In response to inflation, central banks have raised key interest rates. In June, the US Federal Reserve even announced the largest interest rate hike in almost 30 years. Shortly thereafter, further major interest rate hikes were discussed. Higher interest rates make venture capital less attractive than other asset classes, and so, after reaching a record high last year, the VC business climate has declined for the second consecutive quarter. The business climate indicator fell by 26 points to -18.5 points. Business expectations have deteriorated even more sharply than the business situation. The indicator for the current business situation fell by 20.6 points to -7.6. The indicator for business expectations lost 31.4 points to -29.4 points.
"The VC business climate continued to cool in the second quarter of 2022. Markets have been surprised by the consistency and strength with which the Fed is now implementing its interest rate turnaround,"
says Fritzi Köhler-Geib, Chief Economist at KfW.
"This has put pressure on fundraising and valuations in the VC market. As long as inflation rates remain high, there may always be moments when central banks' interest rate hikes deviate from expectations and lead to market fluctuations. Uncertainty in the VC market will therefore remain high in the short term. But even if the uncertainty subsides, deal volume will likely fall short of the exceptional year of 2021. However, based on current knowledge, a crash is also unlikely. Fundamentally, we are in the transition phase from a 'hot' to a 'cooler' market."
VC business climate: Second-largest decline after Corona
Following the coronavirus shock, the second-largest decline in the fundraising climate to date was observed in the second quarter of 2022. In contrast to the V-shaped slump followed by a rapid recovery in 2020, KfW does not expect such a rapid return to a positive VC business climate.
On the one hand, analysts expect declining company valuations in the startup industryThis can lead to more favorable entry opportunities for investors. On the other hand, investors anticipate difficulties raising new funds and may therefore try to stretch their existing funds over a longer period or use them to stabilize their existing portfolios. Further interest rate increases are also to be expected if inflation rates remain high. Given these uncertainties, some investors are already hesitant to invest further. According to KfW Research, investors are talking about "extended summer holidays." Analysts therefore expect a more noticeable slowdown in investment activity in the third quarter.
Given the uncertain market environment and declining company valuations, the exit climate has cooled significantly: For the second consecutive quarter, the corresponding indicator has dropped by more than 50 points. IPOs are particularly unattractive at the moment: The last time there were as few IPOs of VC-backed companies in Europe and the US was in 2009.
