Crowdfunders have never experienced a bear stock market. The stock market began its long bullish run in March 2009. And equity crowdfunding began in 2015.
So should investors be nervous?
Maybe.
I don’t agree with everything Warren Buffett says. But he’s right on the mark when he says “It’s only when the tide goes out that you learn who’s been swimming naked.”
Naked swimmers face harsh penalties in the startup arena. It’s “raise or die” for startups during a recession. And raising money during a down market is more difficult than raising money during a bull market. As a result, startups that are running out of money and have yet to make a profit will find it harder to convince their lead investor to write another big check. And that could end the business. The stakes are a lot higher… for founders and investors alike.
If this sounds a little scary, early-stage investors can take steps to increase their chances of success during a down market. The basics of investing still apply. Make sure the company can make the product. Confirm that customers want it. And invest only if you’re convinced the startup can scale its customer base.
And because startups don’t have to worry about their share prices (they’re private companies after all), they can focus on growth and execution. And when the market recovers, they can go public and reap the rewards of their effort. That makes startups a good investment (and shelter) during a down market.
Yes, that’s pretty straightforward advice.
But many investors lose their minds when they see stocks fall or the economy heading for turbulence. And they fall victim to common myths that have gained currency in the venture capital world.
Here are three myths you absolutely need to stop believing now…
1. Companies started during a recession (or just after) are doomed. This kind of makes sense on a superficial level. For startups, making headway in a recession can be harder. Bank loans suddenly have performance requirements. Target markets shrink. Raising prices is risky.
What’s more, all those Pets.coms and other companies that failed during the dot-com bust make this myth feel true. But these companies weren’t going to make it even in a healthy economy. The stronger ones, like Amazon and eBay, became enormously successful. And many others endured the crisis and prospered.
How did they do it?
It’s not as hard as you may think. First, startups don’t necessarily need banks. Their funding comes from venture capitalists and angel investors.
Second, stealing market share from incumbent companies is more important than riding a rapidly growing market.
And third, startups provide a vastly cheaper or far superior product.
The road to success is incredibly difficult for startups in good times and bad. A recession is just another obstacle to overcome. The better startups figure out ways to benefit from a recession. One example: They hire talent that would have been unavailable previously.
2. Deal flow gets worse. You’d expect that as capital dries up the number of startup launches would fall. And as the number of startups falls, the number of quality startups would drop as well. But crowdfunding changes the equation.
As venture capitalists become more careful with their money, they’ll stop funding attractive startups that would have easily received money during good times. And those companies will turn to crowdfunding. Which means you’ll have potentially better investment opportunities than you have now.
3. Moonshots make sense only in strong economies. In startup land, everything gets ratcheted back in a slowing economy. For founders, that usually means ambition and spending. For investors, that usually means risk. Moonshots get squeezed from both sides. I get it. But I also think it’s a shame. As an early investor, I skew toward capital-pinching startups that target profitability quickly. But I always have room in my portfolio for an exceptional moonshot. Netflix launched in the late 1990s with the outrageous idea that millions of people would pay to get their movies mailed to them. And Microsoft, founded in the mid-1970s when the U.S. economy was reeling from an oil crisis, helped launch computers as a consumer product. Startup investing should offer both the prospect of huge gains and a front-row seat to technologies that change the world. Moonshots give us that experience.
I’m not saying the good times are behind us. But the last thing crowdfunders should do is run away from startups if the economy slows down. Let’s see how things unfold. And whatever happens, crowdfunding should continue to have a place in your investment strategy.