A sea of venture dollars, but none for me? That is the common refrain we hear from CEOs lately.

The headlines seem to be full of stories of companies getting funded. In our conversations with private equity and venture capital investors they all say they are actively looking for deals. But almost every company we speak with is struggling to raise their next round, or at least finding everything moving slowly. Why the disconnect?

On the supply side, we entered the current Uncertainty with venture investors sitting on record piles of capital. For the moment, capital is still cheap. Even before world governments started the prrrinting presses, the world was awash in excess savings looking for yield. Much of that has gone into the stock market, especially in the US which now boasts record highs sitting on record valuation multiples. But a few percentage points of those dollars eventually end up in venture funds. The IPO window is wide open. Investors have capital and they have visibility to exits. Historically, such conditions mean the venture dollars should be flowing freely.

However, dig a little and it is clear that there are really two types of deals being done – those that were in the pipeline prior to the lockdowns and those companies that have a direct play on treating Covid.

We think the disconnect can be explained by three factors.

First, no one knows anything anymore. There is so much uncertainty that making decisions has become increasingly hard, which leads to conservatism or at least delays in decision making. Jeremy Liew at Lightspeed Partners had a great tweet stream about this a few months back highlighting the very human factors around the slowdown in venture investing. As we mentioned in our last piece, there are plenty of possible outcomes which dictate conserving cash as we await greater clarity on some of the big issues facing the economy. This will work itself with time, maybe a lot of time.

Second, there is a big shift underway in investing themes. Some of these are straightforward, some require a bit of unraveling. Perhaps the biggest of these is renewed interest in biotech investing. This is beyond our scope here, but there is a finite pool of venture dollars out there, and the people allocating those funds are likely shifting some of those dollars away from tech to biotech, or as we like to say.

Even within tech there are some big changes taking place. Foremost, gaming has suddenly become investible again. We wrote about the gaming opportunity for venture investors almost two years ago, and that trend is finally coming into its own. Our friends at Konvoy were way ahead on this trend and are doing incredible work. More recently, VC giant Andreessen Horowitz has joined the party. It should be obvious that we are going to spend a lot more time online and games will be a major part of that entertainment platform. Other ‘hot’ categories include video conferencing and remote productivity workflows.

To some degree, venture investors are late to the party on these trends. This is not a knock on them, almost no one saw how bad this would get. Our point is merely that investment themes are changing, there are many industries which will fall out of favor and news ones will rotate in. And even within many categories which should benefit from increased online time, the economy is taking its toll. For instance, digital advertising is going through a deep depression as consumer demand weakens, lessening the ROI for ads. Same goes for online-to-offline consumer delivery. These sectors will emerge much stronger, but they were crowded before the downturn and there a culling is coming. Any smart investor is going to take time to see how things shake out before placing bets in these kinds of spaces.

The third factor is the glut of early stage funds. This problem predates Covid by several years, but it is likely that the economic slowdown will force a lot of changes here. The big issue is the wild growth of early stage funds over that last ten years. The Bubble twenty year bull market for technology has created thousands of Angel and Seed investors. These often consist of people with successful exits or others who had that winning combination of right time/right place/right skills.

This has driven incredible innovation, a Cambrian explosion of experiments. As Ben Evans often says Silicon Valley is a machine for conducting experiments, and these funds have played a big roll in enabling this.

However, one side effect of this is that there are now many more early stage deals. And while there are more later stage funds, there are not enough to take up all the deals. Very rough numbers, in 2019 there were probably twice as many early stage companies looking to raise their first Institutional Series A round as there were a decade ago. This caused a slowdown in decision making at those Institutional funds that was noticeable five years ago. The headlines numbers mask this, as there were record numbers of deals closed. but we suspect the ratio of pitches heard to deals funded by the large funds has skyrocketed. No one really tracks that ratio, but anecdotally investors we speak back this up.

Once upon a time, the big problem for venture investors was access to ‘deal flow’, seeing as many companies as possible. For many years, the problem has not been raw deal flow, but access to the hottest deals. When times were good, the angel investors crowded out the large funds in tapping the best companies at the best valuations. There was a time when many people were questioning the future of the big firms. But notice those kinds of headlines have been absent from the press for quite a while.

It is unclear how this will shift, with theories ranging from ‘the economy is the meteor slamming into that Cambrian explosion’ to ‘opportunity abounds’.

Our best guess is a mix of those two. The slowing economy is going to hit investors, just like it is going to hit everyone else. There will be a shake-up. But there will also be people who build their career on making the right bets in this environment, and catapult their fund into the top tier, just as we saw in 2003 and 2008.

The hard part will be for companies navigating this. In our experience, the early stage funds invest largely through ties to a CEO’s personal network. As the economy shakes up the investment community, those personal networks will change. This likely means companies are going have to work a lot harder in raising money, kissing a lot more frogs.

Again, our message here is not ‘doom and gloom’, but instead is: do not stop opportunity is there, but budget a lot more time to raise money.