How Did Japanese Investments Influence International Art Prices?

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  • How Did Japanese Investments Influence International Art Prices?Author(s): Takato Hiraki, Akitoshi Ito, Darius A. Spieth and Naoya TakezawaSource: The Journal of Financial and Quantitative Analysis, Vol. 44, No. 6 (Dec., 2009), pp.1489-1514Published by: Cambridge University Press on behalf of the University of Washington School ofBusiness AdministrationStable URL: http://www.jstor.org/stable/40505955 .Accessed: 03/09/2014 12:40

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  • JOURNAL OF FINANCIAL AND QUANTITATIVE ANALYSIS Vol. 44, No. 6, Dec. 2009, pp. 1489-1514 COPYRIGHT 2009, MICHAEL G. FOSTER SCHOOL OF BUSINESS, UNIVERSITY OF WASHINGTON, SEATTLE, WA 98195 doi: 1 0. 1 01 7/S00221 09009990366

    How Did Japanese Investments Influence International Art Prices?

    Takato Hiraki, Akitoshi Ito, Darius A. Spieth, and Naoya Takezawa*

    Abstract

    We test the luxury consumption hypothesis of Ait-Sahalia, Parker, and Yogo (2004), using a unique international art price, import/export flow, and stock market data set. We find that the demand for art by Japanese collectors is positively correlated with art prices and Japanese stock prices. This correlation is magnified during the "bubble period" of the Japanese economy (the mid-1980s to the early 1990s) and gains even further strength for works of art typically favored by Japanese collectors. Our results suggest that Japanese in- vestors (or Japanese asset markets) indeed affect international art prices - especially during the bubble period and its aftermath.

    I. Introduction

    Recent consumption capital asset pricing model (C-CAPM) literature (Ait- Sahalia, Parker, and Yogo (2004), Attanasio, Banks, and Tanner (2002), and Vissing-Jorgenson (2002)) has focused on the importance of wealthy consumers. In particular, Ait-Sahalia et al. (2004) show that when risk aversion is measured in terms of the covariance between wealthy households' portfolio returns and con- sumption of luxury goods, the equity premium is much less of a puzzle. This line of research implies that an investigation of the correlation induced by wealthy consumers between asset returns and luxury consumption is a promising avenue in research to deepen our knowledge of asset pricing in the capital market.

    * Hiraki, thiraki@kwansei.ac.jp, Kwansei Gakuin University, Institute of Business and Account- ing, Nishinomiya-shi, Hyogo-ken 662-8501, Japan; Ito, aito @ ics.hit-u.ac.jp, Hitotsubashi University, Graduate School of International Corporate Strategy, Chiyoda-ku, Tokyo 101-8439, Japan; Spieth, dspieth@lsu.edu, Louisiana State University, School of Art, 123 Art Building, Baton Rouge, LA 70803; Takezawa, ntakezaw@nanzan-u.ac.jp, Nanzan University, Graduate School of Business Ad- ministration, 18 Yamazato-cho, Showa-ku, Nagoya, 466-9673 Japan. We thank Will Goetzmann (the referee) for very detailed and constructive comments and Stephen'Brown (the editor) for warm guid- ance. We also thank Jianping Mei, Michael Moses, Sanae Ohno, Nobuya Takezawa, participants at the 2005 NFA (Tokyo), 2006 AsFA (Auckland), and 2005 EFA (Moscow) meetings, and seminar partici- pants at International Christian University and Osaka University for their helpful comments. Kiyoshi Arakawa and Baia Arshanapalli helped us code statistical breakpoint analysis. We are also grateful to Art Market Research and Yale's International Center for Finance (Will Goetzmann and Matthew Spiegel) for the art index data used in this research. Hiraki thanks Kwansei Gakuin University Grant Office for financial support.

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  • 1490 Journal of Financial and Quantitative Analysis

    In this paper, we extend the study of Ait-Sahalia et al. (2004) by interpret- ing art investments as an outlet of luxury consumption. Specifically, we test their hypothesis (the "luxury consumption hypothesis") by analyzing a unique data set comprised of art market indices, import/export flows of art, and stock market re- turns. After observing price fluctuations and identifying buyer groups active in the international art market during the 1980s and the 1990s, we decided to make Japan the focus of our investigation. We find that the demand for art by Japanese col- lectors is positively correlated with art prices and Japanese stock prices, and that this correlation is especially magnified during the "bubble period" in the Japanese economy (the mid-1980s to the early 1990s).1 We also find a higher (lower) corre- lation between Japanese asset returns and art price indices comprised of works by artists who were (were not) favored by Japanese investors. The results are consis- tent with what Ait-Sahalia et al. (2004) suggest: Luxury consumption by Japanese art collectors is subject to an almost immediate adjustment to wealth shocks from domestic equity market swings. We find that Japanese investors (or Japanese asset markets) indeed affected international art prices over distinct time periods, when they dominated key segments of the art market.

    During the bubble period in the Japanese economy, spectacular art purchases at auction by Japanese collectors made international headlines. While on these spending sprees, Japanese buyers typically focused on the most expensive works offered in the international art market. These purchases were mostly made by wealthy individuals, who often acted under the cover of corporate names or through associates backed by corporate assets.2 After the collapse of Japan's eco- nomic bubble, acquisitions by Japanese investors in the international art market decreased dramatically, triggering the loss of about half the global asset value in art between 1990 and 1993 (Artprice.com (2007)). From the middle to the end of the decade, Japanese collectors, encouraged by signs of strong recovery in the art market, became major sellers on multiple occasions.3 Focusing mainly on the bubble and post-bubble periods, this study investigates if and to what extent Japanese art purchases affected international art prices.

    This paper builds on a number of past studies on art investments.4 First, Goetzmann (1993), Pesando (1993), and Mei and Moses (2002) attempt to con- struct an art price index by applying the repeat-sales regression technique to data on art transactions conducted in major auction houses around the world. These studies examine the risk and return characteristics of the estimated art price index by drawing comparisons with indices for traditional asset classes, such as common stocks and bonds. Second, Ginsburgh and Jeanfils (1995), Candela and Scorcu (1997), and Pesando and Shum (1997) examine the covariation and

    1The stock market bubble in Japan disappeared by the end of 1989. However, the optimism of Japanese investors persisted long beyond this point, up to the middle of the 1990s (Shiller, Kon-ya, and Tsutsui (1996)). Note that in 1992, the growth rate of real output on an annual basis turned negative for the first time since the formation of the economic bubble in Japan. See also Chancellor (1999) for a summary of events, both economic and cultural, that led to the formation of the Japanese bubble economy. 2 See Appendix A.I for major purchases by Japanese collectors. 3 See Appendix A.I for major sales by Japanese collectors.

    4Fase (2001) provides an extensive review of research on the art market and art investments.

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  • Hiraki, Ito, Spieth, and Takezawa 1491

    potential causality between the art market and other financial markets, often ap- plying the vector autoregression (VAR) analysis and cointegration technique. Among them, Ginsburgh and Jeanfils (1995) find that short-run stock market fluctuations in Japan had an impact on international art market prices. In gen- eral, most of the past studies conclude that, in the long run, art investment per- forms somewhat poorly in comparison with conventional investments such as common stocks. However, the correlation of returns on art with major Western equity market indices has been low, suggesting that art may play a positive role in portfolio diversification.

    With respect to past literature, the uniqueness of this paper lies in our novel approach to art investments. We treat art as a (luxury) durable good with a fixed supply. Art investment is assumed to be an outlet for luxury consumption pursued exclusively by the globally richest group of investors/consumers. These dominant investors were clustered geographically in Japan during the second half of the 1980s and the early 1990s.5 Ait-Sahalia et al. (2004) tested the C-CAPM with various consumption measures. They showed that if the stock market correlated more highly with luxury consumption than with basic consumption, an expla- nation could be found for the equity premium puzzle. The luxury consumption hypothesis suggests that purchases of Western art by Japanese investors should reflect wealth shocks (price changes) in their own domestic equity markets. We draw from this hypothesis several interesting time-series and cross-sectional im- plications, which are more precisely tested as subhypotheses. The lessons from possible cross-border effects of wealth on luxury consumption, demand, and price may provide insight relevant to very wealthy individuals from rapidly devel- oping economies such as those of Russia, China, or India, who have super- seded Japanese investors in the international markets for art and similar luxury properties.6

    This paper is structured as follows. Section II presents the hypothesis from which time-series and cross-sectional implications are extrapolated for empirical testing. Section III explains the data and provides descriptive statistics for the variables used in this study. Section IV presents the results from correlation and breakpoint analysis. Section V reports the results from VAR analysis. Section VI presents the paper's conclusion.

