Impact Bonds, Catalytic Capital & SPACs (Oct ’20 Monthly Reads)

Welcome to the “Monthly Reads” article series, where I compile interesting articles I chanced upon in the previous month. Here, we cover the fields of impact, startups, venture capital, and general business. Key takeaways are summarized into sub-headings, followed by additional commentary for each article. Content for this series is adapted from my LinkedIn posts.

Key Takeaways:

1. SPACs could be overvalued, but are unlikely to crash in the near term. So don’t start shorting just yet.
2. Impact is a complicated space. Positive intentions do not always translate to 100% positive results.
3. Catalytic capital is the solution for unproven impact models. We need the space to mature quickly.

Extras (published 3 articles this month, feel free to check them out):

1. The Education Industry’s Power to Strengthen or Corrupt Meritocracy (Published in Medium-based Age of Awareness, an education-focused publication)
2. Step-by-Step Guide to Building and Launching your Chrome Extension (Published in Medium-based Codeburst.io and republished in Hacker Noon)
3. How I Scored 770 on the GMAT at age 20: My Preparation Process

SPACs could be overvalued, but are unlikely to crash in the near term. So don’t start shorting just yet.

I have been dabbling with the idea of shorting some post-merger SPACs. Yet, my prior decision to not get into high-risk trades holds me back. I made that decision after spending about a year studying public equity and forex analysis and stints as an active day/ swing retail trader, as I felt that profits made were more chance-based rather than consistent reproducible occurrences.

At the same time, my belief that a significant number of these companies would not achieve the success that their valuations are based on, and the seeming frothiness in this space makes me itch to take a position (maybe sometime later).

Came across an interesting article which nicely explains the rise of SPACs and argues that it wouldn’t crash in the near term, due to:

1. Large piles of cash (dry powder) and limited investment opportunities
2. SPACs meets the needs of companies that want to go public faster or want to go public despite the lack of good profit records (as SPACs emphasizes future potential profits rather than historical ones)
3. Opening to public earlier = more fund availability

It is worth considering what instruments are the best for such short positions, where a decrease in price probably occurs over a long time period. To clarify, I’m not against SPACs. I find that they are a great piece of financial innovation providing greater choices to companies and retail investors. Rather, I think that they are, on average, currently overpriced post-merger, after adjusting for risk. In the meantime, however, SPACs are minting new millionaires and billionaires.

Bubble warning: even college kids are touting SPACs

Impact is a complicated space. Positive intentions do not always translate to 100% positive results.

When we talk about impact investing, most of us think of investing in impact startups. Yet, another type of impact investment: social impact bonds (SIBs). I love that SIBs are directly tied with social outcomes, making the impact very explicit.

A social impact bond (SIB) is a contract with the public sector or governing authority, whereby it pays for better social outcomes in certain areas and passes on the part of the savings achieved to investors — Investopedia

Interestingly, this article points out a number of criticisms against the SIB model. The more I learn about the impact space, the more I appreciate the complexity of problems and the implications of different types of solutions. Things are not really straight forward, and good intentions need to be coupled with a thoughtful approach to ensure that we achieve the impact we hope to create.

Social impact bonds boost literacy and numeracy but can they scale?

Catalytic capital is the solution for unproven impact models. We need the space to mature quickly.

I love coming across articles that crystalize prior personal observations and ideas into words. Previously, I have come across entire sectors/ models of impact businesses that are unattractive to investors expecting market returns, but simply require some initial capital to successfully kickstart.

In a way, it’s similar to the problem deep tech companies face: they have huge potential to succeed but are higher risk investments. Still, someone needs to put the initial capital to get things going, before more investors become interested as risk reduces over time.

Enter catalytic capital: a form of capital that accepts lower risk-adjusted returns to generate a positive impact and enable third-party investment that otherwise would not be possible. In other words, it is the solution and ‘kickstarter’ for impact businesses with less proven models.

This insightful article explores catalytic capital and identifies what needs to ensure its efficacy and facilitate increased capital allocation into this subset of impact investing.

Some areas of improvement identified by the article:

1. We need to clearly identify capital gaps in the market where catalytic capital is needed the most to ensure that it is used effectively
2. We need better developed catalytic investment strategies, structures, and practices (hopefully this emerges over time)
3. It is important to distinguish which sectors/ models are best served by grants vs catalytic capital vs conventional capital

What Investors Need to Know to Embrace Catalytic Capital