Fri, Apr 10, 2020
A A A
Welcome Guest
Free Trial RSS
Get FREE trial access to our award winning publications
Opalesque Futures Intelligence

The shortfalls of Venture Capital: Why VC has to become a scientific investment discipline

Thursday, November 21, 2013

By John Bhakdi

When we think about Venture Capital (VC), we think about great entrepreneurs, secret deals, and the adrenaline rush of hitting the "next big thing". Silicon Valley is in many respects the financial cousin of Hollywood: full of great successes, grand failures, of divas, heroes and villains. Financially not very pleasing, but a fun sport.

John Bhakdi operates a venture capital fund that utilizes an algorithmic method to make allocations.

But there is a new way of doing business in VC: an approach that uses advanced analytical science and algorithmic investment principles to assist in making funding decisions to remove risk, and give investors much more structured exposure to the world's most promising asset class.
But before I jump into the details, I have to make one important point: The reason we developed a scientific investment approach to VC is not that we have a general bias towards scientific investment in the first place.

"There is a new way of doing business in VC: an approach that uses advanced analytical science and algorithmic investment principles to assist in making funding decisions..."

We developed the i2X quantitative VC framework and the corresponding Innovation Index because we realized that the financing of innovation is a very special challenge.

The factors that determine the success of any individual early stage technology startups often lie far outside the company and even the founders themselves. They can found not by looking at just the company, but only by factoring in a much larger set of factors that we call "ecosystem".
And even after factoring these ecosystems in, it remains impossible to predict an individual startup's success for logical reasons. Therefore, we have to look at a larger set of startups - a "cluster" - and start looking this cluster an investment object. Only then do we get into a territory that offers statistical significance.

This new quantitative approach to VC is personally important to me. It applies the tools of scientific investing to solve probably the biggest problem in global asset management, which I describe as a lack of alpha.

As Ray Dalio once famously said: "In the long run, income can never grow faster than productivity." And productivity is a simple function of technology innovation whose largest growth comes from technology startups.

Since VC is in charge of financing innovation, it is not just a fun sport. It is the financial infrastructure that is responsible to generate growth across all asset classes.

And right now, it's a grandiose failure. At a $26b US volume, dismal returns of 6.9% p.a. - a negative alpha of 2.8% below the Russell 2000 - no liquidity and 30%+ risk, the numbers look not good.

The reason lies in an outdated approach to VC in that Venture firms simply apply the Private Equity playbook to technology startups: they look into their financials, their growth rate, their past. But this is not how innovation works. Truly disruptive startups have no past: they are new. Startups are future potential that unravels far too fast to wait for it to unravel before you invest.

By failing to provide a financial infrastructure that is built around the fundamental traits of innovation, VC fails to build the startup breeding ground our entrepreneurs, financial markets and economy rely on.

This failure and its negative effects have driven us to take action, and develop a financial technology that accounts for the unique nature of startup innovation.

Following this logic, I want to start the description of the i2X Innovation Index and quantitative VC framework by taking a closer look at the system of innovation it empowers. It is a system of four macro-factors which together form a wonderful mechanic of progress that we call the "Innovation Machine".

To read the full article click here.

ABOUT THE AUTHOR

John is CEO of i2X, the Innovation Index and Exchange. i2X offers targeted, highly risk-mitigated exposure to a scientifically designed index of the best US technology startups. John combines personal startup experience with an extensive track record as corporate executive with a focus on unlocking innovation potential across sectors and organizations. During his career, he has worked with C- and VP-level executives at WPP and Omnicom agencies, Deutsche Bank, Credit Suisse, MasterCard,Ebay, McDonald's, Dow Jones, Microsoft as well as top-tier Silicon Valley VC firms. John is a thought leader on innovation ecosystems, lean startup culture and scientific investment methodologies in Venture Capital.



 
This article was published in Opalesque Futures Intelligence.
Opalesque Futures Intelligence
Opalesque Futures Intelligence
Opalesque Futures Intelligence
Today's Exclusives Today's Other Voices More Exclusives
Previous Opalesque Exclusives                                  
More Other Voices
Previous Other Voices                                               
Access Alternative Market Briefing


  • Top Forwarded
  • Top Tracked
  • Top Searched
  1. Investing: Ray Dalio's Bridgewater scales down European short bets after $3.2bn windfall, Here's what top hedge funds are buying in the coronavirus stock market crash[more]

    Ray Dalio's Bridgewater scales down European short bets after $3.2bn windfall From Financial News: Bridgewater Associates, the world's biggest hedge fund, has retreated from shorting European stocks after making an estimated €2.9bn ($3.2bn), as its founder and co-chairman Ray Dalio c

  2. Bill Ackman writes letter to shareholders on coronavirus[more]

    Pershing Square Holdings (PSH)'s Bill Ackman wrote a letter to investors outlining his insight on the coronavirus pandemic in the United States. He revealed that PSH completed the process of exiting the hedges on 23 March, netting a gross $2.1bn for PSH, after turning 'increasingly positive on equit

  3. New Launches: LGPS Central sets up investment grade bond fund, Leeds Equity Advisors aims to raise $1bn for PE fund, RLI Investors to launch European last-mile logistics fund, DBL Partners IV targets $450m[more]

    LGPS Central sets up investment grade bond fund From IPE: LGPS Central, the asset pooling vehicle for eight local government pension schemes (LGPS) based in England's Midlands, has launched a global investment grade corporate bond fund in order to meet its partner funds' needs. The po

  4. Investing: Marathon sees cheap assets amid dislocation in credit, Deerfield's health care buying spree, It's time to buy shares again, says BlackRock, Credit Suisse, Fed is buying credit ETFs but one hedge fund is shorting them[more]

    Marathon sees cheap assets amid dislocation in credit From Bloomberg: Distressed-investment specialist Marathon Asset Management is buying beaten-up debt amid the greatest dislocation in credit markets since 2008, according to Bruce Richards, co-founder and chief investment officer of the

  5. People: Carlyle picks 2 deputy heads for Japan buyout advisory team, Ex-Kleinwort Hambros adviser takes senior role at multi-family office boutique[more]

    Carlyle picks 2 deputy heads for Japan buyout advisory team From PIonline.com: Takaomi Tomioka and Hiroyuki Otsuka were named deputy heads of the Japan buyout advisory team at Carlyle Group. The positions are new, confirmed a spokeswoman for the New York-based private markets investment g