, and casual gaming, online advertising, and now Fintech. And at the same time, I’ve been collecting art. So, I bought my first, what I would consider important painting at the age of 19. And that was the late 90s, so that was a very different time for the art market than where it is today.

Today, I guess it's much more of a commercial business, where I think 20 years ago there were lots of people collecting, sort of for the joy of collecting or the cultural significance of collecting. And today, a lot of people obviously are in it for investment like reasons, and you read a lot about these hundred-million-dollar paintings that are selling today. I mean, I'm a firm believer that in our lifetime, we will see a billion-dollar painting sell. But it's a very opaque market that most people don't understand.

So, what have I learned collecting, I think is a hard question? I mean, that like anything you learn through making mistakes and kind of iterating and learning, learning along the way.

I think some of the mistakes that early collectors make are they focused on big-name artists like Picasso, but they buy a really bad example. So, most people don't know this, but Picasso made 60,000 works of art during his lifetime and 95 percent of it is just not investable, it's not that great. So, there's all these small things that I've learned along the way but, as we'll talk about later, I've tried to put all those together in the context of Masterworks to really help people access this asset class in an easy, user-friendly way, and generate real returns from it.

JLD: One thing that I really would love to dive into because I know Fire
Nation salivates for this kind of stuff. We definitely want to hear about what you consider one of your best investments, but before we hear that. Let's hear about a bad one just a really, really terrible investment that of course, you learn from, and let's get the specifics on that.

Scott: I wrote a blog post on this somewhere on the on the Masterworks website, but it goes, it's along the lines of what it just said. So, when I first started collecting, I was focused personally on big brand name artists and sort of buying lots of objects by those artists. So, I bought something like, I can't even recall now, something like 100, 200 Picasso ceramics from a neighbor that used to live next to him in the south of France, and that the objects that I mean, these are sort of 10, 20, 30, 40, $50,000 objects individually. I bought a whole bunch of them at once.

And they just don't, for a whole bunch of reasons they just don't appreciate right. They're not the most rare objects, they're an addition series, there's lots of them out there, so, the scarcity value is low. So, that's probably things that are probably the worst paintings I've ever purchased personally.

In terms of the best paintings and then I bought paintings for five or $10 million sold them two years later for twice the amount. it just, it just depends on the, on the artist and the time. And the art market moves by events right. So sometimes you just don't know these events are happening. For example, if you buy a $10 million painting by, whatever, an artist named de Kooning let's say, and there just so happens to be a new price record set of his a year later, that can change the entire market and that can be, that can be the right time to sell.

So, sometimes it's hard to predict those events, sometimes it's like I guess like in any investment it's, it can be a little bit of luck. But I've had some great ones and I've had some losses as well.

JLD: Yeah, and I mean you know that goes on a lot of different investment classes, I mean there's a lot of things that have happened, even this year with things that you might be a little more familiar with. With COVID happening, where you have companies like Zoom, having all these new record highs. And you have companies like DocuSign now crushing it, that you know weren't particularly doing so beforehand because now everybody's in this new world. And guess what, new worlds happen all the time and so you can't always predict them.

But that's why I love being able to diversify, spread myself out over a number of different investment alternatives, which is kind of where I want to go next Scott. What exactly are investment alternatives, and how do you see them fitting into current market conditions?

Scott: The way that I would think about it, or I guess I do think about it personally is alternative assets like art, are a good way to diversify a portfolio, and to also increase overall returns of a portfolio.
just like any investment, I think any investor should think about risk-adjusted returns right. So, what is the risk you're taking, relative to what sort of return can you receive? And art historically has been one of those asset classes that just hasn't been, it hasn't been accessible.

I tell people this all the time, and they find it amazing. But, Sotheby’s, which is one of the two major auction houses that was traded on the New York Stock Exchange, just recently went private. It was the oldest listed company on the New York Stock Exchange, at 275 years old. This is an asset class it's literally been traded by the ultra-wealthy for centuries. But the only way to allocate to it is if you have millions of dollars to buy a painting, in today's dollars.

So, it continues to be an asset class that outperforms and is uncorrelated other asset classes we believe has a role in a portfolio, but there hasn't really been a way to invest in and outside of buying these, these very expensive paintings.

