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I don't disagree with all of PG's points, but I always find it intriguing that in discussions of the current startup landscape and the future of startup investi

I don't disagree with all of PG's points, but I always find it intriguing that in discussions of the current startup landscape and the future of startup investing, there's almost never any mention of the impact of the easy money policies of the major central banks over the past several years. Cheap money on an unprecedented scale has affected just about every asset class, including VC, so to discuss the future of startup investing without even considering the extraordinary monetary policies we've seen implemented since 2008 is interesting to say the least.

jacques_chester 13y ago
The effect of deep pools of capital varies from country to country. In Australia, for example, superannuation funds hold about AU$1.5 trillion under management (not a large number by global standards, but Australia is a country of only 23 million). That amount will continue to rise steadily, and the rate at which it will rise is being pushed up by laws increasing the level of compulsory retirement savings. In the USA, retirement funds, hedge funds, college endowments and so on and so forth all invest in VCs. A few percent. How much do Australia's superannuation funds invest in venture? So far as I am able to determine -- nothing. We have venture funds here, but they're not really venture funds at all. They were seeded with government money; no such fund has an incentive to take true risks. The other problem with a pure monetary explanation is that it predicts that all other asset classes should have moved in the same direction. One of the reason VCs got so much money is because shares were flat for a long time; the unadorned Austrian interpretation says that shares should've risen too.
- 7Figures2Commas 13y ago
  I am not suggesting that monetary policy is everything. Secular trends, like the tendency for software and hardware to get cheaper, can't be ignored. But to ignore the direct and indirect impacts of monetary policy altogether doesn't make sense either. Silicon Valley-specific example: Facebook goes public during what many believe is a Fed-supported bull market. Insiders sell stock at close to a $100 billion valuation; it's estimated that more than 1,000 employees get to sell stock worth at least $1 million a few months later. Some of the gains realized by insiders and employees will be funneled back into startup investments as those insiders and employees become limited partners in venture funds or angel investors themselves. Now consider this dynamic across the entire tech industry. Numerous companies have taken advantage of the IPO window of the past several years, and have been able to go public at rich valuations. Many employees with equity compensation at established publicly traded tech companies have done very well too, and ironically some of the most exorbitant valuations are at large companies lacking earnings. It would be foolish to believe that none of this has impacted the amount of money being thrown at VC firms, super angel funds and startups through direct angel investment, which in turn impacts valuations, deal terms, etc. The big question: when the great experiment of the central banks ends, how will this affect the landscape for investments in startups? I have some ideas which may or may not be right, but it's simply not credible to believe that there will be no change. The fact that few investors in Silicon Valley seem to be talking about this, however, suggests that they believe they live in a vacuum completely disconnected from the rest of the economy and global financial system. The last time this happened, it didn't end well.
  - jacques_chester 13y ago
    IPO pyramids can be funded without central bank profligacy. Consider the first tech bubble: inflationary policy followed from the wreck, it did not lead it at all. The current bubble is actually remarkable for the relative rarity of IPOs; probably connected to lower founding costs and substitution of acquisition exits.
    - 7Figures2Commas 13y ago
