🔴 Will A Recession Crush Venture Capital in 2020? | Recession Watch

Josh Wolfe, finally, we get together because it's always Mike Green who gets to see you. So we get together because I have this hypothesis that I'm testing out on a lot of people that I respect to see whether the US or the world is potentially going into recession. I have a feeling that it is. I'm not 100% certain. I know it's getting weak. And I know that you see the world in a different way. And you're quite unique because you look at public markets, private markets, and you look at— you understand macro because you hang around with a lot of macro people. So, what's your take on where things are going, how things are, and any of the kind of flags that you're seeing?

So, I think about this as illiquidity, which is a word that I use often, which is the opposite of liquidity. You've got the yield curve. You've got $13 trillion of negative yielding interest rates, which I think is unprecedented in 4 millennia. You've got an enormous amount of people that in the US, I think 60% of buyers of government debt are retail. Which is about double what it was a few years ago. By the way, that $13 trillion of negative yielding debt was zero 5 years ago. People are pushed out on the yield curve. You have a lot of people that are saying—

And you have aging population.

Aging population. What do people historically do? The narrative is let me buy debt. Typically, the percentage of my portfolio that should be allocated to fixed income should be roughly proportionate to my age. You're a 60-year-old, you got 60-plus percent in debt. Fixed income, 40% maybe in equities, in mutual funds. The portion that's in debt is at record low historic yields. So, you had $1 million or $2 million in savings as a retiree, and you were making $50,000 or $60,000 a year, now you're making 10. So, what do you do? You go out on the yield curve. So, maybe you're in fixed income instruments, or mutual funds, or ETFs that have some slightly higher yield, and you think you are principal protected. So, you were looking for your return on principal. The probability has grown that the return of principal is actually not there. Why? You might have stuff mixed in just like you did with the subprime going back 10 years ago that is not actually investment grade. Things might have been rated as investment grade, but they're not. And all of a sudden, you see a 10% decline. And you see this in Europe, this is happening now, H2O, ironically named, completely illiquid. I think the private portion of this was 9% of assets that they had marked at nav, and then it dropped down to 2%, which means probably it's really 50 basis points. And so, significant value impairment. And then you have the human behavioral reaction, which is to start pulling funds out of these funds. So, if you have that in the fixed income world—

Because there's an illiquidity mismatch, because you can get money out for a while before it stops.

You have the illusion of liquidity because you have daily trading and ETFs and they're marked on a daily basis, but the underlyings suddenly might be illiquid. And so, I think that there's a real risk of permanent impairment, which is the true measure of risk of principal. So, if that happens, and retirees start saying, wait a second, you know what, let me go to cash. Let me get out of these bond funds that I thought was safe. That creates a problem. Well, they also might need to sell out of equity funds. Now, in both asset classes, you've had a shift from passive— from active to passive. So, I actually think it's a great time probably for active managers who can actually do security selection and determine, because the simple algorithm for all of these things was dollar in, buy. And now, it's going to be dollar out, sell, which means some of the good stuff is going to be sold indiscriminately. So, people are pushed out on the yield curve. They're taking more and more illiquidity risk, and they don't realize it. Now, you think about who the marginal buyer is. On the equity side, you've also had record amount of corporations that are buying back stock. The last time that corporate buybacks eclipsed corporate CapEx was 2008, 10 years ago. And that's happening again now. And that was right before crisis, and then hitting the March 2009 lows. Now, are we in a setup for history repeating if it doesn't rhyme? I don't know. But it's certainly peak valuations that you've seen over the past 10 years. And you'd argue, well, relative to interest rates, you've got S&P yield at 4.6%, 10-year at 2%, maybe the value's there, maybe it's not. But then you look at the illiquid side. And not just on the bonds, and not just on equities and people selling, but my world, which is venture capital.

Yeah, exactly.

