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Portfolio Allocation: Diversification vs. Concentration Strategies Unpacked

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Episode Summary:

In this episode, Maxine Minter and Cheryl Mack delve deep into the essential considerations of portfolio allocation, focusing on diversification versus concentration in early-stage investing. They explore the concept of portfolio construction, risk management, power law dynamics, and the importance of strategy in maximizing returns while mitigating risks.

Key themes discussed include the spectrum of diversification, the impact of concentrated investments, the role of informational asymmetry in decision-making, the power of outliers in generating alpha, and the influence of expertise and thesis investing on portfolio performance.

Key Takeaways:

  • Portfolio construction is crucial in early-stage investing to manage risks and optimize returns.
  • Diversification versus concentration impacts the average quality and performance of a portfolio.
  • Specialized first and second funds tend to outperform, emphasizing the importance of focused investment strategies.
  • The power law concept highlights the significance of outliers in driving fund performance.
  • Investors must strike a balance between diversification and concentration based on risk tolerance and investment goals.

Notable Quotes:

  • “Thinking about building your investment strategy and what is the right level of risk tolerance is essential for successful portfolio construction.” – Maxine Minter
  • “The power law is king in the investment landscape, emphasizing the impact of outliers on fund perf

Transcript:

This transcript has been A.I. generated.

Cheryl Mack: Okay. Three, two, one. Hey, I’m Cheryl.

Maxine Minter: I’m Maxine.

Cheryl Mack: This is First Check, part of day one, the network dedicated to founders, operators, and investors.

Maxine Minter: If you want to be a better early stage investor, this is the show for you.

Cheryl Mack: So TLDR, if you don’t want to suck at investing, listen up.

More

We are here today to talk about portfolio allocation, and we are going to make arguments about diversification versus concentration. I love this topic. Uh, I talk about it at the First Believers. Uh, session, um, almost every cohort and I am super excited to get into it with you, Maxine, because I know that you’re going to have some, uh, unique perspectives as well.

Yeah, I can’t wait to get into it. I don’t know that my perspectives are particularly unique. I think of them as like fairly vanilla, very much the vanilla bean of the food world, but I do think it’s a really important consideration for folks. Regardless of whether you are thinking about becoming an investor, just starting out on your journey all the way through to even fund two, fund three, you know, seasoned investor thinking about diversification, how it shifts over time.

The various factors of diversification, I think is really exciting for thought. So, um, excited to dive in on another one, one on one series. So what is diversification? Do you want to educate us a little bit about what you think about when you hear diversification?

Yes, absolutely. I think it’s such an interesting topic because a lot of people start angel investing and start their investing journey with like very little thought as to like what is the strategy.

And this is something that typically comes a little bit later for most people where they’re like, Hey, I’ve made a couple of investments. Now I’m going to start to think about how I want to create a strategy around what I’m going to invest in when, where, how, how much. Later on. So if the listeners get nothing out of this conversation, but to think deeper about this earlier than I think we’ve done our jobs, um, but diversification is essentially like how many investments you make across your portfolio and for some people, that’s a lot.

Like diversity could be just one or two. We call that more concentration. Uh, but either way,

who is that, that’s a diversified strategy,

but the concept of like, what does your portfolio allocation look like? Could be like, yeah, my diversity is three companies. Wouldn’t recommend and we can go through the reasons for that, but all the way to like, you know how do you allocate to like five or six hundred companies and In general like you have a portfolio, right?

You have a portfolio an amount that you are willing to lose in this asset class. I and Then you need to decide how to spread that out, whether it’s across stage or whether it’s across different types of companies or whether it’s across like different numbers of companies. There’s so many ways that you can create diversification or concentration if that’s your jam.

Um, and so, yeah, that’s basically what we’re going to talk about today.

Maxine Minter: Amazing. I wonder if it’s useful to go into portfolio construction, like what that means, because that is an important, I think, foundational concept before we think about diversification slash concentration as a portfolio construction question.

I wonder that that’s a helpful place to jump off. When I think about portfolio construction, essentially what that means is who, how many, and over what kind of various vectors do you invest in companies? Right. There are like, if I zoom all the way out, there’s a portfolio construction question, which is like what asset classes, right?

