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Sunday, January 11, 2009

The End of the Financial World as We Know It

Just read this very interesting article in the NY Times from Michael Lewis explaining how a lot of people suspected that something was going on with Madoff, but nobody had any incentive to do anything about it. Worse, somebody (Harry Markopolos) wrote a letter to the SEC on Nov. 7, 2005 to demonstrate how something had to be wrong with what Madoff was doing. And nobody listened.

This reminds me very much of what is going on with another part of the financial world: the Venture Capital world. Nothing as bad certainly as what is going on with Madoff, but another example of something not working, people knowing about it (VCs will tell you privately that there are issues with the model) and nobody doing anything about it because nobody has an incentive to. Except for a paper published by Ludovic Phalippou and Oliver Gottschalg on April 2007 (already discussed in this blog) where it is clearly shown that Private Equity returns are not that great (the paper shows that on average and once you factor in the fees charged by firm it is S&P minus 3%). But also in this case, and as discussed previously in this blog, nobody cares. Up until now that is.

With the current crisis, people have started questioning what is going on, and the word is out (TheFunded presented the case that "The canary is dead")

Not all is bad with VCs, but the model is certainly working more for them than for entrepreneurs or even investors. I am convinced that 2009 will bring changes to this world as well. While Michael Lewis presents in his article the very sad picture of what should or could have been done and has not been done so far with the banking system let's hope that VCs and their investors will be more efficient in tackling the issue. And it starts with going back to the basics: providing real support to entrepreneurs as a whole to keep the ecosystem healthy.

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