A marginal buyer on the public equities who maybe was the corporation buying back its own stock. In my world, the marginal buyer is two kinds. One, you've got SoftBank, which is setting an irrational price. They have an enormous amount of money to put to work and have put to work pricing up their own stock. We've talked on Real Vision before about this in the past with Mike. I think that they have created irrational comps that other people have referenced to that have set artificially high prices that are almost equivalent to leverage because a 10% or 20% down round wipes out everybody in that capital structure stack. The second thing that I think you have is looking at some of the marginal buyers, which were foreigners. Now, if you take life sciences and biotech, a year ago, you had about $1.6 billion, $1.7 billion of Chinese money that went into US biotech companies out of a total of about $20 billion of life science money that went in. First 6 months of this year, you have about $700 million. About half, a billion dollars of capital that compared to last year is not there. Suddenly, VCs are looking around and saying, okay, who's going to be pricing up my Series B, C, D pre-IPO rounds? You have a handful of people who potentially are bag holders. Maybe these are the Baillie Giffords or the Fidelities that are doing these pre-IPO rounds. Why are they doing that? Because the returns were in the pre-IPO financings. Then you look at the pre-IPO companies that are now going IPO, so Uber. And Lyft, and potentially WeWork. These are the darling unicorns, and many of these have not held up well. Some have, Zoom has done very well. Others have been disastrous. But you look again at SoftBank, and you say, okay, they've got these illiquid stakes through the Vision Fund. They tried to do what? After these things went public, rather than just selling the stock, they tried to issue debt, have issued debt, $4 billion secured by the Garden stake or the Uber stake to retail investors. Then the underlying, WeWork, originally, we're going to put $16 billion in, they put a few billion dollars in, they priced up their own paper valuation. I've got my own tinfoil hat theory about why they're doing that to serve as collateral against mothership indebtedness. WeWork now, going IPO, going to issue $4 billion of debt before they go public, because there's nothing more that people love than a more indebted company before they go public. Now, the biggest counter is people will say, well, compare this moment to the 2000 bubble when you had all these phony valuations. At least companies now have revenue. Which is true, because a lot of back then, you just had eyeballs, you had no dollars, no revenue. But the problem is, in spite of all this revenue, you still have no profits. So, if you have all of this revenue growth, but it's unprofitable, and it's really driven by the kindness of strangers who are the providers of the capital, I think a lot of people are overestimating the potential profitability of these companies. So, one of the other very interesting things, of course, is you have this mismatch between CapEx and buybacks. But CapEx is a good measure of corporate investment activity. And so buybacks now eclipsing corporate CapEx, CapEx potentially declining at a time when interest rates are as low as they've been in many, many years. It doesn't bode well for the economy. And it comports with your view of recession. It also comports with your view, which I think is an excellent one, of real volatility and risk amongst the European banks.

I'm just looking at the situation we talked about on the corporate side. The amount of BBB debt, it's so enormous now. And it's basically 5 companies that— about $800 billion is 5 companies. That's AT&T, Dell, GM, Ford, and GE.

And by the way, every one of those companies is not a company that a cutting-edge, early-stage entrepreneur engineer would ever want to go and work for.

No.

Now, the amount of indebtedness, right? Has served asset growth and you could argue is fueling operations, but look at GE now in my world. GE, I predicted, was going to divest of their corporate venture portfolio. Because whenever you see corporate venture activity, it's almost always countercyclical indicator. When peak corporate VC starts happening, they feel like they're late to the game, they look at their brethren, they see that money is being made, at least in paper marks, CEO says I think we should be doing corporate venture. VC activity, the board says, yay, then all of a sudden, they see one of their brethren and say, wait a second, these guys haven't had any liquidity, they're divesting their portfolio. The secondary funds come in, they buy things at 70, 80 cents on the dollar. The day that GE announced that they were going to divest their VC portfolio, we got contacted by a very large prominent buyout fund that said, hey, do you want to team and take a look at this? I think that there's going to be portfolio after portfolio of corporate venture. That starts getting divested so that they can free up cash for liquidity. But to your point, all that BBB indebtedness, these are companies that are dinosaurs. There's real structural risk that they're going to be disrupted by the next guard, and it'll be debt that kills them.

