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The SEC is considering a revamp of investor accreditation laws.
SEC Chairman Jay Clayton said he ultimately wants to increase opportunities for retail investors to invest in private companies. This desire “came from doing the job and recognizing that for retail investors the opportunity set beyond the public market is pretty low and pretty costly. And pretty risky, but people want that.”
This is a fairly big shift in thinking from the nation’s most important securities regulator. Historically, private investment offerings in startups and private businesses have been reserved for accredited investors (those that meet certain income or wealth thresholds).
As I have said for awhile, the current investor accreditation laws are ridiculous and go against everything our democracy stands for. The law prevents majority of Americans from investing in the best (and riskiest) investment opportunities. In other words, you can only increase your odds of obtaining wealth if you are already wealthy — literally, the rich get richer written into law.
Jay Clayton made a point to say that any changes to accreditation laws would not reduce investor protections, but rather focus on increasing non-accredited investors opportunity to invest in private companies. If changes occurred, here are aspects to think about:
Private market funding would increase — The private market is overflowing with capital already. In fact, more than $1.7 trillion was invested in the private market last year. Any new market participation by non-accredited investors would simply compound this trend.
Valuations could continue to rise — Company valuations are driven by supply and demand. The more investor demand, the higher the valuation of a company. By increasing the number of investors in the private market, it shouldn’t surprise anyone to see private company valuations continue to rise from their already inflated levels.
Entrepreneurs would benefit — If the private market has more capital available, founders are able to fundraise on more advantageous terms. This access to cheaper capital should benefit the best teams and companies, while empowering the bad companies to survive longer than normal.
Non-accredited investors would need to acclimate themselves — Investing in the private market is quite different than investing in the public market. For example, private market investors have less access to information. In the public markets, companies are required to periodically release specific pieces of information to investors. In the private markets, companies are NOT required to do this. This leads to private market investors having to make investment decisions based on less information, which leads to higher risk.
Fraud would likely increase — Bad people usually do bad things when they gain access to new pools of capital. This shouldn’t stop the SEC from revamping the accreditation laws, but it is something that they should be aware of and work to mitigate.
Public markets would suffer — The public market is already seeing less companies go public, but changes in accreditation laws is likely to divert capital from the public markets as well. The impact would be minimal at first but I could see it becoming a concerning trend over a multiple year timeline.
Private company creation would explode — An increase in cheap private market capital would incentivize more entrepreneurs to start companies. This increase in company creation would likely follow the traditional success and failure trends, but could ultimately breed a stronger economy.
Any change in investor accreditation laws that benefit non-accredited investors would be a net positive to US securities law. The current law prevents true wealth creation for majority of Americans, which goes against everything our country stands for. Additionally, these changes could be made in such a way as to increase investor protections, while opening up new private market opportunities.
A knowledge-based accreditation system makes the most sense to me. Rather than basing accreditation on wealth status, regulators should devise an investment test that investors are required to pass before they are given the chance to invest in riskier investment opportunities. Knowledge is power and wealth is a horrible signal for intelligence.
If non-accredited investors are empowered to invest in private market opportunities, I would anticipate an increase in crypto token sales as well. This increase would (1) be driven by access to new capital and (2) allow token sales to fundraise from a greater group of investors, while still maintaining full regulatory compliance. Again, increasing capital inflows into the private market, while protecting investors, should be seen as a net positive.
We have prevented the average American from investing in the greatest wealth generating investment opportunities for decades. It is time we roll back this regulation and get back to empowering everyone to realize the American Dream.
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