Here’s Our Economic Recovery: Everyone’s Access to the Private Market’s 70%+ Higher Returns
The Entrepreneurial Revolution of the 21st century has minted new Rockefellers and Vanderbilts that are now household names — Bezos, Musk, and Zuckerberg, to name a few. But only the wealthiest and most connected institutional and accredited investors have been granted access to the ‘private market’ investments that have fueled their successes. Left behind are the vast majority of investors (and their IRA and 401(k)). The public markets that fueled the American Dream are now eclipsed by the private markets, which have delivered 70%+ higher returns for the few with access. As some grew wealth exponentially, their purchasing strength has driven the cost of living beyond the reach of the rest.
The resulting wealth divide has sown created tremendous economic pressure, fear, resentment and hopelessness for many Americans. This can be corrected by democratizing the private markets — safely, securely and with investor protections that have made the American capital markets the safest, most liquid, and most successful in the world.
The Entrepreneurial Revolution certainly is about the spread and commercialization of digital technology. But the wealth created today by that revolution is a story of equity — in the financial asset sense — and inequity — in the social sense. Equity is the new money in our new economic paradigm, but only a few have access to equity’s wealth creation powers.
The first chapters of the Entrepreneurial Revolution follow a familiar story: the earliest investors earn the highest returns in the initial, fast-growth years of a company’s life cycle. (They also shoulder the greatest risk, since 90% of most startups fail.) The strongest companies survive the first few years, often with additional support from professional investors who add value beyond cash, such as mentoring, networks, and support services.
Before 1998, those with investable assets had access to high-return-potential investments at three to five years after founding when successful startups shared their equity through highly regulated initial public offerings of stock (IPO). Before the Internet Bubble, retail or unaccredited investors often comprised around half of IPO companies’ shareholder bases, often introduced by stockbrokers who connected “Main Street” to “Wall Street.”
The first two decades of this century saw that connection disappear. Innovations such as electronic trading, decimalization, and industry consolidation in the late 1990s made markets more efficient; but they also shifted the capital markets to large-sized deals, clients, and intermediaries. Startup IPOs had to grow in size, too, requiring more years to grow the companies. That in turn delayed IPOs to today’s average of 10 to 13 years after founding. The biggest players still reaped their rewards; Main Street, not so much. Retail investors today have very limited access to early-stage investments — that formerly were public and now are largely private. If these issues are floated to the public, it is often at higher prices after the “IPO-pop”, further disenfranchising retail investors.
While the financial markets infrastructure shifted invisibly and dramatically, regulations have not kept up. The U.S. Securities and Exchange Commission (SEC) does an admirable job in protecting investors in public companies, but as IPO dates get pushed further and further down, ordinary investors remain excluded from the new, extended private period — losing wealth and falling farther behind. The number of public companies in the U.S. has declined from a peak of more than 8,000 in 1996 to roughly 4,000 today. Meanwhile, the number of U.S. private-equity-backed companies neared 10,000 in 2021. Globally, there are nearly 22,000 companies that are backed by private capital, up from roughly 3,000 companies in 2000. The way it stands now, ordinary investors are standing behind the rope line while the party goes on and on.
There are four ways to build wealth with startup equity: (1) be a startup employee and negotiate equity in your compensation package; (2) pursue a side hustle as a startup contractor compensated in equity, like the Facebook mural artist; (3) found your own startup if you are ok with high risk and have enough savings for initial startup capital; or, (4) invest your savings in early-stage equity opportunities. Option 4 is the one open to most of us.
Private market access — safe, secure, regulated — is not rocket science. It can be solved with some attention from legislators and regulators. The SEC has worked for over a dozen years to facilitate retail investor private market access and delivered solutions through their JOBS Act, Regulations Crowdfunding (Reg CF) and A/A+. There has been resistance due to the perceptions and realities of high risk, and practical limitations for retail investors to assess and manage investments on their own. Despite expanding definitions, licensing 80 crowdfunding platforms, and having many active broker-dealers that together will deliver an estimated $1.7B in crowdfunded investments in 2022, that is still a drop in the bucket compared to the $200B+ of venture capital deployed in 2022, without any retail investor participation.
Today’s financial markets offer solutions already in place that are less risky for smaller investors through professionally managed funds with diversified portfolios, general partner reserves, and potential liquidity options that can be extended to private market investments. The SEC can consider appropriate retail investor portfolio exposure limits to this asset class, based on a variety of factors appropriate to the particular investor. Crowdfunding platforms are experts in managing retail investor administrative logistics and can deliver them together as one easy-to-manage institutional investor through a Special Purpose Vehicle structure (SPV) to professionally managed funds and other products. The SEC and licensed advisors can set appropriate portfolio allocation limits for retail investor exposure to this asset class based on personalized needs and can help guide or provide investor education. Retail investors and their advisors should have access to invest IRA and 401(k) funds into private market investments just as the endowments and pension funds do.
Together the millions of US retail investors represent over $80 trillion of assets under management (AUM). Reconnecting these funds to the US capital formation engine of early-stage private companies will fuel economic growth and innovation. Private fundraises can reserve an allocation for retail investor participation, who bring with them additional potential returns and benefits, such as improved IPO performance — all while delivering a byproduct of expanded American prosperity through shared access.
Today, more than 90% of all startups seeking venture capital fail, and 90% of all investors lack access to this asset class. Connecting these two problems can deliver one solution that facilitates capital formation to the one, greater wealth creation to the other, and economic growth and innovation that improve life quality for all of us. But it cannot happen without the leadership of legislators and the SEC acting now to reconnect ordinary investors to real companies. Let’s reconnect US wealth creation to true value creation, in which everyone is allowed to participate. It’s the American way.