RAOUL PAL: My fear with this as well is anybody gets downgraded, which they will, in the next recession, they'll get downgraded. And the junk bond tier, there's two different owners. It's the pension system that owns the— BBB, because it's still investment grade, as soon as it goes out, it's not owned by them at all. It's owned by the junk bond guys. So there is no liquidity. There is sellers, and there's basically no ability to buy that much downgrade stuff. And I fear it knocks on into your world, because illiquid knocks on into illiquid. And we saw this in 2008, is hedge funds became the cash machine where they could be, so they all had to gate. Then all the private equity guys were trading— I remember I was helping out a family office And they were selling out of stuff at 30 cents on the dollar, which was good stuff, but they just desperate for liquidity.

Well, this was, again, going back, just like 2008 was the time relative today when corporate buybacks exceeded CapEx, 2008 was when BNP gated those 3 hedge funds.

Exactly.

And that was the start of the catalyst.

And that's what I saw with this H2O and— And GAM and— Yeah. Okay, this is interesting, because you're starting to see liquidity issues. And that's what it was. And that's why I thought of you immediately. I've got to get Josh Wolfe about this because there's a liquidity event going on. And people are saying they're isolated. And they were isolated with BNP. And then it was the money market funds. And it just started moving around, tells you there's not enough dollars in the system. And from a—

from a simple macro standpoint, even to the layman, if you're pushed out on the yield curve, and money is being printed, and money is available, and you go into this higher illiquid stuff, Now, you've taken cash that was meant to help bail out the system, promote growth, you've put it into illiquid stuff, and now it's trapped. The question is, who is the incremental buyer in all of these things? In my world, who is the incremental buyer? Is it the crossover hedge fund? Is it the growth equity investor? Are the Tigers and Kotus and the tiger cubs that are doing private companies? Is it SoftBank? When that capital starts to dry up, we have a liquidity crisis. So, massive illiquidity. In the case of the bond funds, you know that the illiquidity comes when you have these things that you think are investment grade that turn out not to be. In the case of the mutual funds, you have illiquidity when suddenly everybody starts selling and people think that the underlying that they're able to get out of. So, I agree with you. I think that this is a substantially underreported, underrecognized risk.

RAOUL PAL: And I'm also interested because VC is very different to private equity, because private equity, they can have 100% ownership. So, then yes, they may have funding issues. So, debt roll-up and stuff, that will become an issue. But in VC, you're at the mercy of other people's liquidity. So, you may have all the liquidity in the world, but if everybody needs out, or the underlying business needs to raise more capital and they can't raise capital, they're going to go bust.

Right. So, there's two players here that matter, the underlying LPs, and you have this denominator effect in '07, '08, and then the GPs, the other funds that you're co-invested with in your syndicate. And you're constantly looking around and saying, Where is this company that you're co-invested with them in this fund of theirs? Now, if they're in Fund 5, and they're going out and raising Fund 6, and that fund is tapped, they have no reserves to invest incremental dollars, you have real liquidity risk from that investor ability to support their company on an ongoing basis. If they're investing out of a fresh new fund, and it's a brand new company inside of that fund, because each fund is every 2 or 3 years, you raise a pool capital, it's a different story. But that's a dimension of risk, which is idiosyncratic. It is different from the underlying company. It's about who's in the cap table. Now, we've always said, because we do different styles of investing, we do special situations, can you invest in a late-stage business at an early-stage price? The only way to invest in a late-stage business at an early-stage price is because something is not impaired on the balance sheet or the income statement, but on the cap table. I actually think that there's an opportunity for secondary players to come in and basically be liquidity providers. If liquidity is scarce, that is how you get value. Anything that's scarce tends to be valuable. I think that there will be situations where funds will be at the end of their life and not have the ability to invest in a company, but you also have situations where a fund might have a winner. My winner might be somebody else's loser, or vice versa. How I'm prioritizing in my fund versus how they're prioritizing in their fund, and depending on what vintage the fund is. All that stuff starts to matter, because it becomes like a Mexican standoff. You're looking and saying, well, wait a second, who's got money to pony up here into the next financing? We need to bridge this company to an exit or a sale. That's when it's classic Carl Icahn, your price, my terms. Because the valuations, which are in some cases set by these artificial SoftBank or others, what really matters are the preferences and the liquidation and the waterfall about who gets paid. Somebody might put in a $5 million— the company could have raised $500 million, but somebody could put in a $5 million bridge loan with liquidation preferences on top, and they can clear all the money that gets made in an ultimate sale. And so, a lot of this stuff is very illusory. And I think it all is about liquidity.