    II. Hypothesis

    Ait-Sahalia et al. (2004) begin with the intuition that wealthy households hold the largest portion of equity, and show that the risk aversion of such con- sumers should be measured through the covariance between luxury consumption and equity. This could justify seemingly excessive empirical equity premiums as compared to the results derived from ordinary or basic consumption data in the

    5 The total market value of the Tokyo Stock Exchange at the end of 1989 was $4,61 1 billion, fol- lowed by the New York Stock Exchange, which was $3,030 billion. According to the 1990 Euromoney bank ranking, the five largest banks in the world, in terms of total assets, were all in Japan.

    6See Appendix A.2 for the recent roles of Russia, India, and China as major net art buying countries.

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  • 1492 Journal of Financial and Quantitative Analysis

    C-CAPM. The above investigators find a high and significant covariance between luxury consumption and stock market returns. They demonstrate that the risk pre- mium puzzle disappears for a particular group of luxury goods with fixed or in- elastic supply - prewar Manhattan co-op apartments, for example. Due to its fixed supply and exotic aesthetics (from a Japanese perspective), Western art, includ- ing, for example, Impressionist painting, holds a strong enough luxury appeal for Japanese buyers to expect a high correlation with domestic stock market returns.

    One of the most influential classes of Japanese art collectors was a group of high- wealth investors backed by corporate assets or credits during the bubble period. Even under a regime of intercorporate shareholding, corporate-held art effectively increases the marginal utility of top executives or owner-managers. Corporate decision making on art purchases or sales is thus comparable to that of rich households engaged in art transactions.7

    The evidence on the equity premium puzzle in Japan is mixed for the C- CAPM.8 In general, however, the puzzle weakens when examining the consump- tion of high income brackets.9 Furthermore, Ginsburgh and Jeanfils (1995) find that short-run stock market fluctuations in Japan have an impact on international art market prices, but there is no effect in the other direction.10 Goetzmann and Spiegel (1995) suggest that "private value" in certain paintings induces buyers to overbid at auction (i.e., the "winner's curse"). Private value, however, is a mat- ter of one's personal taste. Furthermore, if private value is related to art auction demand-driven prices, the luxury consumption hypothesis leads to some interest- ing, arid testable, implications. Art prices might vary over time depending on the level and time path of cumulative wealth among dominant investors (i.e., stock market performance). In addition, art prices might move with shifts in the aes- thetic preferences of art collectors.

    Thus, the luxury consumption hypothesis, as applied in this study, can be stated formally as follows: Consumption of Western art by Japanese collectors should rflect wealth shocks (price changes) in the domestic equity market, which in turn should induce a positive correlation between art prices and stock market returns. This basic hypothesis leads to the following subhypotheses:

    1) The consumption correlation with stock returns is higher for luxury goods (works of art) than for basic consumer goods. (Wealthy individuals who collect art tend not to adjust their basic consumption, but do adjust their luxury consumption, to wealth shocks.)

    7 See Kester (1991) and Chancellor (1999) for zaitech practices during the bubble period in Japan. Typically, corporate art patrons were at the same time zaitech investors, who put money in other firms' equity for gain (see Nikkei Business (June 28, 1999)). Such conflicts of interest were common corporate governance problems at the time. Thus, the luxury consumption hypothesis for art might apply to our Japanese case in spite of the fact that corporate art investors are not households. 8 For example, see Hamori (1992), who concluded that the C-CAPM is valid in Japan. Strongly disagreeing, Campbell (2003) reports on data from Japan that is consistent with the equity premium puzzle. He finds an extremely large coefficient of relative risk aversion at 82.62 (> 10.0 in Mehra and Prescott (1985)), applicable to nondurable consumption for 1970.1-1998.4. The consumption-stock return correlation in this case is as low as 0.1 12.

    9See Ogawa (1987) for different income quintile groups. 10Their result was obtained without showing the significant presence of Japanese investors in the

    international art market.

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  • Hiraki, Ito, Spieth, and Takezawa 1493

    2) The positive correlation between art prices (i.e., art demand) and stock market performance should be magnified during the bubble period.

    3) The increased bubble-period correlation in 2) might carry over, at least for a time, into the post-bubble period. Only after reaching a certain threshold level of wealth (i.e., decreased stock market value) might it quickly decay.11

    4) The increased bubble-period correlation in 2) should be higher for categories of art (in this case, French Impressionist and Post-Impressionist paintings) meet- ing the taste of a dominant investor group compared with art not favored by that group.12

    We verify both the basic luxury consumption hypothesis and its four subhypothe- ses through simple correlation analysis, ordinary least squares (OLS) regression analysis, structural breakpoint analysis, and VAR analysis.

    III. Data and Basic Statistics

    The basic data used in this study are comprised of stock market returns from Japan and the U.S., as well as various kinds of art market prices from two different sources: Gabrius Index constructed by Goetzmann and Spiegel and Art Market Research (AMR). In addition, we use import/export flow data for art obtained from issues of Trade Statistics of Japan, Ministry of Finance ("the customs data" hereafter); art auction turnover data in Fase (2001); and, for more recent years, Artprice.com (2007). 13 These flow data are used to proxy the changes in luxury consumption and to measure the relative presence of Japanese art investors in the international art market. In our analysis, we opt for an annual frequency to avoid autocorrelation generated from the construction of monthly art price indices, especially the AMR indices explained below.

    A. Stock Market Data

    The Japanese stock market annual index return (JSTOCK) is computed from the dividend-adjusted monthly index series compiled by the Japan Securities Research Institute for all stocks listed on the first section of the Tokyo Stock Exchange (TSE1); TSE1 is considered a proxy for the entire Japanese stock market.14 The dividend-adjusted S&P 500 stock market annual index return (SP500) is obtained from Ibbotson Associates to proxy the international equity markets. Thus, the two stock market performance measures are approximately comparable in terms of weighting and dividend adjustment. The returns on the

    11 The positive correlation maintained during the early post-bubble period means that art purchases (or sales) by the Japanese decrease (or increase). However, this correlation disappears as consumption ultimately shifts from luxury to basic goods with a prolonged slump in the asset markets.

    12French Impressionist and Post-Impressionist art was preferred by Japanese investors over other types of art. See Appendices A and B.

    13 World auction turnover figures from the two data sources are consistent with each other. 14The rates of return on this price index should be identical with Tokyo Stock Exchange Price Index

    (TOPIX) returns after appropriate adjustment for dividends. We are unable to confirm this finding, since the Tokyo Stock Exchange has not released the dividend-adjusted series of TOPIX.

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  • 1494 Journal of Financial and Quantitative Analysis

    SP500 are denominated in U.S. dollars, while the returns on JSTOCK are denom- inated in Japanese yen.

    B. Art Price Indices

    In this study, art investment returns are computed from different types of art price indices (i.e., the art market at large and its subcategories, consisting of historical art movements/art styles) and for specific individual artists.

    1 . General and Category Markets

    For the general market, we use the long-term art index prepared by Goetz- mann and Spiegel (Gabrius Index (GSI)).15 GSI is constructed via repeated-sales regressions; thus, it does not suffer from any serious autocorrelation problems. The returns on GSI through 2004 are denominated in U.S. dollars. The AMR provides the Art 100 Index (ART 100), representing the global art market as a whole since 1975. 16 AMR also furnishes art indices defined by the national ori- gin of the underlying artworks, such as the American 100 (AMER 100) or the British 100 index (BRITISH100). We selected three art market subcategories out of the AMR database based on historical art movements/art styles. The first is the French Impressionism Index (FRIMP), which is comprised of the type of art known to have been most attractive to Japanese investors in terms of subject mat- ter and style.17 In addition we chose, for the sake of contrast, the Old Master Index (OLDMASTER) and the Dutch Old Master Index (DUTCHOLD). These indices contain historically established asset values for the art market, which nevertheless failed to attract the general interest of Japanese buyers, who preferred to focus on the FRIMP subcategory.

    2. Single Artists

    In order to test our hypotheses, we selected from the AMR database single- artist indices on the French Impressionists Pierre- Auguste Renoir, Claude Monet, and Edgar Degas (RENOIR, MONET, and DEGAS, respectively) to proxy price movements of French Impressionist art. For a control group of individual artists' prices outside the scope of Impressionism, we identified indices on Joseph Turner, Sir Joshua Reynolds, Jacob van Ruisdael, and Albert Bierstadt (TURNER, REYNOLDS, VAN, and BIERST, respectively). Although the artists in the con- trol group have a solid and financially potent following in their home countries, they were rarely targeted by Japanese purchasers during the bubble period. An analysis based on these single-artist indices avoids the risk of selection bias stem- ming from bundling works of art into groups.

