Hard Landing
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Market analysts continue to argue about whether the U.S. economy is headed for a soft landing, hard landing or no landing. Well, the hard landing is already here, it’s just in private markets.
The Federal Reserve began raising interest rates in March 2022 from 0.25% until they reached 5.33% in July of 2023, a more than twentyfold increase. Then, this month, the Fed slashed rates by half a percentage point. Since March 2022, the S&P 500 index of publicly traded companies increased by more than 22%, but the value of privately owned companies, including those owned by venture capital (VC) and private equity (PE) investors, declined by as much as 80%, according to reporting by Business Insider. That is well below what is considered bear market territory for publicly traded companies.
Over a longer time period, the Fed’s easy monetary policies have proved to boost values for privately held firms. In 1981, the 10-year Treasury yielded about 15.8%. In the first quarter of 2022, that same Treasury security yielded 0.5%. As rates declined over the decades, the values of privately held companies increased, as did investments in those companies by VC and PE firms.
But as rates rose in recent years, the value of privately held companies slipped. In the fourth quarter of 2021, for example, before the first Fed rate increase, there were 547 U.S. businesses backed by VCs that sold for a total or $194.7 billion. In the second quarter of 2022, after the Fed began to increase rates, there were 384 sales totaling $26.6 billion, for declines of 30% and 86%, respectively, according to data from PitchBook.
The trend has continued. In the second quarter of this year, there were 241 sales of VC-backed companies totaling $23.6 billion, which represent declines of 83% and 43%, respectively, from the last quarter of 2021.
VC investments have fallen as well. In the last quarter of 2021, there were 4,875 VC investments totaling $97.5 billion. In the second quarter of this year, the totals had dropped to 3,108 and $55.6 billion — declines of 36% and 43%, respectively.
The U.S. private equity market conditions have been affected similarly. In 2021, for example, there were 1,893 PE-backed company sales totaling $828 billion, and in the first half of 2024 those had declined to 212 exits totaling $141.4 billion.
PE investments in companies have also fallen. In the fourth quarter of 2021, there were 3,092 PE investments totaling $334.0 billion. In the second quarter of this year, the totals had fallen to 1,502 and $157.5 billion — declines of 51% and 53%, respectively.
The Fed’s decision to lower rates this month may increase private company values marginally. Interest rates will, however, remain higher than they were two years ago for the foreseeable future. Private company owners, including VC and PE firms, will have to adjust to higher rates, lower returns, and difficult company sale conditions — all of which will initially result in fewer investments in emerging companies, reduced innovation and less hiring.
Over the long-term however, companies will have to improve their operations and profitability to compete for more limited investment capital, which will ultimately create stronger companies and drive economic growth. Many successful companies have been founded around recessions, including Airbnb, Amgen, Electronic Arts and Uber, among many others.
The effects of fed policies are not so easy to fit into campaign slogans. The current declines in private company valuations will take years to improve but will ultimately be the basis for a new period of strong economic growth.
The hard landing is already here and, to quote the great American poet-philosopher Yogi Berra, “You can observe a lot by watching,” but you must know where to look.
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Since March 2022, the S&P 500 index of publicly traded companies increased by more than 22%, but the value of privately owned companies, including those owned by venture capital (VC) and private equity (PE) investors, declined by as much as 80%, according to reporting by Business Insider. That is well below what is considered bear market territory for publicly traded companies.
But as rates rose in recent years, the value of privately held companies slipped. In the fourth quarter of 2021, for example, before the first Fed rate increase, there were 547 U.S. businesses backed by VCs that sold for a total or $194.7 billion. In the second quarter of 2022, after the Fed began to increase rates, there were 384 sales totaling $26.6 billion, for declines of 30% and 86%, respectively, according to data from PitchBook.
That seems like a blatant non-sequitur. Comparing the total value of private companies sold in one quarter to the next, does not track with the total value of existing companies. But the stock market comparison, is to the total value of existing companies.