Most of it, the enormous growth in VC over this cycle concerns me, because there's a lot of people who haven't run cycles, don't understand the macro. So, people don't understand this thing is cyclical. Everyone puts a linear trend always on everything. And the problem is, is how do you manage risk in a VC business outside of a diversified portfolio? Because you've got so many other factors of risk, it's very difficult. And none of them are set up to trade macro, which they should do. Some of them should be able to buy some illiquidity insurance by whatever format that is, whether you want to short junk bond index or whatever it may be. None of them even think about it. And I just don't understand, because they basically bought a— built a portfolio of options. And we all know the gamma of options, meaning they go up a lot, they go down very quickly as well. And I don't think a lot of people are ready for that.

I think that risk management tends to be at the LP level, whether it's an endowment deciding what their allocation is going to be to venture as an asset class. And I think the best risk protection if you're an allocator is to do what Dave Swensen did. I think he did in 2000, he did in 2007, CIO Yale. And he basically said, give me your hand-to-heart valuation, not what you're holding at the mark, not what FAS 157, not what the auditors say you have to do based on a comp analysis. Hand to your heart, would you be a buyer of this company at today? He got a very different set of answers from his GPs and the GPs gave him those honest answers, because they valued him as an LP. I think that set up a situation where he said, wait a second, the marks relative to what these guys are saying my hand to my heart valuation is, there's a big discrepancy. That created a different allocation scheme for him, incremental dollars to private equity or to real estate in that case. I think that that's from an allocator standpoint, the way to have risk management. Management. From our standpoint, the risks are LPs going to meet capital calls when we call the capital. One of the questions that we never asked in our early funds, and we started asking 3 funds ago, is what is your target allocation to venture, and where are you at today? We had LPs and we're on our 6th fund now, and our 3rd fund, we had LPs where we said, what's your target allocation? They said, 5%, and we're actually at 12% now. We came out of the meeting and we were in a fortunate situation to be oversubscribed, and I turned to my head of IR. I said, this is not an LP that we can take. We can't take them because the risk that we end up on a list to a secondary buyer was very high. I think that you're going to have that denominator effect with LPs. You're going to have some overinvestment from illiquid VC GPs. I think you're going to have some undercapitalized companies who basically raise money at ever higher valuations and have to keep the thing going. It's this classic, when the music stops, who's going to be left out without the chair?

RAOUL PAL: What stops the music in your world? Is it SoftBank? Because I've— it just looks at me, it's kind of magnetic in its enormity. It's the second most indebted company in the world, which most people don't realize.

$160, $185 billion.

After AT&T.

Yeah. It's— SoftBank is not setting the price for everybody, right? So, there's a silo of the market.

And you're in a very niche area as well.

Yeah, we do some pretty cutting-edge stuff. But look, they're in the satellite business, right? They're a significant player in OneWeb. And we have assets in satellite antennas in a company called Kymeta. I mean, they touch many parts of the market. And they have influence and leverage and have set themselves up that way in an intelligent way, arguably, to try to affect being able to get negative gross margin products from one company to be able to help something else in the SoftBank ecosystem. So it'll be interesting how that shakes out. But I think the thing that really— the catalyst that breaks the camel's back is ultimately going to be a narrative change. Universally talking about the need for profitable growth versus just equity-funded growth. Suddenly, people start shifting and they feel embarrassed to go to LPs and be like, oh, yeah, we're funding these companies and they'll be loss leaders for a while, but then they'll turn on the spigot, turn the knob and then suddenly be profitable. I think it's a narrative change. Now, what causes that narrative change?

Are you sensing any of that narrative change?

