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Yesterday evening I had dinner with a good friend of mine who is a world renowned cardiothoracic surgeon. I asked him if he followed a framework when dealing with each patient and he brought up the subject of #differential diagnosis. At its core, differential diagnosis is a method used to identify a disease when alternatives are possible while utilizing a process of elimination. A doctor will assess a patient in context (symptoms, patient’s history) and taking into account medical knowledge, go through a decision tree, starting from most likely diagnosis, eliminating each alternative until the right diagnosis is reached.
There are two approaches to differential diagnosis. The specialist and the generalist approach. The specialist approach – used by a surgeon for example &8211; utilizes a sharp shooter technique, selecting from the most likely to the least alternative, one alternative at a time. The specialist approach is narrow and deep. The generalist approach &8211; used by a family doctor for example &8211; utilizes a broad brush technique, also selecting from the most likely to least likely alternative yet considering a group of alternatives together. The generalist approach is broad and shallow (and I do not mean this in a negative way).
Medical doctors have to learn an incredible amount of historical knowledge and then have to practice extensively in live conditions, in hospitals, before becoming experts in their fields. The body of knowledge at their disposal does not change markedly &8211; it is not like we are inventing new diseases, ailments, different ways of breaking a bone on a regular basis. The medical tools, medical drugs at their disposal, and the medical techniques do change. So there is a constant “on the job” training occurring.
The framework I use in #venture #capital strikes me as eerily similar to differential #diagnostics. First, I am a specialist venture investor as I only invest in #fintech. It goes without saying that I need to develop a very deep understanding of the financial services world in order to be effective at my job. Without explicitly knowing &8211; it until now &8211; I have developed a sharp shooter approach, akin to the one used by my surgeon friend, that allows me to very quickly assess the merits of a payments startup for example. For each of the five sectors that comprise fintech &8211; lending, capital markets, insurance, asset management and payments &8211; I have a top 10 of &8220;things&8221; I look for for which the presence or the absence are a deal killer. I rarely need to go past thing 3 or 4.
I use the sharp shooter differential diagnostic approach when I first encounter a startup. it is a way for me to eliminate the noise and get to the signs fastl. If I am still interested and impressed past this first stage, I will switch to a generalist differential diagnostic approach where I bunch groups of &8220;things&8221; and attempt to figure out, holistically adds systemically, patterns I like/do not like or that make sense/do not make sense, repeating the process until I eliminate the startup as a potential investment or I confirm my initial positive signal.
Much like my surgeon friend who has to go through thousands of cases per year to hone his skills, I go through approximately 1,000 business models per year. This is the material I need, along with historical knowledge base I built over the years &8211; a mix of theoretical knowledge and many years of practice as both an operator and investor &8211; to keep current. The number of business models does not change at the margin that much, the number of ways a team should be built, how a startup should be scaled, a board should be architected &8211; all the business aspects of building a business &8211; do not vary that much. What changes are the the technologies and how they are applied to specific business models. So I need to constantly learn that aspect to stay ahead.How AI, quantum computing, AR will be applied to fintech are my learning curves.
I continue to apply both differential diagnostics frameworks during the lifetime of an investment, constantly toggling from one to another.
I believe the best VCs are good at differential diagnostics. Not only because they master the framework and have built their own heuristics in their particular domains, but because they also know when to switch from sharp shooter to generalist differential diagnostics. That is a crucial skill. I also believe top VCs are more adept at applying differential diagnostics in context. By that I mean that &8211; taking a fintech example &8211; a US payments company may need a different sharp shooting approach than a EU payments company, while one may need the same generalist approach for both. It all depends on nuances relating to culture, jurisdiction, consumer/user behaviors, market structure. I tend to call these nuances &8220;terroir&8221;. Yes, I like wine. Knowledge of terroir will help you choose the right differential diagnostics approach at the right time, and load the right decision trees.
I also believe specialist VCs have an edge over generalist VCs. To be clear, both need to master the two differential diagnostic techniques. The specialist VC will always have an edge with the sharp shooter technique given the required deep knowledge she needs to operate in only one field. This is especially important considering the changing VC landscape is currently experiencing: the rise of crowdfunding and angel investing on one end of the spectrum and that of corporate VCs, sovereign wealth funds, mutual funds and large PE funds on the other end of the spectrum may force traditional VC funds to specialize in order to retain an edge. Specialized VCs may be the way of the future.