JLD: I'm going to be the first person to admit, as I did earlier that I just don't really understand blue-chip art to the level that I want to, which is why I'm really looking forward to this conversation. So, can you break down for me and for Fire Nation, the fundamentals in a piece of art?

Scott: Let's start from very, very high up 30,000 feet. So, when we think about the art market, we generally think there's a couple of things that cause our prices to increase over time. One is, just, we think of it as almost a call option on the ultra-wealthy right. So, the wealthier the top 1 percent of the world gets, not just the US because the US is only roughly 25 percent of the overall art market, but the top 1 percent of the world the wealthier they get, we think that's generally correlated to our prices going up.

The second thing you make which is a really, really fascinating dynamic, is that art is the only asset class that I'm aware of, that is consistently decreasing in supply. So, the example I like to use is an artist named Jackson Pollock, who some of your listeners are probably familiar with, who's the splatter painter during mid-century America. And I know his market very well because I've owned some of his work in the past.

And today I think there's something like 22 or 23 drip paintings by Jackson Pollock that are in private collections. He painted, I don't know, hundreds of them during his lifetime. So, those 22 or 23 that are in private collections, are still selling for 30 or $40 million, not because they're great paintings, but because there's nothing else left. Because when an artist dies, collectors that wind up with those paintings, wind up donating them to institutions or museums over time. And then, the total supply of the work shrinks, and if you want a Jackson Pollock drip painting, you have to pay in today's dollars, $30 million.

So that's a really unique dynamic about the asset class, that just causes prices to go up over time. What’s left to buy just decreases every single decade.

JLD: Now I know a lot of people, that are concerned with the volatility of their investments when it comes to their personal investing style. So, can you break down the volatility of blue-chip art compared with, say stocks and bonds and that such?

Scott: Our research team has done a lot of analysis on what we refer to as loss rates and the magnitude of loss. And when you compare art to other asset classes like oil, public equities, and real estate, the loss rates are actually lower on art, and the magnitude of loss when there is a loss is actually lower than those other asset classes. What are loss rates on a rolling basis?

The other thing that we look at is, what are volatility and returns in individual artist’s markets? And some of your listeners may be familiar with this this phrase called Sharpe ratio. And a Sharpe ratio effectively is looking at the absolute return divided by the volatility in return to try to understand exactly the risk-adjusted return of any particular asset class. And many of the artists that we deal with have Sharpe ratios above one which is very, very good for any asset class.

So, we think that the volatility, relative to the returns is totally reasonable and very interesting. And some of the absolute returns for the artists that we track are as high as 30 percent historical returns. So that you know that's very hard to find in any asset class.

JLD: Let's talk about FIRE for a second now, not the Entrepreneur on Fire topic but Financial Independence Retire Early. How does art fit into that context?

Scott: If I'm thinking about achieving financial independence, I want a well-diversified portfolio with asset classes that have competitive, if not superior returns to other asset classes. And the great thing about the Masterworks platform is you can actually go to the website, review each individual painting, look at the historical returns, and then as part of our governance structure, we actually risk rate the paintings just like you would see a risk rating on a bond, for example.

So, I would think about diversifying a portion of my overall portfolio, into an asset class like art, that can provide superior risk-adjusted returns. Now, that being said, I mean, since this is an illiquid asset class, we do have a trading platform now where people are trading shares, we can talk about that later. But since it is an illiquid asset class, I would think about limiting that allocation, and realizing that, I may have to wait several years in order to recognize it. So, as long as you're able to wait several years to recognize your return, I think it's a great way to diversify a portfolio for financial independence.

JLD: So, Fire Nation, we are going to be diving into masterworks.io when we get back from thanking our sponsors. This is the company that Scott has put together, and there's gonna be a lot of interesting things are going to ask him about this, so make sure you stick around. We'll be right back.