    15 We thank William Goetzmann and Matthew Spiegel for providing us with this important data. 10See http://www.artmarketresearch.com/amr_fr.html for details on the art price indices provided

    by AMR. 17 See Appendix B for the Japanese infatuation with Impressionist art from an historical and anec-

    dotal perspective.

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  • Hiraki, Ito, Spieth, and Takezawa 1495

    3. AMR Indexing Procedures

    AMR collects sales data for individual artists from some 800 auction houses worldwide. For each artist, the index is initially constructed as the average prices of his or her paintings/sculptures on a monthly basis; then, after some seasonality adjustment, indices corresponding to portfolios of selected artists are calculated. The base time for all indices is January 1975, for which the value is set at 1,000. The underlying assets of the AMR Art Indices are, then, either portfolios of art- works arranged by historical art movement, art style, national/geographic origin, and the like, or the works of individual artists. All art index returns are denomi- nated in U.S. dollars. A moving average procedure over a 14-month period that is used for smoothing provides serial correlation for all AMR monthly index series released to the public. AMR does not release original monthly measures of an art index without this smoothing. The induced autocorrelation in monthly returns can be almost entirely avoided by computing annual returns based on annual index series, as in this study.18 The period common to GSI and all AMR index returns extends from 1977 to 2004.

    C. Japanese Customs Data

    Japanese customs data shows aggregated art import and export amounts in yen between Japan and each of its trade partners.19 For the practical purposes of our hypothesis test, we focus exclusively on Japanese imports and exports of art- works created in either Europe or North America. However, the customs data treat imports and exports unevenly.20 As far as art imports into Japan are concerned, the exporting country is defined as the work's country of origin (i.e., its place of creation). This means, for instance, that Impressionist works created in France are always recorded as French imports, regardless of their actual location at the time of purchase. On the other hand, all art exports from Japan, including both Japanese art and resales of previously imported Western art, are considered ex- ports, which are assigned to their final destination according to the buyer's legal residence.

    We extracted from customs data both gross imports and net imports, then used those data to compute the annual growth rates of art imports (either from individual Western countries or all Western countries combined) for the period 1972-2006. Theoretically, the net import rate would be more appropriate for the purposes of our hypothesis test, since changes in the art consumption base would then be proportional with changes in the balance of accumulated art over time (i.e., net imports). However, net import rate is more biased than gross import rate, especially at the level of an individual country, due to the noise inherent in the export measures. Although the use of gross import data allows for the testing of

    18 For a detailed description of the index, refer to Fase (2001). 19 Japanese customs data are furnished in categories arranged by type of trade (imports and exports),

    the definition of the goods traded (e.g., "art," referring to paintings and sculpture), and the country of origin (e.g., France). The reports are issued on a monthly basis, and each monthly statistic shows the cumulative change in exports or imports over the same month of the previous year.

    zuSee http://www.customs.go.jp/toukei/sankou/dgorder/cl .htm

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  • 1496 Journal of Financial and Quantitative Analysis

    our fourth subhypothesis with regard to Japanese preferences for artists painting in certain styles or having a specific national origin, it does not lend itself to drawing accurate conclusions regarding the luxury consumption hypothesis as a whole. Fortunately, our subsequent test results are robust with respect to the various measures of Western art import flows.21

    Our previous argument for private value suggests that France would be of greater interest for our test than other countries, since it was here that Impres- sionism originated. Thus, our analysis focuses on (net) import growth rate mea- sures for France (FRANCENET), rather than the entire Western country group (TOTALNET). For comparison, we use growth rates for the U.S. (USANET) and the U.K. (UKNET). The annual (net) import growth rates are available from 1972 through 2006. The (gross) import data could also be used, in combination with the auction turnover statistics in Fase (2001), to measure the relative presence of Japanese art collectors in the international art market.

    D. Basic Statistics

    Table 1 presents the descriptive statistics of the various annual index returns for the period 1977-2004. GSI has a mean annual return of 6% and a standard deviation of 13%, while the SP500 (JSTOCK) realizes a mean return of 15% (7%) with a corresponding standard deviation of 17% (24%). GSI performance during the sample period shows greater parallels with Japanese stocks than with U.S. stocks in terms of Sharpe ratio. GSI, along with other art indices, exhibits positive skewness, which does not exist for stock market indices.

    The art indices show relatively high volatility. The standard deviation of most of the art indices is higher than that of SP500 and approximately comparable to that of JSTOCK. Despite their higher volatility, none of these art indices, except FRIMP and the Claude Monet Index, earn returns comparable to SP500. This result is consistent with Goetzmann and Spiegel (1995) in the sense that modern investors overpay for their art purchases; this may be particularly true for Japanese investors, an observation substantiated by the conclusions of this paper.

    IV. Correlation, Breakpoint, and OLS Analysis

    A, Correlation Analysis

    Panel A of Table 2 shows the correlation structure of the variables introduced above for the period 1954-2004. Although GSI is only weakly correlated with stock indices during this entire period, a different correlation picture emerges in each of the two subperiods (Panel B for 1954-1983 and Panel C for 1984-2004).22 While the correlation between GSI and JSTOCK is moderate at 0.10 for the first

    21 For the sake of conciseness, we report only the results from the net import measures (rather than their gross import counterparts) in the subsequent sections. Unless otherwise stated, we use net imports for changes in the art consumption base among Japanese investors. Results using the gross import measures are available from the authors. The use of alternative measures does not materially change the conclusions of this paper.

    22The breakpoint analysis is more formally presented in Section IV.B.

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  • Hiraki, Ito, Spieth, and Takezawa 1497

    TABLE 1

    Descriptive Statistics of Variables for 1977-2004

    Table 1 provides descriptive statistics of the main variables for the period from 1977 to 2004. All variables are measured annually. For the category of general art market indices, we use six indices compiled by AMR: AMER 100 is the return on American art, ART100 is the return on the art market as a whole, BRITISH 100 is the return on British art, DUTCHOLD is the return on Dutch old master paintings, FRIMP is the return on French Impressionist work, and OLDMASTER is the return on old master paintings in general. We also use the GSI (Gabrius Index), prepared by Goetzmann and Spiegel, for the return on the entire art market. For the stock indices, JSTOCK is the return on the Japanese stock market, and SP500 is the return on the S&P 500 index. From among the indices for individual artists, we selected six indices compiled by AMR: DEGAS is the return on Edgar Degas's work, MONET is the return on Claude Monet's work, RENOIR is the return on Pierre-Auguste Renoir's work, REYNOLDS is the return on Sir Joshua Reynolds's work, TURNER is the return on Joseph Turner's work, and VAN is the return on Jacob van Ruisdael's work. For the net import figures, we calculate the growth rate of net imports of works of art into Japan (amount of import - amount of export) in yen for individual countries: FRANCENET is the growth rate of net imports of French art; UKNET is the growth rate of net imports of British art; USANET is the growth rate of net imports of American art; OTHERSNET is the growth rate of net art imports from all foreign countries, except French art; and TOTALNET is the growth rate of net imports from all foreign countries to Japan.

    Mean Median Maximum Minimum Std. Dev. Skewness Kurtosis

    Panel A. General Art Indices

    AMER100 0.103 0.073 0.511 -0.417 0.219 0.043 3.198 ART100 0.093 0.041 0.638 -0.479 0.235 0.192 3.917 BRITISH100 0.069 0.041 0.331 -0.199 0.150 0.007 2.008 DUTCHOLD 0.062 0.072 0.379 -0.174 0.160 0.302 2.092 FRIMP 0.128 0.152 1.198 -0.607 0.340 0.946 6.231 OLDMASTER 0.042 0.003 0.337 -0.201 0.150 0.260 2.088 GSI 0.061 0.036 0.299 -0.200 0.131 0.274 2.366

    Panel B. Stock Indices

    JSTOCK 0.069 0.080 0.522 -0.316 0.242 0.004 1.873 SP500 0.150 0.198 0.374 -0.221 0.165 -0.632 2.439

    Panel C. Individual Art Indices

    DEGAS 0.090 0.074 0.560 -0.304 0.256 0.374 2.066 MONET 0.162 0.127 1.218 -0.255 0.353 1.479 5.319 RENOIR 0.080 0.022 0.587 -0.232 0.218 0.685 2.730 REYNOLDS 0.111 0.096 1.199 -0.246 0.331 1.628 6.324 TURNER 0.111 0.096 1.199 -0.246 0.331 1.628 6.324 VAN 0.066 0.040 1.245 -0.402 0.378 1.258 5.260

    Panel D. Net Import

    FRANCENET 0.283 0.245 1.578 -0.861 0.703 0.080 2.204 UKNET 0.427 -0.103 5.789 -0.833 1.506 2.390 8.695 USANET -1.325 -0.661 1.424 -11.894 2.866 -2.414 9.531 OTHERSNET 0.330 -0.021 2.733 -0.920 0.987 0.959 3.255 TOTALNET 0.243 0.328 1.352 -0.927 0.629 -0.219 2.345

    subperiod, 1954-1983, the same correlation becomes highly positive at 0.47 for the second subperiod, 1984-2004. When the second subperiod is further divided into the periods 1984-1994 (Panel D) and 1994-2004 (Panel E), the correlation for the former at 0.64 is substantially higher than that of the latter at - 0.10.23 Thus, we observe large increases in the correlation between the art market and JSTOCK from the first to the second subperiod; this represents a confirmation of the second subhypothesis. This finding vindicates our conjecture that the Japanese involvement with high-priced art investments was predicated on the prior liber- alization of international capital flows through the Foreign Exchange and For- eign Trade Control Law amended in the early 1980s.24 This legal framework provided the necessary conditions for smoother luxury consumption adjustments

    23 The increased correlation during the bubble period gradually decayed, which supports the third subhypothesis.

    24The amended Foreign Exchange and Foreign Trade Control Law became effective in December 1980.