      The word "profligacy" has taken on new meaning in the past several years, but keep in mind that many people believe the first .com bubble was in part a result of Alan Greenspan not raising rates quickly enough in response to a stock market that was overheating. In other words, even though rates can't get much lower than they have been the past several years doesn't mean that they weren't too low in the late 1990s too. As for IPOs, I'm not sure that what we saw in the first boom should be used as a baseline for anything. The IPO window has most certainly been open and Facebook's IPO was an historic one. In any case, I'm not sure I understand the point you're making. Even if you believe that bubbles can be created without extraordinary central bank action, which is true, the injection of trillions of dollars into the financial system in a few short years and what happens when it has to come out should be top of mind for any investor in any asset class, particularly now that it appears we are closer to the end of this phase of the experiment. Listen to people in just about every corner of the financial markets, from equities to credit, and this is the topic. But it's striking that instead, Silicon Valley startup investors seem more interested in how they can get in on the hottest deals, convince founders they're friendly, etc. That should be of concern to everybody in Silicon Valley, including the entrepreneurs who will likely find themselves in a much different world sooner than they expect.
      - jacques_chester 13y ago
        My point is that overreliance on monetary inflation as the single systemic driver is simplistic. Is it a cause? I think so. Is it the only cause? Not even close. There are so many other confounding factors at work that it is insensible to sheet it home purely to monetary factors. Stuff like "large capital institutions in the USA are comfortable with venture investing", "shares have underperformed for most of the past 6 years", "it has never been cheaper or easier to launch a web startup" and "there are now billions of people connected to the internet" deserve billing alongside "the money supply is expanding", especially since monetary expansion has such lumpy and unpredictable effects on different asset classes at different times.
adventured 13y ago
I think the cheap money certainly has the biggest impact on two things: first, larger class VC money (and where they get their funds); and second, the free capital that angels and others have available due to the Fed inflating the stock market. However, given the increasingly lower cost of starting a company, I can't see a substantial impact to the sub $100k funding arena with the inevitable end to cheap money. $100k just ain't what it used to be, but the infrastructure ooomph it buys is just going to keep getting more astounding.
- 7Figures2Commas 13y ago
  You might be right that big VC will take the biggest hit, but from what I can tell, a large part of the market for $100K investments exists precisely because you have so many individuals who have done well in the Fed-inflated stock market. When the number of people with $100,000 to throw at twenty-something founders fresh out of college drops and/or interest rates rise to the point where you can eventually get a 5-year FDIC-insured CD yielding as much as investment grade corporate debt in 2012, the impact on the angel market might not be insignificant.
  - w3pm 13y ago
    Exactly right. In our current zero-interest rate environment everyone with spare cash is scrambling to figure out what to do to generate a return. Stock market? Risky. Bonds? You've got to be insane. Real-estate? Very risky. Angel investing in tech companies? Used to seem crazy but now it's not any less risky than the other options. They'll all implode if the money printing ends. It is unfortunate since out of all of the options, investing in tomorrow's inventors is actually one of the better uses (for society) of idle money.
    - icedchai 13y ago
      you sound like someone with no investment experience. investing in the stock market is a lot less risky than angel investing. especially if you keep it safe with index funds and don't look at individual stocks. you have close to zero liquidity investing in private companies. you're buying something you can't sell, for years, if ever. with stocks and bonds, I can always get out.
pg 13y ago
To be honest, I don't know anything at all about monetary policy. I've said before that valuations are high right now, but I don't know what if any effect monetary policy has had on them.
- phillmv 13y ago
