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The Beneficial Disconnect

To our Valued Investors:

 For those heavily invested in the equities markets, 2022 has thus far not been a year of rejoicing and gleefully tossing wads of crisp Benjamins into the air. Over the course of about three weeks, the S & P 500 Index took a stomach-turning plunge of about 11%. Of the last eight full trading days, six closed well into the red, with the other two days going green by a slim margin (including last Monday’s selloff that managed to rally into what some would call a “dead cat bounce”). As of last Friday, the stock market suffered its worst week in nearly two years, and this month is shaping up to be the worst start for a year since 2016. Technology stocks have been hit particularly hard, punishing the Nasdaq Composite Index with a more than 10 percent decline from its recent highs, officially placing it in “correction” territory. As if to add to the general gloom and doom, even the mighty Bitcoin and all of her little altcoins have spent much of January on the ropes. Today’s action, so far (as of 2:30 PM Eastern time on Wednesday), is somewhat encouraging, with all major indexes showing strength throughout the morning and then sustaining much of it beyond the interest rate announcement. Still, a spate of profit taking in the thirty minutes immediately following the big moment tells us that more pain could lie ahead for investors. In any case, the yearlong spell of exuberance that fueled a nearly 22% rise in the S & P feels, sadly, like a memory that’s slipping uncontrollably away.

What’s causing all the bad mojo? There seems to be no shortage of culprits, and most observers agree that a variety of assailants are ganging up on the market. Although more than three quarters of the companies that have reported earnings in recent weeks have actually surpassed analyst expectations, the numbers haven’t been exciting enough to inspire a rally. Perhaps these are instances of “buy on the rumor, sell on the news”. General Electric (NYSE: GE), for instance, reported fourth quarter 2021 numbers that beat estimates yesterday, but weak guidance dragged the ticker price down almost 6%. Apart from corporate headlines, geopolitical concerns surrounding Ukraine and Russia, as well as China and Taiwan, have rightfully created some skittishness among investors. Most likely, though, the biggest bully that is putting a beating on our portfolios is our own Federal Open Market Committee, better known as “the Fed”. A raise in interest rates wasn’t broadly expected to come from today’s meeting, and in fact the rates remain unchanged as of today’s 2 PM announcement. Nonetheless, the notion that it could happen, and the fact that the Fed has all but guaranteed that several rate hikes will indeed “soon” be in store, has caused storm clouds to gather. It was the Fed’s action of keeping interest rates low that propped up markets when they were initially imperiled by the advent of the pandemic. The current goal, ultimately, is to keep the looming threat of inflation at bay, but it also could be a move that threatens to stall the markets. It’s a high-wire act, and the investing public by and large hates high-wire acts. What’s more, nobody is looking forward to the rate-raise hangover that will inevitably follow that long period of market incentivizing.

Unlike the community of traditional brokerage firms, stock analysts, and investment bankers, we at Iron Edge VC observe this market volatility with much interest but very little professional concern. We have the luxury of watching the Dow as outsiders and as bystanders. We remain calm during the calamity, because we have been around long enough to know that steep selloffs and breathtaking recoveries are all parts of a healthy market’s life cycle. Everybody at Iron Edge has a resume that hints at the scars of much more direct involvement in conventional markets through the decades, but these days the selloffs simply have no direct impact on our day-to-day dealings. This is how pronounced the disconnect between the public and private markets is.

Our craft centers around meticulously curating investments into privately held companies, and then establishing funds to hold those investments. Our clients then buy shares of those funds, entitling them to have tradeable common shares transferred into their brokerage accounts after the subject company goes public. It has been an alternative form of investment that has gained popularity in recent years, but in all candor our “second market” is not without its critics. The requirement that all our investors absolutely must be accredited limits our clientele to high- and ultra-high-net-worth individuals, excluding many knowledgeable yet less affluent prospects. The levels of secrecy that characterize many private companies sometimes make it quite difficult to predict when an investment in a private company will mature. Frequently, illiquidity is also a topic of discontent we hear about.

It is this very illiquidity, though, that helps us sleep during these cold January nights. While the NYSE and the Nasdaq are being brutalized by trillions of dollars heading for the exits, all we have been facing is a mild (and, we know, temporary) pullback in aggressiveness among our buyers. To frame it with some humility, our marketplace isn’t big enough to suffer from a stampede. We remain slow and steady while the rug is pulled out from under the big boys. The chart below graphically displays how this works. In the worst months of the last eight years for the Russell 2000 Index, the Private Shares Fund (Nasdaq: PRIVX), a non-diversified, closed-end management investment company that invests in equity securities of certain private late-stage growth companies, has held steady or even risen:

The Beneficial Disconnect
Source: Morningstar. Since Inception, as of 12/31/21

Take note of March 2020. As you recall, it was in the middle of that month that covid-19 “got real”, lockdowns were ordered, and businesses were shut down. It’s not at all surprising that the Russell dropped about 22%, and the S & P almost 13% at that time. Check out the PIVX, though. It went up, even if just by a hair. On the morning of Monday, March 16, 2020, Iron Edge management had an emergency meeting — virtual, of course, as we were all simultaneously learning how to become homeschool teachers. We, understandably, felt we needed to brace for the worst as the world truly seemed to be entering a terrifying chapter. The onslaught never materialized for us, though. In fact, by the end of that week, we had our hands full catering to individuals who had lightened up on some long-held public stock positions and were looking to take advantage of our opportunities in Palantir and SoFi.

Indeed, as they are now publicly listed, our old friends Palantir (NYSE: PLTR) and SoFi (Nasdaq: SOFI) have not been immune to the slide. Since the beginning of the year, they are down 28% and 19%, respectively. When they were private in 2020, though, they remained flat to moderately rising in the first quarter, then rose nicely in the second and third quarters. Again, the chart tells you everything you need to know. Similarly, consider the action we’ve witnessed most recently in Coinbase (Nasdaq: COIN). With its 26% selloff since the ball dropped in Times Square, aided irrationally by the dip in the cryptocurrencies it serves, Coinbase’s market capitalization has melted from $66.2 billion to $48.6 billion. Meanwhile Kraken, Coinbase’s nearest competitor, has remained steady on the Iron Edge VC platform at just under $14 billion. Please take a moment to let that sink in. While Kraken’s value remained unchanged, its publicly traded comparable lost more than the entirety of Kraken’s valuation. Many expect COIN to rebound. It might well be a “steal” at these levels. Still, in a gleaming example of the valuation opportunities afforded by the second market, Kraken continues to sit at just more than a quarter of Coinbase’s discounted price tag.

The bottom line? Panic selling hits the public markets hard when spooked investors run for the hills, cash in hand. For the significantly less liquid names in the private markets, the sky rarely seems to be falling, because valuations usually are already right where they should be. After all, with the prospect of hypergrowth visible on the near horizon, there’s no reason to get hysterical.

We at Iron Edge VC are proud to have access to the shares of today’s most exciting private companies that have proven and emerging track records of impressive growth, but still have tremendous potential and are not yet available on the public markets. These opportunities include, but certainly aren’t limited to, the likes of Attentive Mobile, Kraken, Menlo Micro, and Figure Technologies. If you would like to learn more, or if you know of anybody else who would, do not hesitate to contact us by clicking “Get in Touch” below.

If you have enjoyed this article, visit the Iron Edge Blog for past updates on our pre-IPO opportunities and for general commentary on investment in the private marketplace.

As always, shares of Iron Edge investment funds are available on a first come, first served basis.

All the Best,

Paul Maguire
Founder & Managing Partner

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Paul Maguire

Founder And Managing Partner