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  • 1498 Journal of Financial and Quantitative Analysis

    to wealth shocks. Furthermore, the wealth shocks we identified occurred during the bubble and post-bubble periods in parallel with tightened patterns of corre- lation (Panel D). Figure 1 depicts the movements of GSI, JSTOCK, and SP500 returns for the sample period 1954-2004. We observe a boost in returns for both GSI and JSTOCK during the mid- to late- 1980s, when these two indices become highly correlated; the SP500 followed this move to a lesser extent. This observa- tion motivates our breakpoint analysis, presented below.

    TABLE 2

    Correlation Matrix for Stock Indices and Gabrius Index (GSI)

    GSI is the return on the entire art market. JSTOCK is the return on the Japanese stock market. SP500 is the return on the S&P 500 index.

    JSTOCK SP500 GSI

    Panel A. Period from 1954 to 2004

    JSTOCK 1.000 0.217 0.177 SP500 0.217 1.000 -0.009 GSI 0.177 -0.009 1.000

    Panel B. Subperiod from 1954 to 1983

    JSTOCK 1.000 0.375 0.103 SP500 0.375 1.000 -0.011 GSI 0.103 -0.011 1.000

    Panel C. Subperiod from 1984 to 2004

    JSTOCK 1.000 0.039 0.472 SP500 0.039 1.000 0.059 GSI 0.472 0.059 1.000

    Panel D. Subperiod from 1984 to 1994

    JSTOCK 1.000 -0.227 0.637 SP500 -0.227 1.000 0.169 GSI 0.637 0.169 1.000

    Panel E. Subperiod from 1994 to 2004

    JSTOCK 1.000 0.174 -0.095 SP500 0.174 1.000 -0.191 GSI -0.095 -0.191 1.000

    Panel A of Table 3 shows correlations among the various art and stock in- dices for the sample period 1977-2004.25 GSI is highly correlated with the generic ART 100 at 0.72 and has a similar level of correlation with other general AMR in- dices at between 0.5 and 0.6. GSI and AMR indices show similar trends in time series despite the fact that the two groups of indices are constructed differently. Interestingly, the SP500 is not strongly correlated with various AMR indices, and there is almost no correlation with GSI. This finding suggests that shocks in the U.S. stock markets had little impact on the international art market. Concurrently, JSTOCK returns are highly correlated with GSI at 0.50 for the period 1977-2004. JSTOCK is more strongly correlated with most of the AMR general indices than is SP500. The evidence shown in Panel A of Table 3 generally supports the luxury consumption hypothesis for wealthy Japanese art investors.

    25The sample period differs from Panel A of Table 2 due to limitations in data availability for the AMR indices.

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  • Hiraki, Ito, Spieth, and Takezawa 1499

    FIGURE 1

    Returns on GSI, JSTOCK, and SP500

    GSI is the return on the entire art market. JSTOCK is the return on the Japanese stock market. SP500 is the return on the S&P 500 index.

    .4 -i

    3" / / frJh' / ' y n'n' a ,A A a A /V ' V / / ' y n'n' a ' ' A a ' V *- / ' p7/ / ' y n'n' ''A a '

    ' /'A ' A /

    r^lnTilll!Lvfe4n

    -4 -I , , . . . , , . , , I I I I I I I I I , I , I I . . I . I I , I , . I , I , I 80 82 84 86 88 90 92 94 96 98

    1 | GSI JSTOCK SP500

    Panel B of Table 3 shows the correlation between the returns on various art market indices and the art trade flows to and from Japanese collections. FRIMP, GSI, and the Art 100 Index all show highly positive correlations, with annual

    growth of net imports of art originating in France ranging from 0.45% to 0.65% for the 1977-2004 period. High flow-return correlations are also found for all three Impressionist artists (Monet, Degas, and Renoir), with a range from 0.38 to 0.45. On the other hand, British artists, such as Reynolds and Turner, have correlations as low as 0.16.26 The evidence presented here suggests that Japanese investors and their idiosyncratic tastes/preferences played a significant role in the international art market.

    Panel C of Table 3 provides correlations between JSTOCK and various mea- sures for net imports during the sample period 1972-2004.27 This panel also

    presents the correlations between average Japanese household consumption (HHCON) and JSTOCK. Remarkably, the rate of change for French net imports shows the highest correlation with JSTOCK, 0.4 1,28 and little correlation with SP500. Conversely, net imports from the U.K. and the U.S. do not show any

    26Both the U.S market, as represented by the AMER 100, and the single-artist Bierstadt index show high correlation; however, SP500 had little impact on art indices in general. Thus, we conclude that the results are spurious.

    27 Item-by-item export and import data, even in hard copy, are unavailable before 1972. Correlation results using the period 1977-2004 are very similar to those in Panel C of Table 3.

    28 If limited to the bubble period, this correlation is even higher.

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  • 1500 Journal of Financial and Quantitative Analysis

    TABLE 3

    Correlations among the Main Variables for 1 977-2004

    All variables are measured annually. For the category of general art market indices, we use six indices compiled by AMR: AMER 100 is the return on American art, ART100 is the return on the art market as a whole, BRITISH 100 is the return on British art, DUTCHOLD is the return on Dutch old master paintings, FRIMP is the return on French Impressionist work, and OLDMASTER is the return on old master paintings in general. We also use the GSI (Gabrius Index), prepared by Goetzmann and Spiegel, for the return on the entire art market. For the stock indices, JSTOCK is the return on the Japanese stock market, and SP500 is the return on the S&P 500 index. From among the indices for individual artists, we selected six indices compiled by AMR: DEGAS is the return on Edgar Degas's work, MONET is the return on Claude Monet's work, RENOIR is the return on Pierre-Auguste Renoir's work, REYNOLDS is the return on Sir Joshua Reynolds's work, TURNER is the return on Joseph Turner's work, and VAN is the return on Jacob van Ruisdael's work. For the net import figures, we calculate the growth rate of net imports of works of art into Japan (amount of import - amount of export) in yen for individual countries: FRANCENET is the growth rate of net imports from France; UKNET is the growth rate of net imports from UK; USANET is the growth rate of net imports from the U.S.; OTHERSNET is the growth rate of net imports from all foreign countries, except France; and TOTALNET is the growth rate of net imports from all foreign countries to Japan. HHCON is the growth rate for consumption of the average employed Japanese household.

    Panel A. Correlations among Stock and Art Indices

    JSTOCK SP500 GSI ART 100 BRITISH100 AMER 100 FRIMP DUTCHOLD OLDMASTER

    General Art Indices JSTOCK 1.000 0.055 0.503 0.423 0.413 0.304 0.473 0.179 0.313 SP500 0.055 1.000 0.086 0.279 0.356 0.053 0.351 0.296 0.260 GSI 0.503 0.086 1.000 0.715 0.506 0.599 0.556 0.597 0.507 ART100 0.423 0.279 0.715 1.000 0.712 0.788 0.801 0.647 0.573 BRITISH100 0.413 0.356 0.506 0.712 1.000 0.541 0.646 0.443 0.639 AMER100 0.304 0.053 0.599 0.788 0.541 1.000 0.673 0.519 0.680 FRIMP 0.473 0.351 0.556 0.801 0.646 0.673 1.000 0.390 0.555 DUTCHOLD 0.179 0.296 0.597 0.647 0.443 0.519 0.390 1.000 0.419 OLDMASTER 0.313 0.260 0.507 0.573 0.639 0.680 0.555 0.419 1.000