  Actually, you're in a rather unique position. If you don't mind, what do you think drives valuation inflation? What's the competitive pressure for VCs/funders to invest at higher valuations?
- 7Figures2Commas 13y ago
  I suppose you could argue that monetary policy isn't as big a consideration for YC as it is for other funds. YC effectively capitalizes new companies with tiny amounts of money, and it does so across a relatively large number of companies. If you're not involved in follow-on rounds, valuation is less important to you, although you probably wouldn't be happy if the paper value of equity you haven't realized gains on collapsed. Outside of this, it seems to me that YC's next biggest risk is that the landscape changes, you cannot put enough of your capital to use effectively/efficiently and more attractive risk-adjusted returns become available elsewhere. But most angels and VC firms investing larger sums in fewer deals, and competing harder to get into those deals, have much greater risk. The intriguing/disturbing thing is that as far as I can see, those investors seem to be completely ignoring how the injection of trillions of dollars into the financial system has impacted the asset class they're investing in. I can't name any other asset class in which professionals haven't been publicly discussing this topic for some time.
timedoctor 13y ago
I would also add that VC funds have a s..t load of money to invest. The valuations that they give in comparison with a bricks and mortar business are night and day different in most cases. For example a successful local business might sell for 3-4 times net profits or 1 times revenues. A tech company in a series A might get 15 times revenues (with zero profits). A hot tech startup can justify a lot more based on a lot less or zero revenue. The hope is that the tech company is going to justify that MUCH higher valuation by spectacular growth. Obviously it is justified with a handful of companies, but it's a very high risk investment for VCs to put it bluntly. However they have the funds, and they have their criteria with which to invest, and they mostly have a mandate and must invest the money. I think Paul Graham's point's are interesting, but they are based on a world that he lives in, the world of tech startups and VCs, which is not the same as the wider business world.
VandyILL 13y ago
I think a more interesting discussion would be one concerning what impact the opinions on the markets is having on startup investing. I wonder if people's current distrust of the general stock market & fear of volatality may encourage investors to do more deals with companies that aren't publicly traded because the value of the company is isolated from the whims of the market etc. This would push people from the traditional markets into less liquid markets such as equity deals with pre-ipo companies.
- 7Figures2Commas 13y ago
  Distrust of the stock market is mostly a retail investor phenomenon. If you look across the board at the increase in prices of just about everything in the past five years, especially yield-generating instruments (dividend stocks, REITs, MLPs, preferred shares, high-yield debt, etc.), I think it's hard to argue that investors have shunned public markets. Assets simply can't increase that much in value if there are no net buyers. Granted, the low interest rate environment has essentially forced some of these investments and the money fueling them is cheaper than ever, but I don't see any evidence that there's a large contingent of professional investors fearful of public markets who are plowing their cash into illiquid startup stock instead. If anything, the growth of markets like Second Market suggests that investors are increasingly eager to buy shares of private companies likely to go public in the not too distant future. Recall that there were investors snapping up Facebook shares before the IPO (the latest to the party hoping for a double-digit IPO pop lost a lot of money) and somewhat amazingly, there were even funds dedicated entirely to accumulating pre-IPO shares. Even if you're not banking on an IPO as a startup investor, the other liquidity event you're looking for (acquisition) typically comes at the hands of a publicly-traded company, particularly if it's big, so you have stock market exposure there too. It's usually a lot easier for a public company to make a big acquisition when its stock is flying high.