So, Scott, we're back, and as I kind of teased before the break I want to really spend the rest of our time here together talking about masterworks.io, because I think this is something that Fire Nation is listening to, and they're like, well honestly, like 5 to $10 million for a painting isn't something in my near term future, but you know 5 to $10 thousand, or 50 to $100 thousand in part of a painting or in owning shares in a painting could work for me. So, can you talk about masterworks.io, like give us a little background about the company, like why you created it how it works and, potentially how Fire Nation can get involved?

Scott: The reason I started the company, and what makes me excited about the company every day, is that you have this massive asset class, which is art; it's roughly at $1.7 trillion in value. It's the oldest asset class, 275 plus years old, as I mentioned from just the age of Sotheby's alone, but the only way to allocate to it has been if you have millions of dollars to buy paintings. So, it really has been limited to the ultra, ultra, wealthy for generations.

But when you look at the characteristics of the asset class, the top 100 artists have outperformed the S&P 500 from 2000 to 2019, I think based on our latest, latest data. We did a report with Citi group, at the end of last year that concluded that it was uncorrelated. So, we fundamentally believe that it has a role in any portfolio. But we were, we were the first company to really securitize a painting. And so up until Masterworks, there hasn't been a way for anyone to purchase shares and paintings which is honestly mind-blowing.

I mean, you think about every other asset class. I mean real estate has been securitized, venture capital has been securitized, private equity has been securitized, but nobody's ever done it for art. So, we’re a brand-new company that's been around a couple years. we're launching roughly one painting a week now valued between 1 and $10 million. So, each investment has its own unique characteristics, but we think it's a really exciting time to get involved in the art market, simply because there's not that much competition. I mean we really do have the best, the best research team the best acquisitions team, and the best investment offerings compared to anyone else in the market.

JLD: So, based on that, I'd love to kind of know, what kind of research and data that your team and you use to determine what kind of blue-chip you're going to actually buy and sell.

Scott: We have a proprietary data set that we've collected over the past couple of years, which is based on public auction data in the art market since the 1950s. So, we look at every single time, an individual painting has been purchased, what it is subsequently sold for, and then what the return is, what the profit or loss is that the collector made on that individual transaction. And we've identified this now for more than 85,000 paintings. So, you can actually go to the masterworks.io website, click on price database and search through some of the data to really understand for each individual artist such as you know Pablo Picasso, how much money people made or lost on individual paintings within his market?

JLD: So, I know there's a lot of trends in the art market and we've already kind of talked about some of those. But what does happen when things fall in and fall out of favor, like do you have an example or two of something that's happened in that world that we could relate to as listeners?

Scott: If you look at the top 100 artists, by sales volume, it's very interesting. Since 2000, or roughly the past 20 years there's only been three artists in the top 100 list that have produced negative returns, which really speaks to the stored value characteristics in art. So, those three artists are Jeff Koons, Damien Hirst, and Murakami. And there's different reasons for each of those artists producing negative returns, but mostly they've been living artists who have just been overhyped by people who sort of back them, and the prices, they've all had work sell for tens of millions of dollars and their prices just haven't been sustainable over time, but I think the thing that's fascinating about that is 97 out of the 100 have produced positive returns.

JLD: Do you ever foresee a market where a place where somebody like yourself is like, that person is way overhyped, I'm going to like essentially short sell their future earnings on that. How does that work?

Scott: I mean, there's no options market today, in the art world. I mean, Masterworks for the first time just launched a secondary market, where people are now trading shares of paintings on our website. But, we’re a long ways at this point from really having an options market.

JLD: You know some people are like, well, what happens if we do enter a recession, because obviously the stock market, has been still crushing it, and the bull market is still all signs pointing forward, but the reality is, there's a lot of this going on in the world, and a lot of people are worried about some kind of looming recession. So, do transactions ever dry up? Do they ever slow down during recessions?

Scott: This goes back to this concept called correlation, and correlation really just looks at, does a particular asset class behave or return in the same way as another asset class over a similar period of time. So, this question was actually unknown up until recently, and we collaborated with Citigroup, to do a report on correlation between art in other asset classes using our research teams data, and we published that report, which is now available on our website, at the end of last year. And essentially what it concludes, is that art is an uncorrelated asset class. I think the correlation between art and the S&P for example was roughly .14, 1.0 would be a full correlation.

