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In the changing venture capital landscape, the once-adequate approach to generalist investing is facing significant challenges. As technology and societal change proceed at a rapid pace, venture capitalists must adapt to stay ahead. In addition, new research from S&P Global on VC funding for second quarter 2024 found that the value and volume of financing rounds have decreased, which can indicate that investors are becoming more selective and cautious, potentially signaling the need for more targeted investment strategies.
The result is a new paradigm in early-stage investing, one in which the practice of venture capital is being redesigned from the ground up. This paradigm shift is not only a trend; it is a strategic evolution that guarantees to position venture capitalists to capitalize on the next wave of disruptive opportunities.
Shifting to a new paradigm in venture can significantly enhance an investor’s ability to discover high-potential opportunities, align with long-term trends, and achieve sustainable returns. The first principle driving this shift is thematic investing.
The New Paradigm: What is Thematic Investing?
For many years, the generalist investment style has dominated VC. This approach, characterised by a broad, diversified portfolio, relies on the hope that a few big wins will compensate for the many less successful investments. This method often results in a superficial understanding of each sector and a lack of deep, specialized knowledge. As a result, generalist VCs can miss area of interest opportunities and fail to anticipate long-term trends, leading to suboptimal investment decisions. The inherent risks and inefficiencies of this model are becoming increasingly apparent, leading investors to seek more robust strategies. A contrasting approach that my firm has found success with is the thematic investment strategy.
What is thematic investing? Unlike general or sector investing, the thematic investing style emphasizes focusing on enduring economic, technological, and social trends to drive innovation and generate sustainable returns. By studying long-term trends, thematic investors can goal opportunities with higher sustainable growth potential. Thematic investing is based on the belief that certain macroeconomic trends will shape the future, and by aligning investments with these trends, VCs can achieve higher success rates.
This approach contrasts with other strategies, including impact, sector, and thesis investing. Impact versus thematic investing is a key distinction; impact investing prioritizes generating measurable social and environmental advantages alongside financial returns, while thematic investing focuses on identifying and capitalizing on long-term social, technological, and economic trends.
When comparing thematic investing to sector investing, thematic investing offers a broader but more focused approach. Sector investing limits its scope to specific industries, potentially missing out on the cross-sector opportunities that thematic investing can capture by targeting overarching trends that impact multiple industries. The distinction between thematic and thesis-based investing further highlights the benefits of thematic strategies. While thesis-based investing relies on a specific hypothesis about the future trajectory of a market, thematic investing emphasizes a broader exploration of tolerating trends. This allows thematic investors to remain agile and adaptive, continually refining their strategies based on evolving economic, technological, and social landscapes.
By understanding and leveraging these distinctions, venture capitalists can higher navigate the complexities of today’s markets by adopting thematic investment strategies that align with their goals.
How to build for a new paradigm
By building on this basic principle with streamlined operational structures, a novice manager can create strategies, processes, and portfolios that are distinctly different from the established order. Follow these steps:
1. Create a rigorous framework for thematic research
A successful thematic investment strategy requires a rigorous and structured research framework. This approach begins with building an engineering foundation of investment based on first principles, which incorporates hypothesizing potential investment themes and rigorously testing them. At Ascend, this process involves reviewing over 500 firms per 30 days, leading to over 30,000 reviews to date. This exhaustive deal flow allows for early identification of promising investments. We also limit each fund to a maximum of 10 firms, ensuring that each venture receives significant support and resources.
A solid research framework should include ongoing market evaluation, trend monitoring, and data validation. This strategy involves subjecting hypothetical themes to rigorous testing, evaluation, and refinement, with a focus on their impact on money returns. Using scientific methodologies to manage and deploy funds increases the accuracy and effectiveness of investment decisions, leading to a higher hit rate than other approaches. This higher hit rate enables smaller, more concentrated portfolios.
The framework must even be designed to be adaptable, allowing for adjustments based on emerging trends and new information. This flexibility is essential to staying ahead of market changes and ensuring that your investment strategy stays relevant and effective. By adopting such a strategic, research-intensive, and highly targeted approach, you possibly can significantly increase your success rate and uncover transformational opportunities that are often missed by traditional investment styles.
2. Focus on transformational firms
Leverage unique qualification criteria to discover firms that traditional VCs might overlook. For example, my firm’s thematic investment approach specializes in data-driven technology that allows the future states of rapidly changing industries. By targeting firms that align with deep-rooted economic, technological, and social trends, you possibly can discover significant growth potential and drive innovation in their sectors.
One of such businesses is REFASHIOND OS (rOS), a comprehensive operating system for the fashion industry, connecting and managing the entire value chain from fiber to finished goods. The company is transforming supply chains, laying the foundation for a unified system similar to the emergence of computer and mobile operating systems.
3. Build a Diverse and Consultative Investment Team
A critical element of a successful thematic investment strategy is assembling a team with expertise in a number of areas relevant to the identified themes. This diversity enhances the ability to evaluate opportunities from multiple perspectives, providing a more comprehensive understanding of emerging trends and potential investments. Recent Korn Ferry research has shown that diverse, inclusive teams make higher decisions 87% of the time.
Implementing the selection process without the founder’s involvement is also useful, eliminating prejudices and allowing VCs to focus solely on the potential of the business idea and its alignment with the chosen themes. This ensures that investment decisions are based on the feasibility and transformational potential of the start-up, not the background of the founders.
But building a diverse team and group of founders is just the starting. It’s also vital to make sure your team can provide real guidance to the firms you invest in. At Ascend, we’re committed to ensuring founders feel confident by offering a broad range of strategic, operational, and educational guidance throughout the lifetime of our investment. Our commitment to white-glove interaction, personal attention, and iron-clad relationships ensures that we’re comprehensively supporting modern disruptors. This approach increases the success of our portfolio firms and strengthens our investment strategy by closely aligning with their evolving needs.
Fostering a culture of continuous learning and adaptation inside your investment team is a key a part of this. Encourage team members to stay up-to-date with industry developments by attending relevant conferences, participating in webinars, and engaging with thought leaders. This ongoing education helps your team stay ahead of thematic trends and equips them with the knowledge to make informed investment decisions and provide worthwhile advice to founders.
The venture capital landscape is evolving rapidly, and thematic investing is emerging as a key strategy to stay ahead in a world defined by technological advances and social change. By focusing on long-term trends, venture capitalists can uncover transformative opportunities that traditional approaches often miss. The shift from a generalist to a thematic investment strategy requires a rigorous research framework and a diverse, learning investment team. Embracing this paradigm guarantees not only to drive innovation and deliver sustainable returns, but also to put venture capitalists at the forefront of the next wave of disruptive opportunities.