    JSTOCK SP500 GSI RENOIR MONET DEGAS REYNOLDS TURNER VAN

    Individual Indices JSTOCK 1.000 0.055 0.503 0.197 0.251 0.408 -O.020 -0.020 0.138 SP500 0.055 1.000 0.086 0.181 0.217 0.350 0.057 0.057 0.256 GSI 0.503 0.086 1.000 0.588 0.511 0.383 0.081 0.081 0.182 RENOIR 0.197 0.181 0.588 1.000 0.768 0.604 0.151 0.151 0.085 MONET 0.251 0.217 0.511 0.768 1.000 0.553 0.126 0.126 0.269 DEGAS 0.408 0.350 0.383 0.604 0.553 1.000 0.195 0.195 0.184 REYNOLDS -0.020 0.057 0.081 0.151 0.126 0.195 1.000 1.000 -0.178 TURNER -0.020 0.057 0.081 0.151 0.126 0.195 1.000 1.000 -0.178 VAN 0.138 0.256 0.182 0.085 0.269 0.184 -0.178 -0.178 1.000

    Panel B. Correlations of the Net Import from France with Japanese Stock and Art Indices

    FRANCENET FRANCENET

    General Art Indices Individual Art Indices FRIMP 0.455 JSTOCK 0.179 JSTOCK 0.179 DEGAS 0.382 GSI 0.523 MONET 0.416 ART100 0.651 RENOIR . 0.451 OLDMASTER 0.373 REYNOLDS 0.155 DUTCHOLD 0.531 TURNER 0.155 AMER 100 0.633 VAN -0.162 BRITISH100 0.353

    Panel C. Correlations among the Net Import, Stock Indices, and Household Consumption

    FRANCENET TOTALNET UKNET JSTOCK SP500 HHCON

    VFRANCENET 1 .00 TOTALNET 0.82 1.00 UKNET 0.15 0.34 1.00 JSTOCK 0.41 0.33 0.10 1.00 SP500 0.14 0.03 0.23 0.07 1.00 HHCON -0.08 -0.05 -0.17 0.05 -0.21 1.00

    significant correlation with JSTOCK. As expected, the luxury consumption hy- pothesis, when applied to Japanese investors, is supported by these findings. The correlation between trade flows and wealth shocks becomes most significant in the context of the data on net imports from France. Finally, average household adjust- ments of overall consumption to shocks in the domestic stock market exhibit very

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  • Hiraki, Ito, Spieth, and Takezawa 1501

    low correlation at 0.05, which highlights the fundamental difference between art consumption and general consumption. The first subhypothesis of luxury con- sumption is therefore well supported by the findings.

    All evidence thus far supports the luxury consumption hypothesis. However, one unanswered question remains: Were Japanese investors rich enough to cause international art prices to change even marginally? Figure 2 shows that imports of art with original French provenance amount to almost 90% of total art imports into Japan during the bubble period. Japanese art collectors preferred French art in general, but even more so works by French Impressionist and Post-Impressionist painters (Nikkei Business (June 28, 1999)).29 During the bubble period, the total amount of art imports from all countries is very close to the import volume of art created in France, a tendency that seems to have been fueled in particular by unusually strong demand for French Impressionist and Post-Impressionist paint- ings. In the next step, we compare the ratio of art imports of French provenance to total art imports into Japan, with the turnover amounts quoted in Fase (2001) and Artprice.com (2007), aggregating sales volumes across major auction houses in- ternationally. Figure 2 depicts the relative importance of Japanese buyers in terms of the ratio of Japanese art imports of either French or all-country origin to annual global art turnover at auction. The results suggest that Japanese buyers did indeed dominate in the international art market during the second half of the 1980s and at the beginning of the 1990s. Thus, the high correlation seen in Panel C of Table 3 is not spurious.

    FIGURE 2

    Japanese Presence in the International Art Market

    The solid line represents the percentage of art imports of French provenance into Japan over the worldwide auction turnover in dollars. The dashed line represents the percentage of total art imports to Japan over worldwide auction turnover in dollars.

    1 | ,

    0.9 j,

    0.8 ^ 1-'

    07 U./ . 7 / ' ' 7 r' ' 07 U./ . 7 ' 7 '

    S //^' ' = 03 ,''^/ ' / / ' ', 03 I* /' ~ / 'l. y ' o I - ' - ' - ' - ' - - ' - ' - ' - ' - ' - ' - ' - ' - ' - ' - ' - ' -

    O t~ C'J CO ^" UO CO f**- CO O} O

  • 1502 Journal of Financial and Quantitative Analysis

    regime-shifting events, like regulatory changes, or market trend shifts. The year 1981 marks a regime shift, in which the remaining obstacles to international capi- tal flows affecting Japan were removed in a revision of the Foreign Exchange and Foreign Trade Control Law.30 As for the subsequent economic bubble, there is no consensus on a precise beginning year. However, as some scholars have argued, the year 1986 appears to be a reasonable choice with hindsight (Asano (1996), Japan Securities Research Institute (2004)).31 This suggested date is close to the Plaza Accord of 1985. Another helpful indicator is the graph of the previously discussed ratios in Figure 2, which peaks during the period 1986-1991. Overall, the years between 1981 and 1986 each seem to represent a reasonable breakpoint candidate for our analysis.

    We use the end-of-sample stability test (5-test) developed by Andrews (2003) to identify the breakpoint. The 5-test is feasible even if the number of observa- tions is small. The 5-test utilizes the 5-statistic in a way similar to the F-statistic of the standard Chow test. However, the distribution and critical values of the 5-statistic are constructed empirically by employing the parametric subsampling technique. Appendix C describes how the 5-statistic is computed from the ob- servations in one sample. The 5-statistic is asymptotically valid with nonnormal, heteroskedastic, and autocorrelated errors, and with regressors that are not strictly exogenous.

    In the 5-test, we assume the performance of one art index to be linearly re- lated to the wealth shocks in the Japanese and the U.S. stock markets. The null hypothesis within this regression framework is that there is no structural break- point throughout the sample period. An alternative hypothesis is that one or more of the coefficients change at a prespecified breakpoint and remain stable there- after. The larger the 5-statistic, the smaller the p- value of the hypothesis test, both of which indicate a likely structural breakpoint in the sample. We conducted the 5-test on the following linear regression specification:

    (1) ART, - c + JSTOCKi + SPSOOr + iir,

    where ART is the annual return on GSI in U.S. dollars, JSTOCK is the annual return on TSE1 stocks in yen, and SP500 is the annual return on the S&P 500 in U.S. dollars. When we apply data from the period 1957-1998 on an annual basis, a likely breakpoint emerges in 1983 at the 1% significance level.32 This finding is approximately consistent with our conjecture that the massive inflows of Japanese

    30 Although the laws took effect in December 1980, for purposes of our analysis using annual data, a more likely inception year would be 1981 (Japan Securities Research Institute (1992), pp. 22-31). Bekaert, Harvey, and Lundblad ((2005), app. A) went even further back and identified (September) 1983 as the year of market liberalization in Japan. However, we find no major liberalization-related event in international flows around September 1983. 31 Asano (1996) suggests the Plaza Accord of September 1985 as a policy turning point, while the Japan Securities Research Institute (2004) cites Nippon Telegraph and Telephone Corp.'s (NTT) privatization and initial public offerings in February 1986 as the first epochal events of the bubble economy. See also Chancellor (1999).

    32The period was narrowed from 1954 to 2004 to remove any unusual changes in the art index prior to 1957. In the next step, it was further constricted to 1957 to 1998 to accommodate an additional structural breakpoint identified by the 5-test run with only SP500 as an independent variable for the post-bubble period. SP500 exhibits increased correlation after the latter breakpoint.

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  • Hiraki, Ito, Spieth, and Takezawa 1503

    money into the international art market largely coincided with the formation of the Japanese bubble.

    Based on the S-test result, we run OLS regressions for the subperiods 1954- 1983, 1984, and 1985, the pre-bubble period, and the subperiods 1984, 1985, and 1986-2004, the bubble to post-bubble period. The regression results are summa- rized in Table 4. JSTOCK shows positive coefficient estimates at the 5% level of statistical significance for the bubble to post-bubble period starting in 1984 and 1985. This significant result is not spurious, given the results shown in Figure 2. Results for the post-bubble period (not reported) are similar, thus robust (which is consistent with our second subhypothesis).

    TABLE 4

    OLS Regression of the Art Index Return on the Stock Index Returns

    We use the GSI (Gabrius Index) as the return on the entire art market. For the stock indices, JSTOCK is the return on the Japanese stock market and SP500 is the return on the S&P 500 index.

    * indicates significance at the 5% level.

