Wednesday, September 19, 2007

A herd of VCs

Interesting research from Ward van den Berg at Erasmus University Rotterdam, on herding behaviour among private equity and venture capital investors. Cyclical behaviour and investment waves are well known among such investors, a phenomenon that van den Berg ascribes to incomplete information between rival firms.

According to the university's press release:
Van den Berg uses three models to describe how acquisitions seem to prompt each other. The announcement of a takeover and the initial bid awake the interest of a second party, and this already can drive the price up to a point that stops this second party from taking part in a bidding war. An investment in a buyout can also unveil information that other financiers use in their own investment decisions. This attentiveness to the behaviour of others can lead to a wave of private equity investments. Finally in the consolidation of a branch of business the value of every successive takeover candidate increases, to the extent that more companies have been bought up. This too leads to a new wave of investments.

In short, VCs see other investors chasing a new technology or market opportunity, look harder for companies in the same area, and valuations spiral. That certainly seems to fit some observed behaviour - arguably, we've been seeing something similar in the clean energy sector in the past couple of years.

There's more information on van den Berg's work at his university site.

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