I am also well aware that medical doctors have an edge over venture capital investors when it comes to track records. On the evidence, declining mortality rates and improved longevity beat hands down VC-backed startup survival rates. This means that even with the best differential diagnostics tools and the most astute and timely ways to apply said tools and make a decision, venture investing is an extraordinarily difficult business to succeed in. There is much literature attesting to this fact. VC investing and startups building are ruled by power laws.
I do not pretend to disprove nor fight this fact. What I do is try to refine the odds ever so slightly. For me this means to always have #Zebras in mind.
Theodore Woodward, a 1940s professor of medicine coined the aphorism &8220;When you hear hoofbeats, think of horses not zebras.&8221; He meant that if you diagnose something &8220;normal&8221; applying your diagnostic tools, there is a great chance it is indeed a &8220;normal&8221; thing and not something else, something &8220;exotic&8221;.
This works well in the medical field. Not so well in venture capital.
Hence, if there is one thing that keeps me up at night, it is Zebras. Due to the unfathomable emerging properties of large systems, venture investing breeds many more Zebras than horses, even though you may have correctly diagnosed a horse from the beginning. By that I mean that you may start with a horse, but due to unforeseen circumstances, you end up with something else, a Zebra. Very few Zebras end up with positive outcomes. The great majority of Zebras experience neutral to negative outcomes.
Thusly it is imperative to be paranoid about Zebras. I endeavor to excel at differential diagnostics which is a necessary requirement but not a sufficient one. Additionally I try to take risks I can measure in ways that attempt to mitigate negative Zebra effects. I shy away from entrepreneurs and startups that open themselves to fragility. I favor entrepreneurs and startups that strive to capture optionality and build antifragility. This means favoring entrepreneurs and startups that exhibit the right mix of #technology, business and talent (the necessary requirements) AND that will thrive during volatile business conditions OR that do not include business variables whose rate of change increases negatively as business conditions fluctuate. Examples of fragility would be a cost of acquisition that increases as the startup increases traction, churn that increases the more clients are acquired, a loan default rate that increases as interest rates increase, a technology build that increases in complexity even as the startup matures. I picked up fragility and antifragility concepts from Nassem Taleb, and encourage anyone involved in investing and startups to read his work. Much more could be written about how one can apply antifragility thinking to startup investing; for another post maybe.
In as much as I apply differential diagnostics techniques to scrutinize the form and substance of a startup, my Zebra heuristics helps me understand the likelihood such form and substance will behave positively in dynamic situations. Not a perfect approach for sure.
The best VCs excel at diagnosing the right horses then shunning the patently negative Zebras. This still leaves the field wide open for a variety of surprises.
Institutional vs. Crowdfunding: Why Institutions Trump “The Crowd” When it Comes to Raising Growth Capital
I am a big proponent of #crowdfunding. Unfortunately, equity crowdfunding is still experiencing the growing pains of a nascent industry. That does not mean the promise of crowdfunding as a better, more efficient means of #capital formation remains unfulfilled. I am yet hopeful the future is bright, particularly when itRead More
#Banks only care #about millennials, right? Not really, though marketing about digital efforts may make it appear that way. Yesterday #Capital One, a leader in digital #banking, joined OATS (Older Adults #Technology Services) in launching‘“Ready, Set, Bank: #Online Banking Made Easy,’” an educational tool designed to increase online banking usage among older adults, enabling themRead More
#Capital One will be the fifth bank to go live with #realtime peer-to-peer payments on the clearXchange #network, it was announced this morning. Capital One 360 customers can currently receive realtime payments from other #banks in the network, which now includes Bank of America, JPMorgan Chase, U.S. Bank, and, most recently,Read More
With adversity comes opportunity.
FinTech – Finance Magnates | Financial and business news
#Blockchain, artificial intelligence (AI), machine learning and Big Data will transform #capital #markets, according to #German #stock #market #operator Deutsche Boerse. It urges established financial infrastructure players to start approaching #fintech firms and consider partnering with these innovative ventures.
In a new report entitled ‘Future of Fintech in Capital Markets,’ Deutsche Boerse, in collaboration with fintech research and advisory firm Celent, analyzes the potential impact of fintech on market infrastructure incumbents and highlights the opportunity for providers in partnering with these new innovative ventures.