Cash being an asset property, being an asset, you know, in various forms of forms of managed investments, be they your superannuation fund all the way through to investing in a manager. And then there might be a manager for here being like a VC fund and then, or a private fund or something else. And then there might be.

Those like direct investments you do either a company that you build, which is in one way and investment you’re making through to companies that you invested directly by syndicates or by other directors of investment. So there’s the kind of portfolio construction across asset classes. There’s portfolio construction within each asset class.

So how many positions you buy, what the nature of those positions are, and why you have selected them. The geog geography of those positions, et cetera. I think there’s also, this is helpful to name, like, why is diversification even a consideration when you’re thinking

Cheryl Mack: about portfolio construction? I think it’s also helpful to think about, like, why is it important to think about this?

Like, why can’t you just jump in and go ahead? Yeah. Because when it comes to this type of strategy, particularly when you think about, well, what What does my portfolio construction look like within this asset class? It can be really important to think about it in terms of like, well, if you’re actually trying to set goals for how you want to build wealth in this asset class, or if your goal is to like learn, those are two very different things.

It can also be important for setting expectations. Like I think a lot of people go into angel investing or like they hear that I’m an angel investor and they’re like, Oh, Oh, you must have, you know, you must be investing in the next Facebook. And of course, I think every investment I make is going to be the next Facebook.

But the reality is that, like, that’s just not the case. And we’ll talk about power laws in a moment. I think expectation setting is a really important piece of, like, why you would want to think about portfolio construction. And a couple of it is, I think, like, also accountability, like just keeping yourself accountable to what you’re, what you’re looking to do across your portfolio.

Um, and then also managing risk. We operate in a very risk filled environment and our jobs as venture investors is to manage risk and find ways to mitigate risk. And we’ll also talk about that in my analogy for having children as well later.

Maxine Minter: I cannot wait for the analogy, the children and the precipitation, uh, as it applies to family construction, amazing and probably relevant to more people than portfolio construction, to be honest.

Uh, but I do, I think that that risk piece at the end is a really important one to highlight. I feel like there are threads of this that come up when people are like, well, isn’t it just betting? Like, isn’t it just luck? Like investing is just a luck game. There’s no skill, et cetera. And this is one of the really valuable elements of skill, right?

It’s being thoughtful about construction, but construction is a way for you to manage the risk you are exposing yourself to. It’s a recognition that in, especially in early stage, but also in most Uh, company investing, but yet unlisted. So venture capital and private equity through to listed positions, you’re exposing yourself to a bunch of vectors of risk that you can’t control.

And one of those vectors of risk, you know, they can be anything from like geopolitical risk, location risk, right? If you were invested in companies in Israel right now, it’s really, there’s a whole bunch of thick headwinds that they’re facing that completely outside of their control. If there are also vectors around industry.

You know, for example, if you invested in a company in the services industry that required, let’s say a co working space in 2018 or 2019 come 2020, like there’s nothing you could do about the fact that your demand side just disappeared overnight and didn’t come back for two and a half years. And so if you had, you were consolidated all on, you know, businesses that had in person elements, you would have had a complete wipe out of your portfolio in a way that would have been.

You know, completely outside of your diligence control, et cetera. So we build in diversification into portfolios to manage for the fact that there are a whole bunch of risk factors that we don’t control. And so what’s really important when you’re thinking about portfolio construction, I think this is particularly relevant like thesis, non thesis investing.

thesis investment strategy is essentially a consolidation strategy, even if you invest in a bunch of companies in that thesis, or it can be. And so I think for a lot of angel investors, I hear thinking about like, Oh, where can I particularly add value? Where can I, where do I have a unique insight? I don’t hear them talking in equal effort around like, and what does that mean?

I’m taking on in terms of consolidation risk in a particular stage or industry or around a particular technology, but we’ll come to that in a moment. So yeah. Yeah, I really want to double down and underline that risk here is that in my opinion, the major factor we’re protecting against by using, by considering diversification versus consolidation.

