Why you should invest in every equity crowdfunding campaign

Equity crowdfunding investments come with certain privileges, not the least of which is to enjoy the increase in the value that the company achieves and shares with investors.  This increase in value for early stage businesses can be particularly significant, but it comes with a strong wealth warning that the survivor rate of start-ups beyond 5 years is not high.

The challenge for equity crowdfunding investors is trying to decide which companies to invest in and which ones should be avoided.  For full-time fund managers, investing in mature businesses with demonstrable track records, this is a difficult task, even with volumes of broker research available to analyse.  The graveyard is full of so-called ‘investment experts’ whose stock-picking skills have been shown up for what they are.  Do a Google Search for Neil Woodford if you are looking for confirmation of this.  His fall has put the future of the entire funds management industry under scrutiny.

So, if the experts are struggling to pick winners amongst highly researched companies in which there is price and valuation asymmetry, in theory at least, the idea of part-time investors trying to pick winners, in which there is limited company information, is high risk and fraught with danger.

But, with high risk comes the potential for high reward, and if you have an appetite for high risk investing, how can you optimise your returns over the long term?  The solution lies in portfolio theory, which is a framework for assembling a portfolio of investments such that the expected return is maximised for a given level of risk.  In the case of equity crowdfunding, this basically means building as wide a portfolio of investments as possible.

It does not mean investing more than you normally would in high risk campaigns – it means investing the same amount overall, but spreading this across a wider number of companies.  So, if you have a fund of £50,000 to invest per annum, instead of investing £10,000 in 5 companies you like, invest £1,000 in 50 companies.

The beauty of equity crowdfunding is that the minimum investment amounts per campaign are low enough to allow you invest just £1,000 in each campaign, especially on CrowdCube and Seedrs, and the transaction costs for investors are so low as to almost be irrelevant.  It therefore couldn’t be easier to build your own portfolio of equity crowdfunding companies.  When you then include the generous tax breaks for UK investors in equity crowdfunding campaigns you can see why the average investor can quite easily achieve the same overall returns as the more experienced fund managers or venture capitalists.

We assume that equity crowdfunding platforms do some form of assessment on companies, in the form of high level Due Diligence, before making a decision to allow a company to raise funds on their platforms.  (They are regulated by the FCA, after all.)  Our guess is that only 1 in 10 companies they review are approved to raise funds, although we’ve no proof of this, but at least you can rely on this level of quality control.  Investors can also take some comfort, but we only mean some, from the fact that successful campaigns require the back of a wide variety of investors, so at least you know you are not alone in believing in the prospects of the company.

To conclude, don’t try to outsmart the market by selectively trying to pick winners.  If the Covid-19 impact on the financial markets has taught us anything, it is to expect the unexpected and that winners can emerge from the most unlikeliest of industries.  Instead, spread your available funds across the widest possible portfolio of equity crowdfunding campaigns on a variety of platforms, taking advantage of low taxation costs and generous tax breaks.

Enjoy the ride!