
S.E.C. Gives Small Investors Access to Equity Crowdfunding - gwallens
http://www.nytimes.com/2015/10/31/business/dealbook/sec-gives-small-investors-access-to-equity-crowdfunding.html
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tptacek
I'm not a fan of this idea. After the Startup podcast did an episode endorsing
the idea, I wrote a blog post and circulated drafts to friends, but never got
around to finishing it. Instead of doing that now, here's a rough list of
arguments, all of them about how tech startup equity will work out poorly for
retail investors:

* The core issue: professional startup investors rely on (a) relatively large portfolios where (b) _the winners succeed so outlandishly that they pay for the losers_. Savvy investors --- most investors aren't savvy --- intuitively understand (a), but not (b), and you have to fully grok both concepts to make money from startup equity, because it's an equity class that is almost by definition way more risky than normal stock.

In particular: the math on "value investing" probably just doesn't work with
startups.

* We have a distorted view of the win/loss ratio of startups, both because so many exits are in fact not net-positive for investors, and because so many startups fail without actually telling anyone (the lights are on, but nobody's home).

* There's probably a market-for-lemons effect bound to apply to equity-crowdfunded startups. Professional investors compete for dealflow. The whole system is designed to route the most lucrative prospects to the pros. There's no countervailing force that routes good deals to mom-and-pop investors who can't offer anything other than incredibly complicated cap tables to startup operators.

* A negotiated event that strikes 25% off the value of a publicly traded company's stock is a major news story (and a likely class action suit). But an event that dilutes startup common stock holders down to 50%, 25%, or 10% of their original valuation? Or that wipes it out entirely? In startup parlance, that's called Tuesday.

* Startups aren't like Kickstarter projects. Crucially: people put money into _projects_ on Kickstarter, not _teams_. Professional startup investors do mostly the opposite. A project page on Kickstarter is a good prospective for a Kickstarter project, but it's not even close to a prospectus for a company.

Retail investors should get exposure to startups through carefully managed
funds that own lots of different startups, not by trying to pick individual
winners themselves.

~~~
icelancer
Assume everything you said is true verbatim. None of it is a good reason to
exclude retail investors simply because you don't think people are good at
assessing risk correctly. There are a lot of bad investing ideas - hell, ideas
of all sorts - that aren't banned/excluded.

~~~
zrail
People are terrible at assessing risk, especially when it's not their day job.
Even when it is their job, assessing risk in an adversarial environment is an
extremely difficult thing.

Your dad (not really your dad, but for sake of example) is a retail investor.
He has no idea what he's doing, but he heard "through the grapevine" that he
should invest in this one particular startup. He sends them his IRA balance.

A year later the startup exits, but he hasn't been paying attention and turns
out he's been diluted to 10% of what he thought he had. Now he has nothing.

~~~
icelancer
...okay? That is different how than the craps tables in Vegas, state lottery
commission, or... picking regular stocks?

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notahacker
The craps table is marketed as a gambling game and has a published payout
figure. Startups crowdfunding for equity usually have a slick pitch video
about how this excellent opportunity to tap into a £1bn market is a great
investment. An opportunity which for a retail investor with adverse selection
problems and no influence over company decisions is likely a vastly _worse_
"investment" compared with a game of craps (the expected return on craps is
probably less negative and the probability of at least breaking even is
_certainly_ higher at the craps table)

And people comparing crowdfunding with "regular stocks" \- even on here where
it's well known most startups fail - are prime example of which the public in
general doesn't know enough about investment to consider it...

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intrasight
I think there is an important aspect of this that is being overlooked in this
discussion. Every seems to assume that it will always be a single investor
investing in a single company. What I think will quickly evolve is syndicates
of small investors that pool their money and their intelligence, and will
invest in multiple companies. Basically they will do what wealthy investors do
to manage their risk. We in the tech industry who also have an interest in
finance and investing will play a constructive role by sharing our insights
about the viability of these companies. The control of information is going to
change dramatically - and for the better I hope.

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stevecalifornia
I am happy they are doing this, I am disappointed they placed such a low cap
on what you can invest.

I would love to hear more reasons for the investment cap other than protecting
investors from themselves. It seems like such a low cap that you can invest in
maybe one startup.

I would also love to hear why protecting investors from themselves is a good
thing. It's an honest question: what is the merit of putting a cap on what you
can invest based on your income? Shouldn't that cap be a personal choice?