    Panel A. First Subperiod

    Dependent Variable: GSI

    1954 to 1983 1954 to 1984 1954 to 1985

    Independent Variables Coefficient Coefficient Coefficient

    JSTOCK 0.194 0.194 0.201 SP500 -0.117 -0.119 -0.131 C 0.099 0.098 0.104

    Panel B. Second Subperiod

    Dependent Variable: GSI

    1984 to 2004 1985 to 2004 1986 to 2004

    Independent Variables Coefficient Coefficient Coefficient

    JSTOCK 0.243* 0.243* 0.210 SP500 0.031 0.031 0.065 C 0.033 0.033 0.017

    The regression results, based on the S-test in Table 4, are consistent with the luxury consumption hypothesis in that art price increases responded to the per- formance of Japanese stocks during the second subperiod, corresponding to the aftermath of capital markets liberalization and stock market booms in Japan. How- ever, an alternative explanation for the increased correlation from the mid-1980s onwards is also plausible. This explanation would maintain that foreign investors who were active in Japan, but who also invested in art internationally, increased their positions in the then more liberalized Japanese stock market, which in turn caused the return correlation between art and Japanese stocks to increase. Under this alternative interpretation, the correlation between these two classes of assets (art and Japanese stocks) should not increase beyond the level of the return corre- lation between art and the foreign investors' home-country stock market indices.

    Table 5 compares the return correlations between GSI and the Morgan Stanley Capital International (MSCI) equity market indices of Australia, Canada, France, Germany, the U.S., and the U.K., in addition to JSTOCK, for the 1981- 2003 period in local currency (Panel A) and in U.S. dollars (Panel B). Out of the seven equity market indices, JSTOCK shows by far the highest correlation with

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  • 1504 Journal of Financial and Quantitative Analysis

    the GSI art index in either denomination (0.54 in the local currency and 0.61 in U.S. dollars, respectively). This result reinforces the original notion, in the hy- pothesis, that the increased return correlation between the art and Japanese stock market indices is due to the involvement of Japanese investors, and not to foreign investors active in Japan.

    TABLE 5

    Correlations between the Art and Country Stock Index Returns for 1981-2003

    Australian stock market (MSAUST), Canadian stock market (MSCNDA), French stock market (MSFRNC), German stock market (MSGERM), U.S. stock market (MSUSAM), and U.K. stock market (MSUTDK). Panel A. Correlations Based on Local-Currency Returns

    GSI MSAUST MSCNDA MSFRNC MSGERM MSUSAM MSUTDK JSTOCK

    GSI 1.0000 MSAUST 0.3337 1.0000 MSCNDA 0.1719 0.6237 1.0000 MSFRNC 0.2526 0.7090 0.7145 1.0000 MSGERM 0.1716 0.5637 0.7014 0.8672 1.0000 MSUSAM 0.1324 0.5226 0.7029 0.7147 0.7606 1.0000 MSUTDK 0.2063 0.4799 0.6085 0.7525 0.7543 0.7957 1.0000

    JSTOCK 0.5400 -0.1005 0.0596 0.0027 -0.0721 -0.1038 0.0406 1.0000

    Panel B. Correlations Based on US$ Returns

    GSI MSAUSTS MSCNDA$ MSFRNC$ MSGERM$ MSUSAM$ MSUTDK$ JSTOCK$

    GSI 1.0000 MSAUST$ 0.3078 1.0000 MSCNDA$ 0.2132 0.6789 1.0000 MSFRNCS 0.4293 0.7022 0.6223 1.0000 MSGERM$ 0.3699 0.5200 0.5962 0.8607 1.0000 MSUSAM$ 0.1324 0.4367 0.6491 0.7359 0.7756 1.0000 MSUTDKS 0.4194 0.5328 0.6494 0.7283 0.7490 0.7746 1.0000

    JSTOCK$ 0.6132 0.0779 0.1286 0.2275 0.1398 -0.0278 0.3691 1.0000

    C. Preference Implications

    A consequence of the luxury consumption hypothesis is the introduction of a positive relationship between the consumption adjustment in the luxury goods sector (works of art) and the prices paid for such luxury goods. We test this rela- tionship in a regression framework, using net import data and return on art indices. Since the Japanese share of the global art auction turnover volume stood at nearly 80% during the bubble years, we expect a significant relationship between the rate of net import change and art index returns in the following specification:

    (2) ART, = c + Z>iNETIMP, + m

    where ART is the annual return on the various art indices in U.S. dollars and NETIMP is the annual rate of net import changes, in yen, from a particular coun- try or the entire art market, for Japanese collectors. For ART, we use DEGAS, MONET, RENOIR, REYNOLDS, TURNER, VAN, and BIERST for individ- ual artists, and GSI, ART100, OLDMASTER, DUTCHOLD, AMER100, and BRITISH 100 for general art market indices. These indices are regressed against the closest match in corresponding net import growth rate variables: France (FRANCENET), the U.K. (UKNET), the U.S. (USANET), and all countries (TOTALNET).

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  • Hiraki, Ito, Spieth, and Takezawa 1505

    Panel A of Table 6 reflects only statistically significant results. First, FRIMP returns are significantly related to net imports of art of French provenance. Sec- ond, GSI and ART 100 returns are largely explained by correlation with total net imports.33 The art market indices related to the U.K., such as BritishlOO or OLD- MASTER, show no significant relation with net imports from the U.K., which is consistent with our conjecture that Japanese art collectors, in general, did not pay much attention to British art.

    TABLE 6

    Regression of the Art Index Return on the Growth Rate of the Net Import for 1977-2004

    All variables are measured annually. AMER100 is the return on American art. ART100 is the return on the art market as a whole. FRIMP is the return on French Impressionist art. We also use the GSI (Gabrius Index), prepared by Goetzmann and Spiegel, for the return on the entire art market. DEGAS is the return on Edgar Degas's work. MONET is the return on Claude Monet's work. RENOIR is the return on Pierre-Auguste Renoir's work. For net imports, we calculate the growth rate of the net imports of artworks into Japan (amount of import - amount of export) in yen for individual countries: FRANCENET is the growth rate of net imports of French art, USANET is the growth rate of net imports of American art, and TOTALNET is the growth rate of net art imports from all foreign countries to Japan. *, **, and

    *** indicate significance at the 10%, 5%, and 1% levels, respectively. Panel A. Results for General Art Indices as the Dependent Variable

    GSI ART100 FRIMP AMER100 Independent Variables Coefficient Coefficient Coefficient Coefficient

    FRANCENET 0.234** TOTALNET 0.100** 0.189* USANET 0.030*** C 0.047 0.051 0.074 0.136

    Panel B. Results for Individual Art Indices as the Dependent Variable

    RENOIR MONET DEGAS Independent Variables Coefficient Coefficient Coefficient

    FRANCENET 0.150** 0.208** 0.143** TOTALNET USANET C 0.056 0.102 0.059

    Panel B of Table 6 contains only statistically significant results for individ- ual artist indices, which we believe to be free of the selection bias intrinsic to more broadly defined category indices. As expected, we find statistically signif- icant results only for DEGAS, MONET, and RENOIR, who are all artists of the French Impressionist category. It should be noted that individual artist indices on British painters, such as REYNOLDS and TURNER, show insignificant results, as expected.

    Overall, Japanese luxury consumption of art reflects wealth shocks in the domestic stock market, which in turn induced high, positive correlations between relevant art indices and stock market returns. High-end art purchases by Japanese buyers during the late 1980s, and subsequent, less spectacular purchases, espe- cially of French Impressionist and Post-Impressionist paintings, signaled changes in private value and wealth effects. The relatively small but internationally open art market was then dominated by a small group of rich investors from Japan with

    33The AMER100 index is correlated with net imports of art created in the U.S., but the total import amount is so small (compared to imports of French provenance) that we conclude no impact from Japanese art collectors on the AMER 100 index.

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  • 1506 Journal of Financial and Quantitative Analysis

    very homogeneous tastes. Both our basic hypothesis and subhypotheses of luxury art consumption are well supported by our statistical findings in this section.

    V. Vector Autoregression and Dummy Variable Analysis A. VAR System

    We apply the VAR methodology to investigate the most essential aspect of the luxury consumption hypothesis, that is, the dynamic relationship between art flow (art imports of French provenance to Japan) and Japanese stock market performance. The causal direction assumed in this hypothesis is from the stock market to the flow of art (i.e., a luxury consumption adjustment).

    Using the annually measured variables, we estimate the following VAR system:

    L

    (3) y, = A + Y^Bsyt-s + ut1 E{utu't) = ]T, s='

    where yt is a 2 x 1 vector of the return on JSTOCK and the rate of net French import changes at time t, and A and Bs are 2 x 1 and 2x2 matrices of parameters, respectively. L is the lag length for the VAR system, and ut is a 2 x 1 vector of errors with a variance-covariance matrix of S. Using the Akaike information criterion (AIC), we determine the number of lags required in the VAR system. We find that a lag length of 1 is sufficient to describe linear dependencies. For the VAR system equations, the Granger causality test is performed to determine whether all lag coefficients of a particular variable are jointly equal to 0.

