Rates of return for crowdfunding portfolios: theoretical derivation and implications

Paul Vroomen and Subhas Desa

Venture Capital, 2018, vol. 20, issue 3, 261-283

Abstract: Crowdfunding (CF) is emerging as a fast-growing new class of private equity investment. But research on the rates of return that CF investments should yield is sparse. In this paper, we analyse CF investments from the perspective of an investor that exhibits non-satiation behaviour (seeks the maximum return for a given investment risk). Using internal rate of return (IRR) as the return metric, we apply modern portfolio theory, efficient market theory, the Central Limit Theorem and historical returns data for three private equity asset classes – equity funds (1112 funds), venture capital funds (1,474 funds) and Angel investments (1137 exited investments) – to find the efficient frontier of the private equity market. Applying the efficient frontier to CF investments enables us to show with 99% confidence that the target IRR for an efficient CF portfolio is at least 28% if the CF asset class is 10% riskier than Angel investments. We further show that the set of companies that qualify for CF collapses to that small subset that can achieve the revenue growth, and/or can accept the capital structure required to achieve the target IRR.

Date: 2018
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DOI: 10.1080/13691066.2018.1480265

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