Where’s The Smart Money?
Last month, Wall Street created its newest billionaire, Apoorva Mehta. The 37-year-old co-founder of Instacart is worth $1.1 billion at the time of the IPO of his company. However, not every investor in his company experienced the same success.
Professor of Finance at Stern School of Business at New York University, Aswath Damodaran, breaks down which firms made or lost money on the Instacart IPO and compared it to the returns of the largest 500 companies in the U.S. (S&P500).
Some key lessons can be gleamed from this example:
Valuations matter
Sequoia had great returns on its early investment in the Series A round. However, their later investments in Series D underperformed the market and the Series I round lost big when compared to the IPO price. Returns are always a function of price and if you are over-paying for growth, you are likely to experience poor returns or even worst, losses.
All investors after 2014 underperformed the S&P500.Some investors have superior information?
The idea that venture capitalist have the unique advantage of having access to early stage start-ups thereby allowing them to earn excess returns does not seem so in the Instacart IPO example.Quoted from Professor Aswath Damodaran:
For those who are holding on to the belief that venture capitalists are the last bastion of smart money, it is time to let go. While there are a few exceptions, venture capitalists for the most parts are traders on steroids, riding the momentum train, and being ridden over by it, when it turns.
The concept that superior managers exist was first debunked with mutual fund managers, then hedge funds, private equity, and now, seemingly venture capitalists. That is not to say that market beating managers do not exist, there are always exceptions, even if they are purely based on luck. If you could achieve the extremely difficult task of identifying these managers ex ante, the next hurdle would be gaining access to the notoriously closed club.
The next time someone tells you that they have superior information that can yield excess returns, think again.
Most of us would trust an accomplished physician to manage our health, after all, physicians have specialised training, real-world experience and access to tools outside the reach of the general public. Most importantly, they took an oath to prioritize the patient’s health over their own interests.
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