No. Today, and I get more and more nervous with every day because more and more capital is being put out. You have a handful of giant IPOs that are going out. Some of them are faring okay, some not so well. We've talked about this in the past, but you've had one end of the spectrum, which Bill Gurley, who I think is one of the great investors in venture in history, who's a real investor. He was a sell-side analyst. He's very smart, very savvy, and he's very grounded and has an appreciation for the history of markets. He has been trying to talk money out of the system for many, many years. He's been appealing to greed and fear, and particularly the fear side. And he's been totally unsuccessful. LPs keep putting money to work. And he keeps saying, look, you guys are going to mess up a good thing, right? And they say, yeah, but we need the returns. Why? Same thing, right? Going out on the end of the curve and trying to hit 7% plus benchmarks. And at the other end of the spectrum, you have people that are raising ever larger funds. And sometimes they say this as a justification. Well, we need to be able to control the fate of our own companies and compete with the SoftBank. And so Sequoia has raised $8, $10, $12 billion funds. And other people are just doing it because, geez, the money's available. And we can get these huge mega funds and have multibillion-dollar funds and have fees. And it's easier to write $150 million check as a growth investor from a pied-à-terre than it is to write a $5 million Series A check. And so, the truth lies somewhere in between greed and fear. And eventually, LPs will say, we've got all these paper marks, we are not going to put any incremental capital until we start seeing returns. You're going to have a flood of VCs who out of fear of not being able to raise money will come to market at the same time. That, I think you are starting to see. When everybody's coming to market at the same time, people are going to say, geez, just on a simple math basis, I'm overallocated. That could be one of the catalysts that people go out to raise money when everybody else— because what the individual does rationally, everybody collectively does irrationally. LPs are like, geez, I'm being hit by 10 funds, I'd love to be in all of them, I got to pick one or two. You start to get a natural discrimination based on either actual performance, personalities, process, whatever it is. Where LPs have to turn down some of the GPs that are coming out to market. And that could be one of the catalysts.

And so, that's in itself a function of liquidity. So, I guess if you're starting to see that, because if I look at the economy overall, there's clearly signs of liquidity issues. I mean, just at a simple level, credit card interest rates are the highest of all times. Extraordinarily, considering where interest rates are, but then when you look at the knock-on effect of of the tightening of interest rates over the last 2 years, we've seen house prices fall, housing fall, obviously, capital goods shipments fall. We've seen— and then the trade tariffs and the Trump stuff is slowing down enormous amounts of CapEx globally now, because a corporation— and this is another thing I think is a tipping point— is if you think of behavioral economics within the trade tariff situation, I'm almost indifferent whether the trade tariffs go on or not, the point being Corporate America, in fact, the corporate multinational world all has to reassess supply chains. So how do the corporates go about doing that? They either— two things. They're either going to wait out Trump and hope he doesn't get reelected.

Right.

OK, but that means no CapEx for another 2 years, a year and a half. Or they hire McKinsey and do all the work about rebuilding supply chains. And do they go to Mexico? We don't know, blah, blah, blah. So it's going to take them 2 or 3 years of no CapEx. So, I'm looking at this, and I'm seeing it everywhere. BASF came out today saying similar things. It's like the world's suddenly been stopped. And it's because of what Trump did with Mexico, the backwards and forwards, yes, no, yes, no. They're like, shit, we can't trust any of this. And with the China, we're going to get a deal, of course, we've got a deal, there's no deal. They're like, well, if we can't trust our own administration, then we're going to have to rebuild our supply chains, the whole thing. Just think that's a really interesting thing.

I think you're dead on. And the net result, whether it is deliberate waiting. Or deliberate analysis is still the same thing. You're waiting a year or two, but you are delaying expenditures.

That's right.

And again, this is why you sit around a boardroom, big corporation, public company, and what do you decide to do? You say, let's buy back our stock. But stock has continued to appreciate, appreciate. Now, there's a big debate about buybacks, buybacks versus dividends. There's a time to buy back stock, but it isn't necessarily at all-time highs of your stock price.

No, when you've got record amounts of debt on your balance sheet as well.

Now, as you rightly said, venture capital is effectively buying call options on the future. The best call option that you can have as a corporation is cash. I think there will be a discrimination when things start to shake out, when you go from that algorithmic dollar in, buy equities, dollar out, sell equities, discriminating companies, corporations, you will see true capital allocation again. Whether that are the active managers, whether those are great corporate chieftains, the classic value guys that are the outsiders. Those will emerge from the tide as it goes out.