Cheryl Mack: Yeah, man, that’s so interesting that you pull that out. That as angels, we talk about like, well, I have experience here, so I invest here. And in effect, that is in direct conflict with our desire to create diversification because that is actually a concentration strategy. But I think what’s probably useful to talk about 1st is this like spectrum, right?

So at the very far left, you’ve got like 100 percent concentration, like 1 type of business, 1 sector, 1 stage, 1 location, even like, only Australian B2B fintech companies that are at the pre seed stage, like, extremely concentrated and, and only one of them, maybe just one. Like, I’m only going to find one B2B fintech SaaS company that is in Australia.

Like that is a hundred percent concentration. And then at the very other end, you’ve got like, you know, YC for example, that is invested in over 4, 000 companies. That is a crazy amount of companies. And then for example, like you’ve got also Sequoia where they Best in almost every, they’ve got a fund for every stage and even they’ve got like the peak 15 fund, which is even different.

So they’ve got another fund for different stages and different, they’ve got a fund in every country they’ve got. So like, that’s a very wide diversification. And then somewhere in the middle is like, you know, I think most investors kind of fall somewhere in the middle of that, right? Like none of us are out there.

Very few of us are out there investing in just one company. But like, for example, I think more on the concentration side, you’ve got Peter Thiel. Well, Who has said like he’s going to invest or he invests in like seven or eight at a time. I’m guessing maybe his timeline is maybe like one to two years on that, you know, seven or eight companies that have the biggest chance of creating that like mega return that like thousand X return.

Um, but that’s pretty concentrated if he’s just investing in seven or eight companies versus your average VC fund, that’s investing in somewhere between like 30 to 40 companies per fund, which is, I’d say somewhere in the middle. Cool. So there’s this like crazy spectrum of, and everyone falls somewhere on this spectrum.

And I guess today I’m hoping we can go through some of the arguments, um, for being more on that diversification side, maybe not as crazy as YC or Sequoia, but then also the argument for being more on the concentration side and being more like the Peter Thiel’s and the like pros and cons of each.

Maxine Minter: Yeah.

My observation, like especially venture funds are generally more consolidated. As you go up the growth curve and they are less consolidated kind of early on. So like YC obviously being a seed stage accelerator, right? It is highly diversified. It’s geographically diversified because they accept founders from all over the world.

It is industry diversified. I mean, start mate is the same, right? Like actually there’s maybe an argument that you could say start mate. For a similar vintage of deploying is more diversified. Cause they’ve been doing like wider range, deep tech for earlier. But I think for the folks listening to this and thinking about diversification for themselves, the first question is like, I think it is built my thesis is it’s all built out strategy, like thinking deeply about what is the opportunity set that you think you see?

And then what is the right strategy to build behind that opportunity set to maximize returns? And manage the risk appropriately tactical example, I might see a huge opportunity in like pre IPO, like secondaries, the fund that I build there and how consolidated I might be, might be a question of like my ability to diligence, the risk, and also my desire to add value.

I think that’s something we haven’t introduced into this discussion yet. So for like a large diversified strategy, especially if you’re just an angel investor, but also as a fund manager, you need to think really thoughtfully about the degree to which you can support all of those companies and like add value and actually support the development of that company’s fundraising, the company, et cetera.

Whereas, you know, if you are doing a very consolidated bet of which there are some folks doing at an early stage. For doing a very consolidated fund construction, it’s probably because you have a thesis that you can be evaluative. And so, you know, if you’re thinking about building that pre IPU secondaries fund, you are likely going to construct less companies in that portfolio, and you are going to lean further in on them.

Versus an early stage fund, Right. Like there are funds out there that have hundreds of companies per fund. I mean, I guess YCB the extreme example of that YCB and accelerator, I think is like quite a different construction, but even like fund managers, they put a hundred companies in a single fund with that implicitly saying, like, not going to be super high touch on that.

First investment, like maybe we seek to double down and we’re more high touch on the second one or something like that, but that like, it’s almost impossible for a fund. I think it’s almost impossible for a fund to be like high value add at the same high value add by exertion of personal effort from the fund managers to the companies and do like a hundred person fund.