    To perform the impulse response analysis, the VAR system (3) is transformed to the following moving average representation:

    oo

    (4) yt = y + J2csut-Si s=0

    where y is a mean vector of yt, Cs is a 2 x 2 coefficient matrix for each lag s, and ut-s is an error matrix for each lag s derived from the VAR system (3). Since different elements of vector ut are contemporaneously correlated, we cannot observe the distinct response patterns of the VAR system. However, the Cholesky factorization denoted by F achieves this as follows:

    oo oo oo

    (5) yt = y.+ J^Cn,-, = y + CsFet-, = j + ZV,_5, s=0 s=0 j=0

    where J2 =FF' and u - Fe hold so that et has a covariance matrix that is equal to an identity matrix. Now, the 2 x 2 matrix of Ds for each lag s out of the impulse response function (5) is of central concern. The (,y')th element of Ds represents the impulse response of the ith variable to the one-standard-deviation shock in the jth variable, which happened s periods earlier than the current period t. We graph- ically present impulse responses for each variable, together with two-standard- error bands based on the Monte Carlo method. Furthermore, the orthogonalization

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  • Hiraki, Ito, Spieth, and Takezawa 1507

    of errors in the Cholesky factorization shown in equation (5) is used to calculate the forecast error variance for each variable in the VAR system; this error vari- ance is attributed to the innovations of all variables in the system. We report the percentage of forecast error variance for each variable up to two and four periods ahead. Since we use the Cholesky factorization, the results may depend on the ordering of variables in the VAR system. We tried different orderings for impulse response analysis and variance decomposition and obtained a qualitatively similar pattern in the results for most art indices. Therefore, we report only those results derived from one kind of ordering.

    B. VAR Results

    Panel A of Table 7 presents parameter estimates of the VAR system (3) for the 1973-2004 period. We can easily see that the one lag of JSTOCK, that is, JSTOCK(-l), correlates with the contemporaneous FRANCENET. This result is consistent with our hypothesis that the wealth shocks in the Japanese stock mar- ket induced changes in the consumption of luxury goods after the mid-1980s, as approximated by the rate of change in net imports of works of art with French provenance (mostly French Impressionist and Post-Impressionist works). A sum- mary of the results from the Granger causality test is presented in Panel B of Table 7. The /7-value of the F-statistic is around 0.04, indicating a marginally significant causality from JSTOCK to FRANCENET. Panel C of Table 7 reports the variance decomposition results. We find that about 9.5% of the net import variance is explained by JSTOCK variance.

    TABLE 7

    VAR Analysis for the Japanese Stock Return and the Net Import from France

    JSTOCK is the return on the Japanese stock market. FRANCENET is the growth rate of net art imports of French provenance. * and ** indicate significance at the 10% and 5% levels, respectively.

    Panel A. VAR Estimates (Sample Period: 1973 to 2004)

    JSTOCK FRANCENET

    JSTOCK(-1) -0.050 0.919* FRANCENET(-I) 0.040 -0.029 C 0.068 0.118

    Panel B. p -Values for the Granger Causality Tests (F -statistics)

    Dependent Variable

    Lagged Variables JSTOCK FRANCENET

    JSTOCK 0.042** FRANCENET 0.523

    Panel C. Variance Decomposition by Variable of N-Period Ahead Forecasts (%)

    Lagged Variables

    Dependent Variable No. of Years JSTOCK . FRANCENET

    JSTOCK 2 94.62 5.38 4 94.63 5.37

    FRANCENET 2 9.40 90.60 4 9.46 90.54

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  • 1508 Journal of Financial and Quantitative Analysis

    Figure 3 graphs the impulse responses of each variable in the VAR system consisting of FRANCENET and JSTOCK. Figure 3 is comprised of four graphs, each prepared for a different impulse response. Each graph draws the impulse responses of each variable to one-standard-deviation shocks to all VAR system variables, including the variable itself. Two-standard-error bands around the point estimate line are also included. Along the horizontal axis, "1" corresponds to a contemporaneous response to the current period's shock. The graphs again con- firm the significant influence of JSTOCK on the net imports of art of French provenance. A positive shock to Japanese stock index returns in the current pe- riod leads to a significant increase in the growth rate of net imports of French art over the next period.

    FIGURE 3

    Impulse Response Function of the VAR System Consisting of JSTOCK and FRANCENET

    JSTOCK is the return on the Japanese stock market. FRANCENET is the growth rate of net art imports of French provenance. The impulse responses are computed from the Cholesky factorization for the given one-standard-deviation shock with an error band of two standard errors around the point estimate.

    Graph A. Response of FRANCENET to FRANCENET Graph B. Response of FRANCENET to JSTOCK

    8-r 1 .8-, 1

    .6 -A .6-

    4"| 4"

    A M'' 2"K' .,' Y | .,'

    123456789 10 123456789 10

    Graph C. Response of JSTOCK to FRANCENET Graph D. Response of JSTOCK to JSTOCK

    .3 -i 1 .3 i 1

    :^ :L ^~ V -.1 -I , , , , , , , - - , 1 -.1 -I , , , , , , , ,

    123456789 10 123456789 10

    The VAR results are rather weak and may raise concern about whether one extreme data point, such as the 1990's combination between stock price and net import growth, could be causing the significant causality documented in Table 7. To correct for this possibility, heteroskedasticity and autocorrelation consistent covariances (Newey-West (1987)) were applied to control for autocorrelation and

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  • Hiraki, Ito, Spieth, and Takezawa 1509

    heteroskedasticity within the same model, the results of which are given in Table 7. This methodology has been used to check whether the results are ro- bust against the one extreme data point. The output from this test is summarized in Table 8. The significance of JSTOCK affecting FRANCENET is consistent both with and without the various time dummy variables representing the years between 1988 and 1991. This outcome further strengthens the validity of our hy- pothesis test. The result, then, is not derived from a single data point with extreme values.

    TABLE 8

    Regression of the Net Import from France on the Lagged Japanese Stock Return and Time Dummy Variables

    JSTOCK is the return on the Japanese stock market. FRANCENET is the growth rate of the net art imports of French provenance. TDYY is a dummy variable equal to 1 if the observation falls in the year of YY, and 0 otherwise.

    * and **

    indicate significance at the 5% and 1 % levels, respectively.

    Dependent Variable: FRANCENET

    88 Dummy 89 Dummy 90 Dummy 91 Dummy 92 Dummy No Dummy

    JSTOCK(-1) 0.861642* 0.925814* 0.912298* 0.779485* 0.899246* 0.932329* TD88 0.602713** TD89 0.481662** TD90 0.290092** TD91 -0.81609** TD92 -0.933873** C 0.151887 0.148943 0.156141 0.203347 0.194575 0.162867

    VI. Conclusions

    In the late 1980s and early 1990s, massive Japanese investments flowed into the international art market. Based on the luxury consumption hypothesis, this pa- per examines what motivated these Japanese investments, and whether and how they influenced international art prices. Thus, our study represents a special case of the luxury consumption hypothesis of Ait-Sahalia et al. (2004) in the sense that it specifically treats art trade flows as consumption base changes, contextualized by an analysis of domestic Japanese equity returns and international art price fluc- tuations. We focus on more detailed time-series and cross-sectional implications of the luxury consumption hypothesis, using previously unexploited art flow data that reveal the motivations and effects from the investment behavior of Japanese art buyers.

    First, we find significant and positive contemporaneous correlation between art returns in general and stock returns, more specifically, between FRIMP and JSTOCK returns. This result is not spurious but backed by substantially increased Japanese art import flows originating from the international art market during the bubble period. Through the Andrews (2003) S-test, we confirm that there exists a structural breakpoint in 1983 in the induced relationship between stock market and art investment returns. The induced return correlation becomes stronger be- ginning in the mid-1980s, an observation that holds true in particular for the relationship between French Impressionist/Post-Impressionist art and JSTOCK. Second, using the VAR framework, we find that Japanese stock returns are posi- tively and significantly associated with the growth rate of Japanese net imports of

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  • 1510 Journal of Financial and Quantitative Analysis

    art of French provenance, a finding attributable initially to wealth shocks in the Japanese stock market. We interpret these results as corroborative evidence for the conjecture that Japanese stock price appreciation led to an increase in luxury consumption of Western art, as reflected in the net purchase surplus of works of art originally produced in France.

    Furthermore, this paper demonstrates that Japanese investors, strongly influ- enced by the performance of domestic asset markets, controlled trade flows in the international art market during the bubble and post-bubble periods. This obser- vation points to the fact that Japanese art investments during these periods were directly backed by Japanese corporate assets or credits, making international art prices more susceptible to fluctuations in Japanese stock prices. The results pre- sented in this paper are consistent with the luxury consumption hypothesis and its subhypotheses for cross-sectional preference and time-series patterns, as applied to the trading behavior of Japanese art collectors, who frequently acted as (quasi) corporate investors during the bubble and post-bubble periods.