jacques_chester 13y ago

The effect of deep pools of capital varies from country to country. In Australia, for example, superannuation funds hold about AU$1.5 trillion under management (not a large number by global standards, but Australia is a country of only 23 million). That amount will continue to rise steadily, and the rate at which it will rise is being pushed up by laws increasing the level of compulsory retirement savings. In the USA, retirement funds, hedge funds, college endowments and so on and so forth all invest in VCs. A few percent. How much do Australia's superannuation funds invest in venture? So far as I am able to determine -- nothing. We have venture funds here, but they're not really venture funds at all. They were seeded with government money; no such fund has an incentive to take true risks. The other problem with a pure monetary explanation is that it predicts that all other asset classes should have moved in the same direction. One of the reason VCs got so much money is because shares were flat for a long time; the unadorned Austrian interpretation says that shares should've risen too.

7Figures2Commas 13y ago
I am not suggesting that monetary policy is everything. Secular trends, like the tendency for software and hardware to get cheaper, can't be ignored. But to ignore the direct and indirect impacts of monetary policy altogether doesn't make sense either. Silicon Valley-specific example: Facebook goes public during what many believe is a Fed-supported bull market. Insiders sell stock at close to a $100 billion valuation; it's estimated that more than 1,000 employees get to sell stock worth at least $1 million a few months later. Some of the gains realized by insiders and employees will be funneled back into startup investments as those insiders and employees become limited partners in venture funds or angel investors themselves. Now consider this dynamic across the entire tech industry. Numerous companies have taken advantage of the IPO window of the past several years, and have been able to go public at rich valuations. Many employees with equity compensation at established publicly traded tech companies have done very well too, and ironically some of the most exorbitant valuations are at large companies lacking earnings. It would be foolish to believe that none of this has impacted the amount of money being thrown at VC firms, super angel funds and startups through direct angel investment, which in turn impacts valuations, deal terms, etc. The big question: when the great experiment of the central banks ends, how will this affect the landscape for investments in startups? I have some ideas which may or may not be right, but it's simply not credible to believe that there will be no change. The fact that few investors in Silicon Valley seem to be talking about this, however, suggests that they believe they live in a vacuum completely disconnected from the rest of the economy and global financial system. The last time this happened, it didn't end well.
- jacques_chester 13y ago
  IPO pyramids can be funded without central bank profligacy. Consider the first tech bubble: inflationary policy followed from the wreck, it did not lead it at all. The current bubble is actually remarkable for the relative rarity of IPOs; probably connected to lower founding costs and substitution of acquisition exits.
  - 7Figures2Commas 13y ago
    The word "profligacy" has taken on new meaning in the past several years, but keep in mind that many people believe the first .com bubble was in part a result of Alan Greenspan not raising rates quickly enough in response to a stock market that was overheating. In other words, even though rates can't get much lower than they have been the past several years doesn't mean that they weren't too low in the late 1990s too. As for IPOs, I'm not sure that what we saw in the first boom should be used as a baseline for anything. The IPO window has most certainly been open and Facebook's IPO was an historic one. In any case, I'm not sure I understand the point you're making. Even if you believe that bubbles can be created without extraordinary central bank action, which is true, the injection of trillions of dollars into the financial system in a few short years and what happens when it has to come out should be top of mind for any investor in any asset class, particularly now that it appears we are closer to the end of this phase of the experiment. Listen to people in just about every corner of the financial markets, from equities to credit, and this is the topic. But it's striking that instead, Silicon Valley startup investors seem more interested in how they can get in on the hottest deals, convince founders they're friendly, etc. That should be of concern to everybody in Silicon Valley, including the entrepreneurs who will likely find themselves in a much different world sooner than they expect.
    - jacques_chester 13y ago
      My point is that overreliance on monetary inflation as the single systemic driver is simplistic. Is it a cause? I think so. Is it the only cause? Not even close. There are so many other confounding factors at work that it is insensible to sheet it home purely to monetary factors. Stuff like "large capital institutions in the USA are comfortable with venture investing", "shares have underperformed for most of the past 6 years", "it has never been cheaper or easier to launch a web startup" and "there are now billions of people connected to the internet" deserve billing alongside "the money supply is expanding", especially since monetary expansion has such lumpy and unpredictable effects on different asset classes at different times.

adventured 13y ago

I think the cheap money certainly has the biggest impact on two things: first, larger class VC money (and where they get their funds); and second, the free capital that angels and others have available due to the Fed inflating the stock market. However, given the increasingly lower cost of starting a company, I can't see a substantial impact to the sub $100k funding arena with the inevitable end to cheap money. $100k just ain't what it used to be, but the infrastructure ooomph it buys is just going to keep getting more astounding.

7Figures2Commas 13y ago
You might be right that big VC will take the biggest hit, but from what I can tell, a large part of the market for $100K investments exists precisely because you have so many individuals who have done well in the Fed-inflated stock market. When the number of people with $100,000 to throw at twenty-something founders fresh out of college drops and/or interest rates rise to the point where you can eventually get a 5-year FDIC-insured CD yielding as much as investment grade corporate debt in 2012, the impact on the angel market might not be insignificant.
- w3pm 13y ago
  Exactly right. In our current zero-interest rate environment everyone with spare cash is scrambling to figure out what to do to generate a return. Stock market? Risky. Bonds? You've got to be insane. Real-estate? Very risky. Angel investing in tech companies? Used to seem crazy but now it's not any less risky than the other options. They'll all implode if the money printing ends. It is unfortunate since out of all of the options, investing in tomorrow's inventors is actually one of the better uses (for society) of idle money.
  - icedchai 13y ago
    you sound like someone with no investment experience. investing in the stock market is a lot less risky than angel investing. especially if you keep it safe with index funds and don't look at individual stocks. you have close to zero liquidity investing in private companies. you're buying something you can't sell, for years, if ever. with stocks and bonds, I can always get out.