According to David Easthope, senior vice president and responsible for the securities and investments practice of Celent, pioneering fintech firms are transforming major parts of the financial services ecosystem. He urges incumbents and fintech firms to start pursuing a collaborative approach, arguing that fintech will mostly likely shape the future of capital provision, #technology, and other industry workflows.
In 2015, about US$ 19 billion in capital was invested globally in fintech across approximately 1,200 deals, highlighting the general appetite for financial services disruptors.
The report points out five capital market fintech clusters and technologies:
Blockchain technology and distributed ledgers have the potential to substantially change the nature of issuance, and potentially enhance exchanges&8217; role in price discovery, access liquidity, reduce frictional costs and offer a path to a more efficient core market infrastructure.
Post-trade digitalization: firms are looking into Big Data, AI and advanced analytics to process and create compliance and regulatory reporting. Regulatory technology (regtech) is an opportunity for incumbents to improve their operational efficiency, reduce systemic risk, and provide additional revenue-generating opportunities.
Machine learning, predictive analytics and Big Data technologies, will impact capital markets by providing tools to mine data across the value chain. New methods of data delivery and tools for insight and prediction will allow firms to make better decisions around allocation and risk, and investors to gain access to next-gen index products, ETFs, as well as other innovative trading and investment products.
Investment technologies, including automated investment management tools or #robo-advisors, are gaining relevance as the industry continues to shift towards automation in asset allocation and rebalancing. On the retail side, customers are shifting to cloud-based digital solutions that are accessible in terms of pricing as well as usability.
Alternative funding platforms and peer-to-peer business models are reshaping traditional channels for equity and debt capital formation, opening up new networks for accessing capital. Financial market organizations can capitalize on this trend and provide new solutions to the financing and funding market.
As trends in digitalization accelerate, established technology firms and market operators will need to collaborate with new business models and innovative technologies.
&8220;The financial market infrastructure provider of tomorrow will have leveraged its leadership in regulation, market structure, trading, clearing, and settlement to guide startup fintech firms in the journey towards creating an effective and safe capital market for the twenty-first century and beyond.&8221;
The report was released simultaneously with the announcement of Deutsche Boerse Group&8217;s new corporate venture capital platform, DB1 Ventures. The team, based primarily in Frankfurt, said it will invest in early to growth stage fintech firms and manage the group&8217;s existing portfolio of investments.
According to Carsten Kengeter, CEO of Deutsche Boerse, the idea behind DBI Ventures is to allow the group to continue on being an active investor in the space. DBI Ventures will primarily focus on ventures and products that &8220;are core or adjacent to our client, product, geographic and technology strategy,&8221; according to Kengeter.
Committed to keeping up with emerging fintech trends, Deutsche Boerse has been involved in the space via various means. In April 2016, the group launched its Fintech Hub in Frankfurt, an initiative aimed at acting as a cluster for German financial innovation.
Deutsche Boerse is also an investor in Digital Asset Holdings, a developer of distributed ledger technology for the financial services industry. In November 2015, it invested in Illuminate&8217;s IFM Fintech Opportunities Fund, which focuses on areas such as compliance, regulation and connectivity.
In July 2015, Deutsche Boerse acquired forex trading digital platform 360T for 725 million euros.
Featured image: Deutsche Boerse by Jochen Zick, Action Press, via Flickr.
A new #survey estimates that finance companies will invest as much as $ 1bn on #blockchain initiatives related to #capital #markets in #2016. Billion in 2016 fintech" src="http://feeds.feedburner.com/~r/CoinDesk/~4/R_NKI8fP4Lo" height="1" width="1" /> Billion in 2016 photo" alt="Survey: Blockchain Capital Markets Spending to Reach src="http://feeds.feedburner.com/~r/CoinDesk/~4/R_NKI8fP4Lo" height="1" width="1" /> Billion in 2016 fintech" src="http://feeds.feedburner.com/~r/CoinDesk/~4/R_NKI8fP4Lo" height="1" width="1" />
Working on Wall Street has always been a hazardous profession, especially for those in the front line of the business, the traders. Market risks, volatility, and uncertainties, are the stressors for traders and those allocating #capital and managing risk. This is the nature of the business, the #markets, whether currencies, stocks, bonds etc. This will…Read more #Regtech in Capital markets & #Investing