UK investors turn to startups as traditional returns dwindle

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Ekaterina Bystrova
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SyndicateRoom
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Investor returns have been dwindling for years in the popular asset classes, with recent global events like Brexit and Trump’s election adding more volatility to the markets. The low-yield investor environment we’re experiencing is the new normal. And people are being seriously affected by it.

UK investors allocate a significant amount of their wealth to investments. About 3% of them allocate between 90% and 100%; the mean value is about 25%. It’s small wonder, then, that people want to make their money work hard. But at present, many of them are falling short.

In Q4 2016, online equity investing platform SyndicateRoom commissioned two independent organisations, Beauhurst and FTI Consulting, to conduct research into the UK investing and startup scene. The results, detailed in a report titled Rise of the Growth Hunters, were sobering (the research methodology used is described on page 41).

The majority of investors surveyed were, at best, only ‘slightly satisfied’ with their overall equity investments, with nearly 50% of active retail investors in the UK considering themselves to be ‘off track’ in meeting their financial goals. Roughly half of those investing in bonds said they expect to see zero return, or worse, over the next year.

It’s a tough time to be an investor

For the past 20 years, interest rates have been declining. In the mid-90s nominal ten-year yields on government debt in rich countries hovered around 8–10%. These days, they’re well below 2%.

It’s not just the yields of government debt that have dropped. In September 2016 Sanofi, a French drugmaker, and Henkel, a German manufacturer of detergent, both issued bonds with a negative yield, meaning investors are guaranteed to make a cash loss if they hold them to maturity.

This decline in interest rates is in part due to bond-buying by central banks, otherwise known as ‘quantitative easing’. What is more important, however, is something economists call ‘secular stagnation’. Demographic changes – ageing in particular – have increased the savings rate and pushed down global aggregate demand.

The resultant high supply of savings, and low demand for borrowing, has dropped the market-clearing interest rate to record lows.

As can be expected, this secular decline in interest rates poses a problem for investors, making it increasingly difficult to ‘find yield’. On top of this, market volatility has been on the increase, not only because of the after effects of the 2008  financial crisis, but also due to phenomena such as the slowdown in Chinese economic growth, Brexit and the election of Donald Trump as US President.

But in all the turmoil, early-stage equities continue to perform well as an asset class.

Early-stage companies seen as a route to higher returns

Investing in early-stage businesses is an exceptionally risky business, with nine out of ten startups doomed to fail. However, the ones that make it can offer early investors considerably high returns – something which, in the current investment climate, people seem to be finding more and more appealing.

According to the data, around two-thirds of respondents cited ‘the prospect of higher returns’ as a big incentive to move into investing in early-stage equities. This is matched by the facts on the ground, with investment in early-stage companies seeing a rate of growth in the past five years that is more than six times that of the FTSE all-share index.

For Rise of the Growth Hunters, Beauhurst analysed a sector-agnostic cohort of 578 UK companies that received seed or venture-stage investment in 2011 raise, following them through to 2016.

Given the strong performance of early-stage equities it looks like investors are missing a big opportunity. Happily, it seems investors are gradually realising their mistake.

Between 2011 and 2016, the cohort of early-stage companies scored a 33% compound annual growth rate, or CAGR. In the same time frame, London Stock Exchange main market companies scored a CAGR of around 5%.

Looking at this growth from a valuation perspective, the results are even more startling.

In 2011, the cohort of 578 companies was valued at £1.8bn, with an average valuation of £3m (the individual valuations were actually very wide ranging, the lowest being £18,000 and the highest £138m).

By September 2016, the portfolio value had risen to £7.98bn.

This means an investment of £10,000 in early-stage companies in 2011 would now be worth about £45,000.

SyndicateRoom - Investment returns from early-stage companies

Risk appetite rising among UK investors

The investors suffering from secular stagnation are those overlooking non-traditional investment opportunities or ‘alternative investments’. Where about one-fifth hold their entire portfolio in late-stage equities, only 2% hold their portfolio in early-stage equities.

Given the strong performance of early-stage equities in recent years, it looks like investors are missing a big opportunity. Happily, it seems as though investors are gradually realising their mistake.

Driven by low investment returns, risk appetite is on the rise among UK investors.

Two-fifths (39%) of retail investors say they are more willing to take risks than they were a year ago – far more than those claiming they are willing to take fewer risks (18%). About two-thirds of people see ‘the prospect of higher returns’ as a big incentive to move into investing in early-stage equities. Young people are particularly keen in this regard, with 71% of 18 to 30-year-olds saying they want to take more risks than they did a year ago.

And, the risk is a huge thing to keep in mind here. Early-stage investing can offer a chance at big returns, but it is also exceptionally high risk and – as with all investment activities – should not be embarked upon lightly.

 

Data sources and further reading

Company data for the Rise of the Growth Hunters report was gathered by Beauhurst using a wide portfolio of 578 early-stage UK companies that received equity investment via seed or venture capital in 2011. Investor data was gathered by FTI. For more information and methodology, download a free PDF of the report here.

For those interested in learning about early-stage investing SyndicateRoom offers a free downloadable PDF guide with information and resources to get you started.

Risk warning

This post was written and provided for general information purposes only. The content is solely the opinion of SyndicateRoom and/or other contributors and research from third parties. It should not, therefore, be relied upon in making any investment decisions.

You should not invest in any investment product unless you understand the nature of it, along with the extent of your exposure to risk. You should be satisfied that any product or service is suitable for you given your financial position and investment objectives. Where appropriate, you should seek advice from a financial advisor in advance of making investment decisions.

Early-stage investing involves risks, including illiquidity, lack of dividends, loss of investment and dilution.

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