Does the rush to collector cars as an inflation hedge create the danger of a ‘coattail effect’?

The Fed’s Q3 2011 announcement that it plans to keep the federal funds rate at or near zero through 2014 may be great news for those planning to make purchases that utilize credit but it sends shivers up the spines of investors who fear that a rise in the rate of inflation might erode any gains made in traditional investments — for example, a 5 percent return on an investment in a time of 6 percent inflation means you’ve actually lost 1 percent.

Given the very real fear of inflation, it’s natural that some investors are looking for tangible assets that are expected to increase in value at a rate greater than inflation and that also have an acceptable risk profile. For some of these investors, collectible cars are looking quite attractive.

While some portions of the collector car market had been doing quite well organically — with enthusiasts and longtime collectors snapping up what they enjoy — a rush to tangible assets as a hedge against inflation may now be creating a bit of a self-fulfilling prophesy. By this, I mean that when more and more individuals with investment motivations flock to a certain asset, they can keep prices high even in cases where the intrinsic values of the assets in question might not justify those prices.

Both inflation hedging and speculation have been seen before in the collector car market. We tend to think of those who invest in collector cars as inflation hedges to be more educated and longer-term investors who seem to present less of a prospect for systemic harm to the market.

Speculators aren’t in it for the long haul. Their expectations as to hold times are vastly shorter and too many of them in the market can spell trouble, as it did in 1991 when the collector car market simply ran out of end-users and crashed spectacularly.

One of the possible signs of a self-fulfilling prophesy in action in the collector car world is the re-appearance of “the coattail effect” — a sudden increase in demand and prices for less collectible cars fueled by a rapid appreciation in a similar but more desirable model or the same model in far superior condition. In short, the coattail effect means higher prices for cars of intrinsically lesser worth.

The Ferrari, Aston Martin and Porsche markets are all exhibiting signs of the above in varying degrees. Of the three, the Ferrari market has probably been the most restrained. Almost everything built or designed during the so-called “Enzo era” (the time prior to Fiat’s 1969 purchase of Ferrari) is up in price and most in a seemingly rational and comprehensible manner. The clock is ticking for those who have acquired sufficient net worth to buy a 275GTB/4 or a California Spider, and those eminently desirable models have seen increases commensurate with their intrinsic worth and demand. Nothing alarming here.

The less-desirable Enzo-era cars, like the 2+2 cars, had been significantly undervalued in comparison to both their two-seater stable mates and David Brown Aston Martins, and have also seen appreciation commensurate with their inherent desirability rather benefitting from the success of the more desirable models.

Aston Martin DB5s have always been rather hot properties because of their association with James Bond. 1950s Astons, DB4s, DB6s, DBSs and even V-8s from the 1970s and ‘80s have all latched onto the DB5’s coattails and have seen wild appreciation in the last several years to the point where a six-cylinder DBS (a formerly unappreciated model) is now worth the price of a 12-cylinder Ferrari 365 GT 2+2.

Because of the number of cars on the market, the Porsche market is probably the one that bears the most watching. Several years ago, the 356 market heated up, with rare models like four-cam 356 Carreras, Super Speedsters, twin-grille B roadsters, early 911Ss and 911 Carrera 2.7 RSs in some cases quadrupling in value.

Porsches of all stripes have also seen rapid appreciation of late as seemingly more and more investors want to jump on the vintage Porsche train and more collectors want to pick up a car before they’re priced out of the market. A classic example of this can be found in the 911 Carrera world. During the period of 2004 to 2011, the 1973 Porsche Carrera 2.7 RS (an inherently desirable car) went from $75,000 to $350,000, not without justification in the marketplace.

This race-inspired car with all the attributes of a very desirable early 911S multiplied at least threefold was never officially imported to the U.S. (although many did wind up here). In its place, we got the 1974 Carrera, essentially a trim-and-stripe package that only shared the distinctive ducktail spoiler and graphics of the RS. In all other respects it was the same as the not-well-regarded U.S. spec 2.7-liter G-Series 911, yet even these Porsches have seen rapid price increases of late, as have the quite numerous short wheelbase four-cylinder 912 models.

The Scottsdale auctions showed the first sign of market pushback, with early 911Ss remaining strong, but less powerful and more common versions of early 911s fetching more realistic prices. One wonders whether the market can count on newer arrivals to the collector car world to be as discerning as the crowd in Scottsdale 2012. The danger of volatility is in the middle and the lower ends of the market, where there exists the possibility of lesser cars being swept up by the coattails of the true blue chip cars. In the end, it’s always the best strategy to buy what you truly love, and if it proves to be a wise investment in the long run, it’s value added to the enjoyment that you had over the years.