    Our research furthers the understanding of international asset pricing mech- anisms. While value fluctuations of standard financial assets are caused by shocks in forecasted cash flow and risk, the (private) value of art fluctuates as a result of the luxury consumption adjustments of dominant investors in response to changes in the asset markets. As a result, the international art market and the Japanese do- mestic stock market show a positive correlation whose magnitude differs both in time series and cross sections. This correlation was strong for the type of art that met the taste of Japanese investors during the bubble period and its aftermath. These results shed new light on the importance of unusual asset markets with fixed supply, such as art, in understanding asset pricing in other conventional finan- cial markets. One relatively small (but unique) international market may correlate with one particular domestic asset market, systematically influenced through the consumption behavior of the then globally richest group of investors. Relatively homogeneous aesthetic preferences across a whole class of Japanese art collec- tors, backed by a strong home equity market, moved the price structure for art internationally. The results of our study are particularly relevant at this time when new groups of globally dominant investors begin to discover the opportunities and challenges inherent in investments in the international art market.

    Appendix A. Involvement of Japanese and Emerging-Market Collectors in the International Art Auction Markets

    1 . Major Purchases and Sales by Japanese Collectors On March 30, 1987, Yasuda Fire & Marine Insurance Co. bought Vincent van Gogh's

    Sunflowers for $39.9 million at Christie's London (Ash (1987)). At the time, this was the highest price ever paid for a single work of art. The acquisition, which was extensively exploited by Yasuda Fire & Marine Insurance Co. for public relations purposes, immedi- ately focused international media attention on the arrival of a new class of Japanese buyers in the international art market. The case of Ryoei Saito, then the honorary chairman of Daishowa Paper Manufacturing Co., a family-controlled firm listed on the first section of the Tokyo Stock Exchange, represents a textbook example of Japanese purchasing power in the international art market of the late 1980s and early 1990s. Saito spent more than $160 million for van Gogh's Portrait of Dr. Gachet and Renoir's Moulin de la Gaiette in two

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  • Hiraki, Ito, Spieth, and Takezawa 151 1

    auctions held on successive evenings at Sotheby's and Christie's New York in May 1990 (Ash (1990)).34 Saltzman (1998) discusses in detail the transactions that led up to Saito's purchase of Portrait of Dr. Gachet from a business perspective, and reveals the subsequent efforts to liquidate the painting at a steep discount in mid- 1997. Van Gogh's masterwork held the rank of most expensive painting of all time until the sale of Pablo Picasso's Garon la pipe for $104.1 million at Sotheby's New York in May 2004 (Ash (2005)). During the post-bubble period, there were occasionally fire sales of formerly Japanese-owned Impres- sionist, as well as Modernist, paintings. For instance, works by Claude Monet, Camille Pissarro, Camille Corot, Edgar Degas, and others were divested at steep discounts in sales on consecutive evenings at Sotheby's and Christie's in May 1999 (Nikkei Business (June 28, 1999)). Slated for liquidation by a Japanese consumer loan company, these artworks had entered the possession of the seller as securities from art collectors who had defaulted on their loans.

    2. Newly Emerging Investors

    Russia, India, the United Arabic Emirates, and China have in recent years emerged as major net buying countries in the international art market, and they have shown a com- mensurate appetite for high-end, foreign-branded goods. Indeed, as Artprice.com's 2006 edition of Art Market Trends points out, "The art market is a good indicator of the gen- eral economic prosperity of a country. Driven by strong growth, both China and India are rapidly becoming major players in the international art market" (Artprice.com (2007), p. 11). However, it should be noted that, unlike Japan during the bubble period, Chinese, Indian, and Russian buyers strongly prefer to acquire their own countries' artistic out- put, even when these works were originally purchased by foreigners and now must be repatriated. Hence, prices have increased by 483% for Indian art and 386% for Chinese avant-garde art in 2006 alone (Artprice.com (2007), pp. 17-20).

    Appendix B. French Impressionism and Japan The Japanese infatuation with Impressionist art can be partially explained by the fact

    that many French painters of the late nineteenth century were influenced by the aesthetics of Japanese ukiyo-e woodblock prints, which began to appear in France with the opening of Japan to Western influence and intensified trade relations during the Meiji era (McNeal Lavender (1983), Monet & Japan (2001)). Many contemporary Japanese artists working in Western-style oil painting continued to consider perfect imitation of the French Impres- sionist style as an emblem of their artistic genius right through to the end of the twentieth century. French Impressionist art, accordingly, fetched high prices among domestic buyers.

    Schule ((1988), pp. 195, 201) reports on the art department of the Mitsukoshi de- partment store in Ginza being filled with "Renoirs that were not painted by Renoir, Sisleys that are no Sisleys, and Vlamincks which have only a vague resemblance with Vlaminck. Nippon-style copies, parodies intended to be taken seriously, are offered here for $40,000 per piece. [By the late 1980's, another art dealer, Tokushichi Hasegawa, sold] 3,000 paint- ings annually, 60% of which are so-called 'Impressionists,' i.e., Renoirs la japonaise; only 20% are genuine French master painters." Schille also cited the Japanese art dealer Susumu Yamamoto, then president of the Fuji Television Gallery, which specialized in French Im- pressionist art, as saying that "only 'typical' pictures stand the test [of the Japanese market]. [My clients] even buy fakes, because they are frequently more typical than the originals."

    34See Ash (1987-2004), Chancellor (1999), and Troster (1996). See also Spieth (2000) for review of these impressive corporate investments.

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  • 1512 Journal of Financial and Quantitative Analysis

    Appendix C. S-Test

    Appendix C briefly describes the "end-of-sample instability test" (the 5-test) pro- posed by Andrews (2003). The 5- test is designed to detect structural instability over a relatively small number of observations in a sample. More specifically, in this paper the 5-test is used to identify the asset price structural change in the 1980s and 1990s. Fol- lowing Andrews (2003), we consider a linear regression model with a potential structural breakpoint after n observations, followed by m post-change observations:

    ( c^ + JSTOCK. + SPSOOr + M,, for i=l,...,w,

    ' c^ST + b^tSTJSTOCKt + b^STSP500t + uti for i = /i+l,...,/i + m,

    where the error term, w,, is uncorrelated with each of the regressors, JSTOCK, and SP500,; the design matrix is positively definite; and {(ART,, JSTOCK,, SP500,) : t > 1} is sta- tionary and ergodic (i.e., stable error variance) under the following null and alternative hypotheses:

  • Hiraki, Ito, Spieth, and Takezawa 1513

    r * ~i i"1

    x'^+ffl-iEi+ffl_i (YJj^-' -XjJ+m-i$j+m-i)',

    and for m < d,

    (C-5) Sj = (Yjj+m-i -Xjj+m-ij+m-i) 2_^.+m_l{Yj,j+m-l - Xjj+m-'j+m-i).

    Note that the estimate of in (C-4) and (C-5) uses observations indexed by t - 1, . . . , n with tj,...J+ 'm/2] - 1. In general, the larger the 5-statistic, the smaller the p- value of the hypothesis test, both conditions indicating a likely structural breakpoint in the sample.

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    Article Contentsp. 1489p. 1490p. 1491p. 1492p. 1493p. 1494p. 1495p. 1496p. 1497p. 1498p. 1499p. 1500p. 1501p. 1502p. 1503p. 1504p. 1505p. 1506p. 1507p. 1508p. 1509p. 1510p. 1511p. 1512p. 1513p. 1514

    Issue Table of ContentsThe Journal of Financial and Quantitative Analysis, Vol. 44, No. 6 (Dec., 2009), pp. 1265-1514Volume InformationFront MatterOn the Volatility and Comovement of U.S. Financial Markets around Macroeconomic News Announcements [pp. 1265-1289]Organization and Financing of Innovation, and the Choice between Corporate and Independent Venture Capital [pp. 1291-1321]Do Firms Target Credit Ratings or Leverage Levels? [pp. 1323-1344]Does Skin in the Game Matter? Director Incentives and Governance in the Mutual Fund Industry [pp. 1345-1373]Hard-to-Value Stocks, Behavioral Biases, and Informed Trading [pp. 1375-1401]Block Ownership, Trading Activity, and Market Liquidity [pp. 1403-1426]Paying for Market Quality [pp. 1427-1457]Stock Option Repricing and Its Alternatives: An Empirical Examination [pp. 1459-1487]How Did Japanese Investments Influence International Art Prices? [pp. 1489-1514]Back Matter