Simply put, an art fund is similar in concept to a mutual fund in the stock market. A group of people collectively invest in a basket of paintings. Like a fund manager who makes investment decisions, there is a professional making the buying decisions such as which artists and works should be bought, and at what price they provide a wise investment opportunity. It is, of course, also their responsibility to figure out the best time and method to sell these works, so as to maximise profits for the investors.

Whether I agree with the underlying philosophy of the commodification of art or not, the undisputed point is that art funds today form a significant enough chunk of the market for them to be taken seriously, which translates into their activities being overseen by a regulatory body. However, they are inherently different from most other mutual funds, whether equity or fixed income, so the question is what methods will be used to oversee them?

Most funds already have stringent rules in place regarding disclosure, vesting periods and the like. The most important factor with any fund, whether art, equity or real estate is the valuation techniques employed to determine the net asset value of the fund’s holdings.

An equity fund is relatively straightforward as the day’s trading activities provide a barometer at the end of every day to calculate the value of the portfolio. For the art market, which is relatively illiquid in comparison, neither is there a public, transparent, daily trading platform, nor can the value of artworks be calculated using a formula (no matter how hard people may try to use per square foot rates). Besides which, there are several intangible elements that are taken into consideration when valuing an art work, such as the “quality” of the artwork. If an art work is appraised by two sets of people, chances are the value arrived at will not be the same, as the two people may have divergent perspectives, interests and aesthetic viewpoints.

Bottom line—how do you ensure that all works are valued using the same parameters? One option would be to create an art market equivalent to CRISIL, the SEBI appointed valuer for the corporate bond market, that is also a relatively illiquid market. All art funds would have to have their portfolios valued at regular intervals by this same independent valuation panel that has no vested interests. That virtually removes most market experts from the field, as all gallerists, dealers and auction house specialists would have a professional bias of some sort. Getting this body in place would be a good first starting point, provided it is made up of people with sufficient and accurate knowledge.

SEBI’s role is to protect the investors. The art investor demographic so far is made up to a large extent by the sophisticated investor who is aware of the risks involved in an alternative asset class like art (much like the private equity investor in the financial markets). Will setting regulations and giving it credibility create a whole new breed of art funds that aim to take art to the masses? That could be a bigger bite than the art market can chew.