A few months ago I was reading the book Welcome to Hard Times from one of my favourite writers, the great E.L.Doctorow, which narrates the hard life of the first villages in the Wild West to be created in the midst of a gold rush. Many people came called by the possibility of finding gold, but really the chances of that case were very low and the risks were very high. At the same time, the book describes the lives of some of the “service providers” of these mining settlements: the supply depot, the saloon, the blacksmith, and so on. In a passage from the book, one of the miners complains that all the money he earns from extracting the gold is spent on supplies and “entertainment” …
These service providers manage to square the circle: to have a recurring income and limited risk (not counting those of operating in the wild west, of course) in a sector with very high risk as was the gold seekers. Is this example extrapolable to our days? Can a product or service be designed for a high-risk sector and limit at the same time the exposure to that risk? Is it possible to enter a volatile sector and achieve a stable income?
A priori it seems difficult because profit and risk are intrinsically related but if we look more closely, all sectors with a lot of risk have niches of moderate risk that surely will not have the potential returns of the sector but that can be a growing source of income. Let’s look at some examples:
- Crypto currencies
Possibly one of the most volatile and risky sectors of the moment. The bitcoin was worth $958 in Dec’16 and in 12 months it became worth $19.343, that is to say, it revalued an awesome 1.919%! it is currently at $6.500 which means that in 10 months it has lost 66% of its value.
This is a scenario where any product associated with the value of bitcoin will have a very high risk. But there are services that the cryptocoin sector needs to operate, such as the flourishing business of mining gear suppliers or, in other words, the IT infrastructure to mine bitcoins. They are the updated version of the supply sellers for the old gold prospectors. Fluctuations in the value of bitcoin are well cushioned in your profit and loss account as many of your revenues are fixed tariffs. As long as there are bitcoin miners, their services will be needed. They have managed to isolate the risk of their customers from their own and believe that the market will recognize it so some of them are already preparing their IPO as Canaan and Ebang. They are undoubtedly successful companies such as Bitmain which is estimated to have annual revenues in excess of $2,500mill.
Once again a sector with great dynamism and high risk. Today e-commerce is very well established but still has very high failure rates (some place between 80% and 97%). The growth in this field is expected to be very accentuated especially by the irruption of purchases through mobile (m-commerce), which according to some studies could account in 2021 73% of all e-commerce.
However, there are services intrinsically related to e-commerce that are independent of the success or failure of the business, such as, for example, payment services. This is one of the most successful sectors nowadays. They are companies that offer payment platforms for web and mobile applications. The big internet companies such as Amazon, Google or Paypal already have platforms of this type but there are a multitude of new players that are innovating in these services such as Stripe and Square in USA or PayU and LemonWay in Europe.
Again the plan is simple: to obtain regular income through commissions in a market with high volatility.
If someone is thinking of entering a high-risk sector but limiting those risks, here are some tips:
- Study the value chain of the sector identifying the different players.
- Identify the risk drivers. In the case of bitcoin, it will be price volatility, as well as limited liquidity.
- Seek support services that depend as little as possible on the success or failure of companies. These will normally be infrastructure activities but may also be start-up consultancy or start-up services.
- Design an income structure with a majority percentage of fixed and a minority of variables depending on market evolution.
Evidently, they are common sense advices that will depend on the bargaining power to meet them, but the conclusion to these reflections would be that you should never rule out a high-risk sector or market a priori because there are niches in all with limited risk.