Venture Capital, which is the investment of money into early-stage private company equity, has seen a tremendous amount of growth over the last few decades. Not only has more money been allocated into venture capital by those who have long been investing in the asset class, resulting in significantly bigger funds. But a growing number of investors who did not previously invest in this asset class are beginning to make sizeable allocations to venture. Some of this comes in the form of direct angel investments. Some is coming through participation in a growing range of emerging funds. As a result, there are many more venture funds, angel investing groups and better ways to engage with venture capital than ever before. We explain why these trends are happening and whether venture investing might be right for you.
Better Investment Returns
Dave Swenson, the legendary manager of the Yale Endowment, outperformed all his peers in part by allocating far larger portions of his funds to private equity and venture capital. These sectors, in being both higher risk and higher returns, can produce extraordinary and uncorrelated returns, unlike the more traditional asset classes like public market stocks and bonds, which generate returns that mirror the overall growth of the market, which is comprised entirely of more mature companies. Mature companies have a much lower risk of going out of business but also tend to see slower rates of growth. Swenson inspired a generation of fund managers to seek higher returns (alpha) through asset classes like venture capital, hedge funds and private equity and such allocations have crept up as a larger percentage of institutional funds, from a mere 15% of the portfolio back in the 80s, to as much as 85% at the Yale endowment portfolio at the start of this decade.
Ability to Invest in High Growth Technologies
Venture capital, by its very nature, invests in young companies that are developing new products, technologies and services that have the potential for extraordinarily high growth. These companies face many more challenges and risks than large, established companies and many do fail. Those that succeed, however, can find that there’s huge markets to capture, as populations adopt new capabilities. New technologies and products catch on all of the time and today’s market is extraordinarily dynamic, between the push for electrification of almost everything and demand for clean energy—changing every aspect of how we use energy—to the growth of AI’s large language models, that are enabling whole new levels of knowledge service, data exploration and discovery. Combine this with new types of robots, drones, automation and miniaturization and there are vast opportunities for new unicorns this decade. The only way to access young, high-growth ventures that are not public is through venture capital or angel investing. This can involve taking more risk but it doesn’t require that you take more risk than you can afford.
Technology has made venture capital accessible
Up until recently, venture capital was the exclusive playground of large institutional investors like pension funds, university endowments, foundations and family offices. It used to take a minimum of $5 to $20 million to participate in a premium venture fund. This limited venture capital to those with net worths over $100 million or more. Even the top 1% of investors could not afford to play. Fortunately, those days are gone. Over the last decade or two, an explosion of new funds has improved access and now there are traditional funds with minimums, as low as $250,000. Then, around 2020, something quite unimaginable happened: venture-backed tech companies disrupted the venture capital industry itself. Fintech and venture fintech developed investment platforms automating the venture back-end. These are now powering a diverse range of new funds and an emerging class of fund managers, like Nucleation Capital, able to offer participation in venture capital for as little as $5,000. Rather than having 15 LPs investing $10 or $20 million each, these platform make it possible for a fund to have 100 LPs, investing between $10,000 and $100,000 each. This makes venture affordable for more of those deemed accredited investors, and thus qualified to take on more risk.
Better diversification
If you’ve been saving for retirement and putting money into your retirement accounts, your assets will have grown but not your level of diversification. Like many who started with not that much capital or not that much investment expertise, you’ve probably opted to focus your investments in the public markets and structure in a certain amount of diversification through an asset allocation between equities and debt, and build a portfolio that spans large cap and small cap stocks, domestic and international, and possibly growth and value equities. As your capital has grown, you likely increased your positions in these same asset classes, without ever considering broadening to other asset classes. The good news is, you can now diversify more easily into private equity through the venture capital asset class, without needing to be a billionaire and invest more than you care to risk or spending a huge amount of time figuring out what to invest in. All you need to do is reserve some after tax dollars to use for this, rather than piling everything into the your public market investment accounts. This will enable you to explore the high-growth innovation side of our economy, choose what and how to invest and potentially boost your overall portfolio returns.
Explore your passions; Invest your values
Investors with standard issue public market investment accounts generally take little interest in what has been invested in and instead nervously watch them go up and down. Many cower at market gyrations and are even afraid to look, hoping that they’ve been properly structured to eventually yield a comfortable level of retirement support. You may not even know whether or not you’re invested in ExxonMobile, Dow Chemical, NVIDIA or Saudi Aramco unless you ask.
In great contrast, private equity investors tend to take a wholely different approach. People investing in alternative markets get to follow their interests and invest in what they care about or sectors that excite them. Whether that is real estate, crypto mining, your nephew’s biotech start-up company or a venture fund focused on innovations in clean energy, people mostly select areas that they know something about, care about or are just jazzed to participate in, like AI or advanced nuclear. They tend to take a more active interest in how this money is invested. Such investments can yield not just financial returns but satisfaction, excitement, community and/or moral victory if you’ve invested with a mission. So long as you can afford to lose the funds that you put at risk in alternative investments, the experience of participating in backing a venture, a market or a fund manager that you believe in—whether it is a moonshot type deal or not—can be far more engaging and worthwhile than mere stocks and bonds and also yield extraordinary returns.
Investing in a venture fund that targets areas you care about can provide that same level of engagement but without requiring you to do all of the hard diligence work, while providing better overall diversification of risk. You will get to follow the progress of the fund’s portfolio, hear about exciting market developments and potentially get to meet hard-charging founders and other investors who agree on the growth potential of the technologies you like. Investing your values can also make a difference when you speak to the younger members of your family, who rightfully may wonder what you are doing to ensure that their future, not just financially but technologically, especially in an era of climate change. Investing in nascent climate solutions can provide you with exciting levels of return while also helping to guarantee a brighter future for your heirs.
Conclusion
Venture capital investing is a higher risk type of investing, since young private ventures have significant challenges to overcome in order to grow and hence the potential to fail. The SEC does not recommend that investors with less than $1 million in investable assets or less than $200,000 in income take those risks. If however, your assets or income exceed those levels, then the SEC both permits and trusts you to allocate appropriately to these riskier types of assets as a way to generate better returns. If and when you choose to do so, it also opens up pathways for you to put your money into areas, technologies, founders or funds that you really believe in. Often with the possibility of earning returns that are many multiples more than you would earn on funds invested through the public markets. As such, venture investing is an increasingly popular way to both diversify one’s investment activity while improving overall portfolio performance. An expanding universe of ventures, venture vehicles and angel and venture investment communities offer many options for investors, who now can select based upon the amount of capital and time they wish to invest. Many so do as a way to use their capital as a force for good, directing capital to those ventures that address the needs that matter most.