VC is a Bubble Business

While I appreciate the point that John Quealy is making here about current VC enthusiasm for energy investing, he, like so many, is missing that venture, from a returns standpoint, is a bubble business:

Valuations are out of whack and in a bubble-in some cases in solar, and in some cases in biofuels,” said John Quealy, a principal at Canaccord Adams, during a panel discussion at the Red Herring East conference in Boston. He also noted that solar IPOs are commonplace, and said he knew of one private ethanol company that has raised “hundreds of millions” of dollars in financing.

While things always get out of whack when VCs get interested in a category, if it weren’t for these periodic bubbles the asset class wouldn’t be worth investing in.


  1. No. It’s not a ‘bubble business.’ That’s too glib a characterization.
    A VC investment has the payoff characteristics of an option. Payoffs have a lognormal distribution with the median investment returning less than invested capital, just like an expired option. Long run the asset class is correlated with all other equity classes. The illusion of a bubble is an artifact of recent history. We see bubbles everywhere — every trend is a bubble. Seen up close, overinvested segments look like bubbles and underinvested segments look like ‘smart money’ when they pay off.
    But in aggregrate Venture Capital is an option. Certain segments are overinvested, for sure. But speculation occurs in every asset class, from hog belly futures to gold.

  2. agreed the above assessment – the whole VC business is almost like watching the celebrity poker game.

  3. Brent Buckner says:

    Peter, I suspect the point is that what makes VC investing worthwhile overall is sporadic periods of (sub)sector-specific “over-receptiveness” to IPOs, these periods giving enough of a fillip to enough VC investments to make the overall pattern of returns worthwhile.
    As far as it goes, it seems a reasonable point, as at most times there are various (sub)sectors moaning about the IPO window being closed.
    OTOH, it is not fair to point to one component of the total returns and say “that makes it worthwhile” when removing any other component of returns would also tip the investment profile from acceptable to unacceptable.

  4. While some of this is semantics — bubble, euphoria, overinvested, etc. — I still take your point Peter. I still maintain, however, that the only way to know that something has a chance of producing decent venture returns is to have people begin calling it a bubble. It happened in hard-drives, PCs, Internet stocks, networking equipment, bioinformatics, nanotech, cleantech, and Web 2.0.
    Yes, it’s a necessary but not sufficient condition, but the onus is on those who think you can have a performing venture asset class without such things to prove their case. Because history says otherwise.
    So, what bugs me is that too many people in the venture business shy away from the idea. Most of the major venture firms made their rep from one bubble or another. Let’s stop denying it and just live with it, heck even embrace it.

  5. m hollander says:

    any evidence that the payoff is lognormal?
    (to be a stickler, it’s the underlier of an option that generally is considered to have a lognormal distribution, not the option itself, by the way)