pg 13y ago

To be honest, I don't know anything at all about monetary policy. I've said before that valuations are high right now, but I don't know what if any effect monetary policy has had on them.

phillmv 13y ago
Actually, you're in a rather unique position. If you don't mind, what do you think drives valuation inflation? What's the competitive pressure for VCs/funders to invest at higher valuations?
7Figures2Commas 13y ago
I suppose you could argue that monetary policy isn't as big a consideration for YC as it is for other funds. YC effectively capitalizes new companies with tiny amounts of money, and it does so across a relatively large number of companies. If you're not involved in follow-on rounds, valuation is less important to you, although you probably wouldn't be happy if the paper value of equity you haven't realized gains on collapsed. Outside of this, it seems to me that YC's next biggest risk is that the landscape changes, you cannot put enough of your capital to use effectively/efficiently and more attractive risk-adjusted returns become available elsewhere. But most angels and VC firms investing larger sums in fewer deals, and competing harder to get into those deals, have much greater risk. The intriguing/disturbing thing is that as far as I can see, those investors seem to be completely ignoring how the injection of trillions of dollars into the financial system has impacted the asset class they're investing in. I can't name any other asset class in which professionals haven't been publicly discussing this topic for some time.

timedoctor 13y ago

I would also add that VC funds have a s..t load of money to invest. The valuations that they give in comparison with a bricks and mortar business are night and day different in most cases. For example a successful local business might sell for 3-4 times net profits or 1 times revenues. A tech company in a series A might get 15 times revenues (with zero profits). A hot tech startup can justify a lot more based on a lot less or zero revenue. The hope is that the tech company is going to justify that MUCH higher valuation by spectacular growth. Obviously it is justified with a handful of companies, but it's a very high risk investment for VCs to put it bluntly. However they have the funds, and they have their criteria with which to invest, and they mostly have a mandate and must invest the money. I think Paul Graham's point's are interesting, but they are based on a world that he lives in, the world of tech startups and VCs, which is not the same as the wider business world.

VandyILL 13y ago

I think a more interesting discussion would be one concerning what impact the opinions on the markets is having on startup investing. I wonder if people's current distrust of the general stock market & fear of volatality may encourage investors to do more deals with companies that aren't publicly traded because the value of the company is isolated from the whims of the market etc. This would push people from the traditional markets into less liquid markets such as equity deals with pre-ipo companies.

7Figures2Commas 13y ago
Distrust of the stock market is mostly a retail investor phenomenon. If you look across the board at the increase in prices of just about everything in the past five years, especially yield-generating instruments (dividend stocks, REITs, MLPs, preferred shares, high-yield debt, etc.), I think it's hard to argue that investors have shunned public markets. Assets simply can't increase that much in value if there are no net buyers. Granted, the low interest rate environment has essentially forced some of these investments and the money fueling them is cheaper than ever, but I don't see any evidence that there's a large contingent of professional investors fearful of public markets who are plowing their cash into illiquid startup stock instead. If anything, the growth of markets like Second Market suggests that investors are increasingly eager to buy shares of private companies likely to go public in the not too distant future. Recall that there were investors snapping up Facebook shares before the IPO (the latest to the party hoping for a double-digit IPO pop lost a lot of money) and somewhat amazingly, there were even funds dedicated entirely to accumulating pre-IPO shares. Even if you're not banking on an IPO as a startup investor, the other liquidity event you're looking for (acquisition) typically comes at the hands of a publicly-traded company, particularly if it's big, so you have stock market exposure there too. It's usually a lot easier for a public company to make a big acquisition when its stock is flying high.