Is the Economic Downturn Actually Upon Us? Here's What We Know (and What We Don't). The economic downturn remains a prediction, not a reality. Navigate the hysteria by discerning fact from forecast.
By James Wang Edited by Chelsea Brown
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You don't need ties to the venture capital (VC) industry to be well aware of the ominous warnings that are being aired around the world: A major downturn is upon us, and it's going to be a devastating economic bloodbath — particularly for startups. But the economic downturn remains a prediction, not a reality.
With major players like Y Combinator and Sequoia Capital preparing for the worst, limited partners (LPs), venture capitalists (VCs) and founders are following suit by shifting into doomsday mode. Meanwhile, many VCs continue to deploy capital rapidly while whispers urge everyone to "act fast and raise now."
Public equity markets have already had their fair share of turmoil this year, so while the "raise now" sentiment buzzes about the industry, it's nothing more than action for the sake of action. People are moving money to feel like they're doing something to prepare for a seemingly inevitable descent.
So, how do we navigate the economic downturn hysteria? Let's start by separating fact from forecast.
Related: Lessons for the Young Startup Leader: How to Get Through an Economic Downturn
Notice how history is repeating itself?
It's hard to ignore the déjà vu feeling when you hear about those doomsday letters going out to LPs everywhere. Didn't this happen in 2008, 2015, 2018 and 2020? There's a lesson to be learned here, and it's that VCs tend to be very poor macro forecasters.
It's hard to forecast the economy — even for specialists. It's basically pure speculation on the part of VCs, who often get basic facts about macroeconomics and financial markets wrong. There are only two modes: party time and doom. Now we're in the latter as public markets come down, the Fed tightens its belt, and everyone runs around declaring a financial apocalypse.
Related: 4 Tips for Starting a Business in an Economic Downturn
The economy does not indicate certain doom — yet
Any VC with reliable economists in their network or investors with backgrounds in economics will have the advantage of perspective. Good economists will acknowledge that it's difficult to discern where exactly financial markets will go.
You see, financial markets are trying to predict the future. The current downturn is predicting an actual economic downturn later. Even if the economy does sour, if it doesn't sour as much as predicted ("priced in"), the markets will go up.
Given the current uncertainty in our environment — from Covid-19 to Ukraine to endemic inflation — it's insane to predict what will happen in the coming months, let alone up to 2 years, as some prominent VCs have declared.
In fact, just as 2018 and 2020 turned out to be false alarms for the venture market, it's still not clear that the environment for certain startups has economically soured.
Related: How to Make Your Startup Irresistible to Investors
Pay attention to predictions, act on the facts
Raise now before the downturn hits, and every single start-up faces its death.
Yikes, right? But remember: It's just a prediction right now. It's the equivalent of water-cooler gossip, just blasted everywhere thanks to social media.
No matter how many people speculate that there "will be" financial ruin, it doesn't negate that it's not actually happening today. At Creative Ventures, we haven't seen any additional financial difficulties amongst our portfolio companies that you wouldn't see in an otherwise healthy environment. We haven't, so far, had any difficulty raising capital — other than people speculating "it looks like it will be bad." Actions, so far, are very far from the words we're hearing.
Now, this doesn't mean that certain companies that were ridiculously valued regardless of the environment won't meet their inevitable fate. The environment will always pop their bubbles without warning, no matter what.
Related: 5 Ways to Sustain Company Growth During a Recession
Being prepared isn't a bad thing
The world at large is uncertain, and we're reminded of that daily as we watch a war rage in Ukraine. Meanwhile, the Fed tries to contain a supply shock-driven inflationary environment reminiscent of 1970s stagflation. It's understandable that investors and portfolio companies are wondering what their managers will do.
This time isn't special. There will be more global crises. Regardless of the macro environment, there will be early-stage investment opportunities, especially in niches (like deep tech) where it's hard for generalist investors to jump into and hence are not as overvalued.
Related: Why the Stock Market Has Been So Volatile in 2022
A downturn is not a death sentence
One thing is certain: The endless hype train — starring an indiscriminate firehose of capital that led certain companies to raise exorbitant valuations — has stopped. And irresponsible investors who want to make money now are losing sight of what's actually important:
First, VCs are not macro forecasters. We simply cannot say that enough. Second, investments made today won't have exits until five to seven years from now.
Be wary of any VC who is already skewing their investment strategy for a short-term market gestalt, especially while the downturn remains a prediction, not a reality.