So I think the first thing to ask yourself is you’re building this construction for yourself. It’s like, what is my strategy? Where is it, where is it in the kind of course trajectory that I think I see opportunity and then what has to be true in terms of size of check for me to participate at that stage, you know, once you have a view on what size of check, you need to participate at that stage within a range.

Then thinking about, okay, what do I need to deliver as a product to the founders and product to the LPs in order to be able to maintain that? Therefore, like, where do I end on the spectrum? I would say I have not seen any single fund above 100 and I have not seen any single fund above 100. companies.

Have you seen more?

Cheryl Mack: Well, I guess like, um, like a single fund or like, for example, Sequoia has multiple funds that obviously has invested in way more than a hundred companies and same with YC, like YC is each vintage Actually, it wasn’t one of them. I think a few of them there were probably like two or three hundred companies because they invest.

I think they’re like three hundred companies a year, so maybe like a hundred and fifty per cohort. Yeah. And so each fund. Excluding YC? No, I can’t think of a company that’s doing more than that. Oh, maybe like Founders Fund or Hustle Fund? Don’t they, um, have a very broad, I’m

Maxine Minter: not sure. Something to look into.

Elizabeth or Keith, if you guys are listening to this. Let us know what your strategy is. We clearly need to be re educated.

Cheryl Mack: Yes. If you do have more, please let us know. You know what I think is also really interesting here though, is this concept of like the power law that comes into play, right? So like very few people disagree that a very small fraction of the companies are going to return the vast majority of the fund’s profit, the way that that actually plays out, I think is what’s the interesting point, right?

That like. There are very different opinions regarding the lessons to take from that power law. Like, no one is disagreeing on the power law, but many funds create their portfolio construction differently based on how they interpret that power law. And the question of, like, is it better to index on venture as broadly as possible in the hopes of unearthing one of those, like, winning outliers, like a Canva?

Or is it better to like concentrate resources on a smaller number of investments? Just like you said, it’s basically impossible to be high touch on a hundred plus company portfolio. Do you concentrate on a few of those smaller investments to maximize the return on the winners? And this also kind of comes in when you think about like having children, then like if you had a billion children or a hundred children, you can’t possibly support them all.

So you’re less likely to have one that is really successful. I love

Maxine Minter: it. I love it. Look, to be honest, if we all knew. Who the Canva would be 10 years before Canva, you would construct a fund of a single company and you would just put all of your power into Canva in their seed round. That’s what you would do.

The reality is, is that we don’t know because of all of these like externalized risks, and I guess you could make the same argument for children, right? Like. They pop out as this like largely, you know, a slug, amorphous blob. It’s really hard to know. Yeah. It’s hard to know whether they, I guess the measure there is that they become value additive to your life or they become rich.

Like I don’t know what success looks like in children. Yeah. But. Well, so, like,

Cheryl Mack: the study that was done is that this, like, study done in, um, California was like, if you wanted to have the best chance of having a wealthy child that could support you in your old age, like, how many kids do you need to have?

And the, like, research came out that it, you needed to have, you had about a 15 percent chance of, like, having a wealthy child. So you needed to have, uh, at least 10 children in order to have a chance of having one that would be wealthy and support you in your old age, but ideally, like, 20. Okay. But I think that’s a really interesting analogy because there are factors that you can control in this, and then there are factors that you can’t, which is kind of similar to BC in the sense that like, if you raise your kid right, give a good education, maybe lots of books and toys in the house, then you have a better chance of being successful and therefore helping you in your old age.

But there are other factors that you can’t control, right? Like, there are genetics at play, and like, whether they have, you know, good, bad friends that lead them down into, like, bad paths, and whether they get into, like, the best school or not, like, there are things that you can’t control. And so, if you were just going random, then you need to have ten, but there are things we can control, and so, do you really need to have ten?

in order to have a chance at having a successful one. And I think that’s similar to like venture, right? Like you are making informed bets. Um, but you’re, there are also factors that you can control in terms of like, what do you know most about? And like, how do you help your portfolio companies and timing and what you’re betting on based on the timing and a billion other things.

Maxine Minter: I love that someone has spent time and like a significant period of time to get to that conclusion, studying how to get a rich child. It just, yeah, horrifying that it came out of. California, although like not even remotely surprised, um, hectic. I really, and like how you digested that research, what led you to that kind of research?