~~~
nbadg
I agree with your reasoning totally. We don't put a cap on how much you can
spend in the lottery. Why should we have a cap on something with better odds?

~~~
fweespeech
Well, really, that is just an argument to put a limit on lottery purchases
[which we should].

~~~
nbadg
That really depends on your perspective. I personally think that using wealth
as a proxy for... well, really for anything other than wealth, but in this
context risk assessment capability and fiscal planning ability, is terrible
public policy. If you're concerned with people making poor financial
decisions, then you should focus on providing better financial education,
instead of restricting the fiscal agency of everyone else in the same income
bracket. But that's another discussion entirely.

What I am definitely arguing here and now is that there is an inherent
hypocrisy in the way we legally treat lotteries and the way we treat
investment. Both are seen by their "players" as vehicles for potential
financial windfall, and the riskier and less responsible of the two is wholly
unregulated and even state-encouraged, while the other is tightly controlled
and very difficult to get involved in.

~~~
fweespeech
> What I am definitely arguing here and now is that there is an inherent
> hypocrisy in the way we legally treat lotteries ...

Yes, and I just said we should regulate lotteries tightly and limit how much
people can gamble on them. That removes that hypocrisy.

> That really depends on your perspective. I personally think that using
> wealth as a proxy for... well, really for anything other than wealth, ...

If you read my other comment, it has more to do with the risk of them
surviving [financially] poor decision making.

Someone who makes $100k and puts $10k into risky bets is more likely to
survive than someone who makes $30k and does the same thing. Its a question of
scale.

> then you should focus on providing better financial education, instead of
> restricting the fiscal agency of everyone else in the same income bracket.

Education requires the student to be motivated to learn. There are plenty of
resources to learn about financial decisions and community colleges teach
relatively cheap personal finance classes.

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7Figures2Commas
> “I think it’s going to really make a difference for businesses that are not
> especially fashionable for professional investors,” said James Dowd, the
> chief executive of North Capital Private Securities, a broker-dealer that
> focuses on private fund-raising. “They want to invest in companies that have
> the potential to be disruptive to an entire industry. You don’t see a lot of
> capital flow into ordinary consumer and retail businesses.”

The statement about professional investors "want[ing] to invest in companies
that have the potential to be disruptive to an entire industry" is really not
accurate. The vast majority of dollars raised through Regulation D offerings
go to financial issuers (investment funds), not "disruptive" startups. Reg D
is also commonly used to raise capital for real estate ventures and funds.

Although they certainly don't constitute the majority of Regulation D
offerings, "ordinary consumer and retail businesses" _do_ use private
placements to raise capital, but the real reason it's more challenging for
these businesses to raise capital is not that all professional investors are
looking for hundred-baggers. It's that they know there's a strong likelihood
they'll never see their capital again at all.

This said, I don't have a real problem with Title III. The SEC can't protect
investors from themselves, as evidenced by the fact that investors are still
defrauded to the tune of more than a billion dollars a year by penny stock
schemes. But it's worth observing that the biggest proponents of equity
crowdfunding are usually those who stand to profit from facilitating the sale
of securities to investors. You'll notice that very few of them ever talk
realistically about how those investors are going to get their capital back.

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gbelote
This is a really exciting development, and one that is quite overdue!

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intrasight
Just reading this about new book by Akerlof and Shiller

[https://www.washingtonpost.com/news/wonkblog/wp/2015/10/29/t...](https://www.washingtonpost.com/news/wonkblog/wp/2015/10/29/this-
kardashian-headline-shows-why-two-nobel-winners-say-the-economy-is-broken)

"Their latest book, Phishing for Phools, takes the idea further. Not only are
people vulnerable to making mistakes with their money, they argue, but the
market is exceedingly good at exploiting them."

“The economic system is filled with trickery, and everyone needs to know
that,” they write in the book’s opening pages.

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ape4
How about a rule... no pitch videos. Text only.

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thrownaway2424
If only we'd had this last summer, we could have all participated in that hot
Theranos equity round!

~~~
7Figures2Commas
No, with equity crowdfunding, muppets get the down rounds, not the up rounds.

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tonomics
This is just a distraction.

Our unfortunate reality is that of a socialization of investment; something
discussed from Marx to Keynes.

In the next decades, the idea of investing become blur and centralized.

[https://www.contentful.com/developers/docs/references/conten...](https://www.contentful.com/developers/docs/references/content-
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