Why I Shifted Focus from Public to Private Markets
"If it ain't broke, don't fix it." -- Old Klingon Proverb
I was lucky to be introduced to investing at a very early age. My grandfather steered me towards the stock market when I was 12 and I have been hooked on the craft of investing ever since.
I ended up having a pretty good run as a public markets investor. I spent 15 years as a pro in equity research, portfolio management, and then ultimately as the co-founder the Chief Investment Officer of Lakehouse Capital, a high-conviction, growth-focused public equities firm based in Sydney, AU. I worked with great people, had the luxury of leading strategies that I had designed, and got some nice recognition along the way including oodles of media and twice being a Finalist for Money Management's Fund Manager of the Year Awards.
And so, when I stepped back from leading Lakehouse in October 2021 and told folks that I planned to return to the US and shift my focus towards early stage private investing, I got some quizzical looks. If my career and results weren't broken, what was I trying to fix?
Choose the Right Game
One of the reasons I moved to Australia in the first place back in 2013 was a desire to broaden my investing horizons outside the US. Investors can do very well in US public markets, which are home to more than 60% of global equity market value and most of the world's elite listed growth companies, but I was keen to explore the other 40%.
I got my wish when handed my first mandate -- small-cap Australian growth stocks -- which was greenfield territory for me and walks and talks a lot like listed venture. Australian small-caps are micro-caps by US standards -- the 500th largest listed company in Australia has a market cap of only around ≈US$160M compared to ≈$3,900M for its US mirror -- and much less efficiently priced. High-growth companies also tend to go public much sooner in Australia than in the US because the local venture market is much less developed than in the US where total venture funding is around ≈48X that of Australia.
The combination of higher growth, smaller companies, and less efficiency with our long-term approach and differentiated process made for a fun game to play. It helped that were able to engage directly with the founding leadership teams at our portfolio companies -- folks like Anthony Eisen and Nick Molnar at Afterpay, Rod Drury at Xero, and Sam Hupert at Pro Medicus -- which I found enjoyable and rewarding.
Advantages of Private Markets
Still, for all the reasons I enjoyed the strategy and the stock market at-large, I couldn't help but question whether public markets were where I wanted to spend the next 25 years of my career, especially after making a family decision to return to the US and settle in Austin. My interest in early stage was piqued from my Australian small-cap experience, long-term mentality, tech-centric investing orientation, and enjoyment of mentoring and engaging with founders, so I set about diving into the data to see if early stage venture made sense for me.
Performance. The historical returns for angel investing are much better than in public markets. The long-term return of around 10% in US public markets looks downright meager compared to the historical average of 27% annualized returns across 8 returns studies compiled by Right Side Capital Management.
The superior returns in early stage investing don't come for free. Liquidity is the biggest sacrifice, with angel investors having zero expected liquidity for at least a few years after investing, plus the failure rates are higher. Still, the odds of taking a massive loss in public markets actually aren't much worse than in early stage venture.
52% of angel investments in one study were found to deliver less than a 1X total return. Sounds rough but that is pretty similar to a study on public markets which found that 44% of stocks suffered a decline of more than 70% from their peak levels which was not recovered. The illiquidity isn't for everyone but, for those willing to take on that and marginally higher risk, the significantly higher returns in early stage venture strike me as pretty appealing.
Less Competition, More Opportunities. Higher risk in venture capital plays a role in its superior performance to public markets but so does the relative lack of competition. The US has around 19,000 US mutual and hedge funds compared to fewer than 4,000 active venture funds, so there are almost 5 times as many gladiators fighting for their alpha in the public arena than there are venture funds.
It gets better. Not only are there fewer competitors in venture but there are far more deals from which to choose. The number of US venture deals in 2021 clocked in at around 17,000 compared to just more than 6,000 listed companies. Put it all together and venture has around 1/5th the competition but almost 3 times as many opportunities. Pretty compelling.
Great growth companies are staying private for longer. A frustrating trend for public market growth investors is that startups are staying private for longer, meaning more of a company's potential total returns are being enjoyed by venture investors. The companies listed below aren't a significant sample but they do represent some of the era's most anticipated IPOs, plus the general trend is hard to miss:
Market Cap at IPO
Hot markets for IPOs will come and go but the growing burden of life as a public company plus the swelling of capital into late-stage venture makes it pretty unlikely that this trend will reverse course. All the more reason for me to look towards private investing.
Information asymmetry. One of the upshots of public market investing is that you have a lot more data with which to work. On the other hand, everyone else has that information too and sometimes it is many months stale. Contrast that to private markets where founders are free to share details with a potential investor as much as they trust them with including around strategy, exit plans, current financials, sales pipelines, contract sizes, and more. As a former public markets team leader who would train new analysts on specifically not asking management teams about material non-public information, it feels like a superpower to be able to have no-holds-barred conversations with founders of private companies.
Angels and Seaplanes
The combination of the above, plus my personal desire to coach and support founders, led me to focus on angel investing after leaving Lakehouse and returning to America. Not long after, though, I realized that I would have more fun and better support founders if I brought along some partners with additional capital -- especially during the ongoing downturn.
And so I started Seaplane Ventures. We'll see where things go from here...
This content is provided for informational purposes only, and should not be relied upon as legal, business, investment, or tax advice. You should consult your own advisers as to those matters. Furthermore, this content is not directed at nor intended for use by any investors or prospective investors, and may not under any circumstances be relied upon when making a decision to invest in any fund managed by Seaplane Ventures. An offering to invest in the Seaplane Venture Fund will be made only by the private placement memorandum, subscription agreement, and other relevant documentation of any such fund and should be read in their entirety.