I’m just not going to ask that question. Um, but I will say that, but it came back to venture is the answer. Yeah. Um, I think what’s really interesting is, you know, for a lot, I think we’re in the age of the ecosystem now where there’s like a collection of funds that do an enormous amount of king making.

And what I mean by that is like benchmark publicizes that they have done research to show that a seen stage investment from benchmark increases the probability. That they would either get to Series A or Series B, like mid stage growth, by 5X. And so, you know, in your kid example, that materially reduces the number of children you have to cop out, right?

Like, 4 kids and 20 kids, really different lifestyle that you’re going to be living around that, you know? Yeah. And cost, right? Those are expensive. As far as I understand, I don’t have kids, but like, it is an expensive investment every single one of those slugs. And so, I think it is a really Great analogy to help normalize.

Like we probably do some of this evaluation for ourselves generally in day to day life. But when you’re thinking about investing in early stage, thinking about that, each of those checks is expensive, you know, if they are money that you’re allocating. And so from an overall average return, one part is like, of course, it would be better if you only invested eight checks and found a billion dollar company.

Then you invested 30 checks and found a billion dollar company. What’s the probability trade off you make there that you are. Yeah. Going to find a billion dollar company, because with the power law, if you don’t find those outliers, the asset is largely unperformant, right? The actual fund managers perform on the power law in the same way that the underlying investments perform when you’re thinking about consolidation versus diversification, you’re also thinking about.

building a strategy that allows you to be compensated for the risk you’re taking, but doesn’t dilute out the returns because you’ve got this long tail with non performing investments.

Cheryl Mack: Yeah. It’s so interesting you say that because again, there’s another study done around like, what are the chances that the average manager would pick a winner if they only had 10 chances and spoiler alert, the results were not good.

The average manager only given 10 chances does not pick an outsized winner. So the argument could be made the opportunity cost. Of missing one of those big winners is basically infinite because even adding one like outsized return to your portfolio changes your average return materially. Like for example, I think AngelList did research on like, 3000 deals that went through the platform.

The average return being like 2. 7 X, but adding just, I think like a Facebook, just adding Facebook, cause obviously Facebook was before Angela’s time, but just adding, um, Peter Thiel’s investment in Facebook. Change that, um, return to an average of like 5. 9 X. So like just adding one outlier changed things a huge amount so that the argument for the spraying and praying model broadly indexing into every possible credible deal means it could mean that roughly outperform the concentration argument.

Maxine Minter: I think that is a perfect set of data and anecdote. To really highlight that the power law is king in our industry. Yeah. Right. And so if you construct in a way that reduces the probability that you don’t see the power law and, or you don’t invest, sorry, you don’t see the outliers that will then form the power law, like almost guarantees that performant fund and the average fund, right?

So like the unit that collects a whole bunch of these investments is non performant. It’s sub three X, which means it’s better for you to have invested in the stock exchange than it was to invest in, you know, a venture fund, maybe a controversial opinion I held, but I do think that, um, thesis investing is a place that this is implicitly baked in, but we don’t talk about it in terms of diversification versus concentration, or at least I haven’t heard folks talk about it in terms of diversification and concentration.

There’s lots of people in the ecosystem who are running thesis. Investments, right? We are, we have a thesis investment around precede as a stage that is a form of consolidation. That is a form of concentrating on one particular stage. We’re not doing multi stage. We also have a thesis around Australian founders, another form of filter that then concentrates us just to a much smaller set of builders than, you know, someone like Sequoia who’s investing all countries, you know, all stages,

Cheryl Mack: you know, all the way up through parts listed.

A lot of these studies that are done are based on like assuming that there are no smart VCs and that everyone is just picking randomly, right? Like when you see these correlation ventures running these like, you know, it’s funny that you said that earlier. Like it’s just gambling and picking randomly, but like it, the argument can be made that it’s actually not picking randomly.

We are making informed. Vets and creating diversification within a portfolio construction strategy that is based on your own smarts, I guess. We could say that there are dumb VCs and I think there’s an ebook coming out shortly, uh, that maybe we’ll provide some memoirs from one of those, highly recommend checking that out.

