Liquidity vs. Rarity – what is more important for your wine portfolio?

Navigating the fine wine market

To anyone trying to invest in the Fine Wine Market, it can seem a bit of a daunting prospect. The combination of abundant merchant choice, constrained buying power, and concerns around authenticity or scams can leave new investors feeling overwhelmed, with little clarity on where to begin or how to define their portfolio’s long-term objective.

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Liquidity vs. Rarity

It's important to understand the difference between liquidity and rarity as this important distinction can be applied to your portfolio according to your purchase intentions;

• Liquidity describes the ease at which an asset can be converted into cash quickly, without losing significant market value.

• Rarity describes the scarcity of supply rather than the ease of sale. Alone, rarity does not necessarily guarantee active demand or multiple buyers and therefore cannot be converted into cash as quickly.

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As consumers/investors, we unconsciously equate scarcity with worth – being able to secure such a limited release of a wine can be emotionally satisfying and heighten one’s social status. The same logic can be applied to the collectibles market, see some classic examples in the sneaker market here. There is an initial hype around the drop of this new product (for example 500 pairs worldwide), dubbed as an exclusive and subsequently sells out within minutes. There is, however, one factor missing – there is no established resale track record and as such, initial interest fades and attention shifts to the ‘next big thing’. The secondary market then dries up and there are no long-term collector-based forums. The scarcity has increased but the worth has not because it cannot be converted into cash quickly.

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Consequently, without liquidity, rarity cannot be called an asset.

Why? Because the item is rare, but it is hard to sell because it’s only worth something to a very specific someone. Rarity subsequently pushes the price beyond the point where there are enough willing and able buyers to sustain trading and as such the market will only ever exist where sufficient buyers can transact at a given price – meaning they may simply be pushed out of the market. Rarity will raise prices by restricting supply, but once the price rises faster than the buyer base can grow, the market thins and liquidity breaks.

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Defining the role of liquidity

Now, just because something is liquid does not necessarily mean it is in high supply. Liquidity is about demand and turnover and it is important to correctly understand the concept. In the example of fine wine, and product is liquid when;

1. There is consistent global demand.
2. The product trades frequently on the secondary market.
3. Prices are transparent.
4. There are examples of both lower priced, higher production wines (e.g. Tignanello) and higher priced, lower production wines (e.g. Domaine de la Romanée-Conti) which can be considered liquid.

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That doesn’t mean to say that rarity cannot enhance liquidity. In fact, it absolutely can but it needs to work interactively and in synergy with strong, widespread demand. Only when there are enough buyers competing for a limited supply does it become an asset. The result? Liquidity improves when rarity creates urgency and competition amongst buyers through broad and persistent demand, iconic brand recognition, consistently high quality and transparent market information. One only needs to look to Domaine de la Romanée-Conti to see this perfect interaction – its limited production combined with global demand, long standing reputation and collectors willing to pay to prices for an allocation resulting in wines which although rare, are a highly liquid asset.

Conclusion - What does this mean for your portfolio?

So, what does this all mean for your portfolio? Well, it all comes down to what is the sole purpose of your strategy – are you looking for a journey of discovery through collecting and drinking? Or is the intention one of capital growth? If the answer is the latter, then liquidity will always win. That’s not to say that rarity isn’t bad – quite the opposite if you’re looking for that exploration.  But capital growth only exists if gains can be realised which is only possible in a liquid market. Liquidity will attract new capital and with this comes market growth as new buyers enter. It lowers perceived risk, increases confidence and encourages participation.