You must be sensing an opportunity.

On the special situation side, I am very excited because I have joked that when the cost of capital is as low as it has been, it's like a tractor beam for the future. Take these far 20-year-out ideas, and they suddenly become these 20-month frenzy projects. But when the cost of capital is that low, every company is special, because crappy companies can raise a lot of money. For me, that's a problem, because the labor pool gets thinned out and spares— because instead of having one company that everybody goes to, you have 5 companies that are all competing with each other. And everybody is getting paid more. So again, what the individual company does rationally collectively becomes irrational. So, I think you have a phenomenon where if capital gets scarce at a time when interest rates are falling, which is this illiquidity issue, because the incremental buyer, the marginal buyer is drying up, then you will start to see rationalization. Some of these companies fail, they get absorbed, you'll see GPs taking one company, merging it in with another, creating some false rationalization for why this is happening, but it will have a normalizing effect. As I think about this, talking to you, the same thing that led people in, pushing people out on the yield curve, going into more illiquid things, entrepreneurs seeing the availability of capital, starting businesses, spreading capital and labor thin, raising the price of labor, all that on the upside. I think that the catalysts could be the overallocation to the asset class, LPs saying, whoa, whoa, we have a lot of these unicorns, we don't have liquidity yet, we need to wait. GPs getting nervous and coming to market saying we got to raise our fund before shit hits the fan. A lot of GPs coming out at the same time, LPs having to suddenly discriminate. We'd love to be in all of these guys, but 20 of these guys just came back to market, we can only pick 4. Suddenly, somebody say, oh my God, we just lost one of our key LPs. Now, maybe that LP was a significant portion of their capital base, and it's a negative signal to the rest. That starts to retrench people and maybe they had a billion-dollar fund or $700 million fund and they're going back out to market with a $250 or $300 million fund. The size of the checks that they write, the number of partners that they have, that's what starts to devolve within the venture side. The incremental buyers of all these companies for the price setters, whether it is the SoftBank or the crossover fund, those guys start to peel back as well. And suddenly, you have this liquidity crunch in my private markets.

Yeah, and it's also marginal, right? It's just a small shift at the margin that creates that. The other one that could do that is I still think there's something in these unicorns that have gone public and seeing that if they start all losing money, in terms of the—

The stock—

—public investors, yeah, on the stock market, if they start trading below IPO price, That gives a very big signal to all of the VC firms, the big ones, that everything's mis-marked.

And again, in the quest for yield, in the quest for growth, if people were Fidelity or T. Rowe Price or Morgan Stanley, they were buying pre-IPO shares of companies, because that's where the kicker was. And then the IPO happens. If those guys were the buyers, and they've come pre-IPO, then the incremental buyers are mutual funds, a handful of people that didn't get the allocation beforehand. Maybe some of the retail investors, and you actually are seeing that. You're seeing this rise of these millennials that are these Robinhood investors that are buying into these story stocks. They will, by the way, learn very painful lessons, because generationally, they weren't here for the dot-com bust. Literally, they have no idea, as you said, that you can have a down market, that a company actually needs to have profits or cash flow or an endless supply of capital, which for the past 10 years has been what existed. But you've talked about the European banks. And that to me also, I think whether it's a UBS or a Natixis, I just think that we don't know what the reach of their holdings are. And in the same way that you have these marginal things on the end, with the LP cutting back on a GP who then has to cut back on an entrepreneur in the whole cycle, I worry about the European banks.

RAOUL PAL: Yeah, that's interesting. What's fascinating is I wrote that tweet. Really blew up. And it was just me thinking through and looking at the charts saying, listen, there is something going on here. Still, everybody writes back, well, Deutsche Bank, what it is, is a profitability problem, and you get it back. I'm like, OK, that may be the case. But look at the whole sector. It looks to me that, of course, they've got profitability problems, but there's something bigger going on. I don't know what that is. Well, we kind of know what it is, but how it's going to manifest itself and what's going to turn out. But you're right. If I think of the private wealth management business, Deutsche Bank have been involved in that, but particularly UBS and Credit Suisse. They're huge suppliers of capital to your space and to all the other marginal spaces because that's how they got an edge.

