The rich get richer: the effect of restricting private securities to accredited investors
I’ve been busy helping one of our portfolio companies with a cryptocurrency token issue which kicked off yesterday and had to endure endless hours with US counsel debating the relative merits of a token being a security or not under US securities law. What I’ve come to realise is that in the US, the dice is loaded against the retail investor.
In the US, you usually need to be an accredited investor in order to buy securities, like shares in a startup company, directly from a startup. In its simplest form, in order to become an accredited investor, you must have a net worth, excluding your private residence, of $1m, or an annual income of more than $200,000. The reasons most frequently proffered for these requirements, are that there are a lot of scammers out there looking to separate unsophisticated investors from their savings and also that startups are very high risk investment opportunities that mostly fail. The implication is that you’re more likely to lose your money investing in unlisted (read: unregulated) securities and if you’re going to lose money on high risk investments, you shouldn’t lose your shirt as well. Except that this structural economic exclusion ensures that the rich keep getting richer because they get access to the best investment opportunities — the US is now more unequal in its wealth and income distribution than it has ever been.
How is this happening? The SEC is the regulator for securities in the US. From its website we find that:
The U. S. Securities and Exchange Commission (SEC) has a three-part mission: Protect investors. Maintain fair, orderly, and efficient markets. Facilitate capital formation.
Except that there is something vital missing from the mission of the SEC.
The SEC is so determined to prevent retail investors from making their own investment decisions when it comes to high risk investment opportunities, that they’ve made it almost impossible for the average US person to make any money investing in startups. High risk = high reward. You may even have noticed that there is no education or experience level that can qualify you as an accredited investor in the US — unique knowledge or experience with a technology or industry is irrelevant. You can vote (badly), buy a gun (apologies to Las Vegas) and even make children without having to ask the government to protect you from making bad decisions, but heaven forbid you invest in unlisted securities!
Now you may think that none of this really matters because most startups fail and since our retirement funds are investing in the low risk startups that become big enough to list on a stock exchange, like Google or Facebook, that you and I are sharing in most of the real value created post-listing anyway. Except that we’re not.
According to a recent Reuters analysis of the top 25 US technology IPOs in recent years, 14 experienced price declines of between 9% and 80% in their first year as a public company. Public offerings have become the way that early investors and founders exit a technology business that no-one wants to pump any more private money into— in most cases, all value has already been created by the time that a technology business lists on a stock exchange. The public market has become a graveyard for most technology businesses, not a lush garden where wealth is created.
There is a better way. We need to educate people to make smarter financial decisions, so that they can make their own decisions about what they want to do with their money. Let’s stop treating adults selectively like they’re children when it comes to money. Perhaps we can even create a simple license for becoming an investor, kind of like a driver’s license. If you pass the test, you get to do what you want with your money, including buying cryptocurrency tokens, if that’s what you want to do.
I think more people would get to $1m net worth if the SEC focused more time on educating people and less time on creating structural impediments to wealth creation. The latest guidance from the SEC that cryptocurrency tokens may be securities in the US, is just another unwanted obstacle to inclusive economic freedom.