So, when you go back in history and you look at, did our prices decline during the dot com bubble bursting. They actually didn't, they actually increased in value. They had the highest correlation ever during the ‘08, ‘09 crisis, which was about .4 or 5 if I recall correctly, which means they declined 40 percent as much as the broader market. And then during COVID we, we published this report at the end of 2019, and we were hoping we were right because we basically said it was an uncorrelated asset class which then means that during COVID, our prices should not have declined when the markets declined and what we saw is that they've actually increased.

So, it does behave differently, and again, the reason we think it behaves differently, it’s a global asset class, traded between the ultra-wealthy people of the world. And that just behaves differently than public equities, for example.

JLD: Now, definitely correct me if I'm getting any part of this process wrong but say somebody does buy into a piece of art, so they have shares in that. And they say, well you know what something happened I want to actually buy this house, or I want to, do this other thing. Are they able to actually redeem those shares before you as masterworks.io actually sell that piece?

Scott: So that's really where our secondary market comes in, and we've put it we've made a huge amount of effort to try to help people get liquidity before we ultimately sell the paintings. So, if someone decides that they need to recognize their gain or get their money back or whatever, they can go into the secondary platform, list their shares at a certain price, and then try to find, try to find a buyer for those shares. And we've seen really, really good activity over the past I think four or five months since we've launched the secondary markets. So, that is a core focus for us as a business going forward.

JLD: So, there's a lot of exciting things in the blue-chip art market. And so, if there's people listening right now who are like saying, you know what, I wouldn't mind dipping my toes and I'm gonna go check out masterworks.io, I’m gonna see what they have going on there. Do you have a recommendation for people that are just starting that don't have a lot of experience?

Scott: Start slow, learn about the individual offerings that we have, learn about the artists, play around with the secondary market. And I think over time what we see is when people start out on Masterworks, they start allocating more and more, just because of the quality of the investment opportunities and frankly what a lot of the offerings are trading for in the secondary markets.

JLD: So, Scott, you have shared a ton of information about blue-chip art. I feel like I know so much more than when we started, but I'm also going to be going back and listen to this episode, again, to really clarify a few things fo sho. But what do you want to make sure of everything that we talked about, that Fire Nation really gets that they can walk away from this episode with?

Scott: I think the thing that we want people to understand is that at the end of the day, this is the largest asset class, that has never been securitized. And there's a whole bunch of opportunity in today's world to make money from it. So, I think learning about the asset classes is important for any, any serious investor. The analogy that I like to use is, if you think about the size of art at $1.7 trillion, and you think about the size of venture private equity at $3.5 trillion, there's 6000 venture capital firms. There's literally nobody doing this in art, and it’s half the size of venture capital.

So, we think Masterworks is positioned in a really interesting way to help investors gain some exposure to the asset class, learn about it. And then over time make it make it a considerable part of their portfolio.

JLD: So, Fire Nation. I really, really think this is something you need to at least be educated on, be learning more about that's why I bought Scott on, because I want to get educated, I want you to get educated, because this is an alternative investment that could be something that really rings your bell in that good way, can be moving you towards that FIRE that we talked about, financial independence retire early. And Scott, for people that want to learn more, where would you like them to go, and any call to action you might have?

Scott: Yeah, just check out the website at www.masterworks.io. We publish research on the asset class, on the website, request access, tell our membership team that you're from Fire Nation, and we'll work with you to get an account set up as soon as soon as we can.

JLD: That's awesome. So, Fire Nation you're the average of the five people you spend the most time with, and hello you've been hanging out with SL and JLD today. So, keep up that heat and head over to EOFire.com type Scott in the search bar, his show’s page will pop up with everything we talked about. But your direct call to action, head over to masterworks.io request an invitation there, there's gonna be a dropdown. Select podcast, from the how did you hear about Masterworks, and put in Entrepreneurs on Fire, put in EOF, put in EOFire, whatever you want to put in there, so they know that you came from here, and they will definitely take care of you, masterworks.io. Scott, thank you, brother, for sharing your truth, knowledge, value with Fire Nation today, for that we salute you, and we'll catch you on the flip side.

Scott: Thanks, John.