They create pools of capital. Now, we don't actually have fund-to-fund managers from these wealth managers, but yes, they have formed pools of capital, they have done late-stage rounds in illiquid companies, they have done pools of capital that go into funds to provide access. Exactly, you become a client here, we can get you privileged access. So, that whole area of asset managers and the European banks is one that I think probably has very broad reach that is going to have very negative implications.

Here's another thing that I picked up when I went out for dinner with a friend of mine who was working at UBS. He claimed that the average ultra-high net worth customer from UBS, age was 82 years old. I just think of the risk aversion that is inherent in an 82-year-old, even if he is a scion of a big dynasty. Their pain tolerance in a cycle at 82 is very different to their pain tolerance in a cycle at 72 or 62 the last time around.

Yeah, I mean, I would imagine that the vast majority of that capital is into fixed income. And then they do all these crazy structured products where they get very high fees on. That's right. And it's the structured products that I think even 10 years ago were one of the early catalysts.

Now, who's the main supplier of capital in your space?

Is it the pension funds? Pensions, endowments, universities, and then large families.

Because again, one of the things that I've been thinking through over time is the retirement crisis. Yes. Mike and I spend a lot of time talking about. Basically, as far as I can see, pretty much all the capital for everything that we've ever grown up with in our financial industries have all been supplied by the baby boomer savings. And it's coming out. And look, I mean, the hedge fund industry is shrinking, and it will shrink fractionally. There's more hedge fund managers than there were Taco Bell managers up until recently. And so, that has to change. I feel like VC is going the same way. We've probably got another whole cycle to come out of VC.

Well, I think the number of VC managers will be cut in half.

Yeah, but it's probably going to quadruple again.

This is something also Bill Gurley, I think, who I have enormous respect for, said was that the time when you realize that the crisis is happening if you were to stop investing at that point is the time that you made the most amount of money. He would say you realized in '98, '99, or 2000 that the music was ending. The chair, you had to find the chair, but it was the next 6 months where people had like this. Now, that's a fool's errand to try to play that game. At the end of the day, you want to invest in singular companies, singular companies that have some technological edge, that there's no alternative, so you have acquisition value. And then you want to find good fundamental businesses that can actually generate revenue and profits so that you actually have real exit value. And the vast majority of the companies that are being funded today, in many cases, have neither. They either are one of many technological paths, which means ultimately, they have no leverage in a sale, or they're horrible businesses. And again, we talked about this where the difference between today and 20 years ago is that all these unicorns have revenue, but it's really unprofitable revenue. And I think people are massively overestimating the idea that you're just going to turn the knob and these things are going to become profitable.

Josh Wolfe, thank you very much. I just wanted to pick your brain, see what you think. Awesome to be with you. I just think it's interesting to see how these things cross over because your world has grown so much larger and is a much, much larger part. And it's kind of eating the hedge fund world, which was my old world. And it's going to face similar problems that we've seen, that the contraction expansion liquidity to manage is really difficult in itself. I just want to see what signals he was seeing. I think it's—

Everything is interconnected. It is not always obvious until in hindsight, but these large 5 indebted corporations are at vulnerable risk of disruption from upstarts who might be unprofitable, who in turn are being funded by this marginal price setter that is massively indebted, who's trying to price up these paper assets to serve as collateral. Everything is connected, and we won't know until it all ends.

No, but we do know that— that I think that this liquidity monster has reared its head. It's something that you've talked about, I've talked about, Mike's talked about, and a whole bunch of people have talked about. And it feels like the genie's out of the bottle now, and that something is happening. And that tends to have a knock-on effect. It tends to be— it's like a disease, or it's like a virus, and it spreads and grows and feeds on itself.

Well, the one signal there, which is the contrarian indicator— and sometimes it'll be true, most of the time it won't. Is when somebody says, oh, no, no, it's contained. We don't have an issue. And that was the case with H2O. It's the case with Deutsche Bank. And it's almost, in hindsight, never the case that it's actually contained.

Perfect time to stop. Brilliant, Josh Wolfe. Thanks so much.

Great to see you, man.