We are experiencing a remarkable period in economic history where the market has produced uninterrupted gains since March 2009. According to David Kelly, chief global strategist at JPMorgan Funds, “The pessimism that’s been a hallmark of the bull market has actually ensured its longevity.” Entrepreneurs and venture capitalists have also benefited from the current environment in that they are able raise the capital they need to fund and develop groundbreaking technologies, create entirely new industries, and produce record-breaking returns for investors.
The economic outlook in the United States is generally positive. While recessionary fears are beginning to surface, there aren’t a mounting number of immediate and clear indicators that suggest the economy is set to fall into a tailspin. America has been in a bull market for the last 10 years and corporate profits are at record highs. In fact, many companies have so much excess cash that instead of raising money from investors (by issuing more stock) they’ve been returning cash to shareholders in the form of stock buybacks.
At the end of the 2nd quarter US GDP was at an astounding 4.2%, 200 basis points higher than the previous quarter. Historically, GDP hovers between 1.5% to 2.5%, suggesting that current GDP levels are not sustainable in the long run. According to Reuters, “The robust growth in the second quarter is unlikely to be sustained given the one-off drivers such as a $1.5 trillion tax cut package, which provided a jolt to consumer spending after a lackluster first quarter, and a front-loading of soybean exports to China to beat retaliatory trade tariffs.”(1)
Unemployment remains low at 3.9% (as of 9/7/2018)(2), but wage growth has stagnated. In June 2018, wage growth in the United States increased to 4.83 percent. For added perspective, wage growth in the United States averaged 6.22 percent from 1960 until 2018, reaching an all-time high of 13.78 percent in January of 1979 and a record low of -5.88 percent in March of 2009.
As the economy improves we should expect the Federal Reserve (the Fed) to continue increasing interest rates. On September 26, 2018 the Fed raised interest rates for the third time this year from 2.00% to 2.25%. When the Fed raises interest rates it is a strong signal of its increased confidence in the US economy.
On the venture front, fundraising continues at a rapid pace across all stages. In the first and second quarter of this year nearly $60 billion in capital was raised by 3,997 companies. The spread in valuations for late and early stage deals continues to widen as more and more companies stay private longer. Some analysts theorize that the trend in companies staying private longer has to do with accounting and the treatment of tangible and intangible assets.
Modern day technology companies have fewer and fewer tangible assets making it easier for them to scale. However, these companies tend to have more intangible assets like R&D, brand, employees, advertising, etc. vs. tangible assets like property, plant, and equipment. Many of these intangibles are expensed rather than being capitalized as assets. When intangible assets are expensed, they reduce a company’s earnings. And while most younger firms do create economic value, they often do so at a loss. Henceforth, younger companies tend to delay accessing capital from the public markets because they may or may not be rewarded.
In light of that, we have seen a steady stream of positive venture-backed company exits in 2018 and analysts expect there will be more to come. We have already seen exits from Spotify, Docusign, Xiaomi, GitHub, FlipKart, GlassDoor, Ele.me, Dropbox and many others.
Cyclicality in any market environment is something investors understand and anticipate. At Spur Capital we continue to keep a pulse on the market, stay in active communication with our investors and venture capitalists, and construct diversified portfolios that endure across different technology and economic cycles.