The argument can be made that like, really, there are smart VCs. There are ones that use the knowledge that they have to create not concentration, but like we call it. I. Alpha contrarian thinking. No contrarian. Oh, contrarian. That are contrarian thinking, right? And that’s how they create those really big outliers.

Maxine Minter: I think emerging managers is probably an example. Well, where my mind goes when I hear you talking about that. In that the top performing 10 funds have anywhere between 40 to 80% first, second, or third time funds from emerging manager. Reason for that, that I understand is for a lot of them, they are managers that have seen a particular insight in the ecosystem that they’re operating in.

They are constructing cleverly around that insight and delivering significant alpha against the average to their investors. And I think I saw Sapphire VC had a, I’m maybe going to misquote their numbers here, but I think it was something like the average performance in their portfolio was 1. 9 to two.

And then. The top 25, the average was like five or six, 25%. It’s like orders of magnitude more effective. If you are good at this, or you are able to like pick a thesis and a strategy and construct, construct a strategy around what will work for that particular moment in history that changes, right? Like, If you were, I don’t know, like maybe if today you have a thesis on transistors, like it might be harder for you to generate alpha than like, What is a transistor?

I don’t even know what that is. Long gone technology. But if you have a thesis today on like AI as an inflection point and you have particular insight and a particular network to allow you to do that, and a particular fund construction that allows you to be, you know, say you wanted to run a consolidated fund, And because you have a network of people who are incredibly helpful for a particular kind of business, that could, you could generate really impressive returns.

I will, to be intellectually honest here, I will also name that it’s much harder to scale four, five, six funds and operate them as a business than it is to run a small consolidated group of find one, two, and three. And so it’s not the only like diversification versus consolidation is definitely not the only factor that is.

Um, driving outlier performance in that group. But I do think it is, it’s part of it.

Cheryl Mack: Yeah, absolutely. I think it also raises the point that as you invest in more and more companies, theoretically, the quality goes down, right? So if you are like investing. In a particular space, each subsequent investment that you make has a potential to be not as good quality as the first, say, ten that you did.

So, as a fund gets bigger and bigger and has to find more and more, it just makes sense to create more diversification because the quality goes down. So, having that concentration in the early days. Like, there’s an argument there, right? To say, like, well, the larger your portfolio is, the less quality you’re going to find, because theoretically there’s less.

I’ve

Maxine Minter: never heard that before. That quality goes down over time as opposed to going up. I will get the research for you. Yeah, hit me with the knowledge. Because my experience has been actually the opposite, right? Because as you get to scale, In theory, you are doing a better job at sourcing, you are doing a better job picking your well known in the market, like your brand, you’re doing well, like your brand should be increasing, more people should know you, more people will reach out to you, those kinds of things.

And so in theory, you’re seeing more companies and better, therefore, like better companies, one would hope, and maybe this is the argument on dumb VCs, but like, One would hope you get better at picking the more that you see, but maybe that’s the vector, right? Like you get worse over time because you get more jaded.

I think a traditional challenge is for a lot of investors. When you’ve been in it for a while, you see the same like ideas. To solve the problem, pitch over and over again, same problem over and over again. And I just, the thing that lives rent free in my brain is Google as an example, right? They were definitely not the first to search.

It was a known problem at like known set of companies had tried to, tried to be solving it when say John Doerr met Larry and Sergey, like how did he get to conviction that Google was it? Or was it the actual decision that Google was it?

Cheryl Mack: Or had he already invested in the other ones? And this was just another play.

No,

Maxine Minter: he hadn’t. No, no, no. Okay. He was like, this was his first search. I believe his first search investment. And so I think my point here is that like, it’s like, maybe we do get worse at picking over time because we’ve become more jaded and we’re like less open to seeing outsized, you know, like new insights come through or I’ll ask the curious question, which is like, why now?

Why is this? It hasn’t worked for the last 15 years, but it’s now the right time for it to be changing. So you should see more deals if you’re getting better. You should be better, should be better at picking, but maybe you’re worse. And then you should be learning from them. So I would think that you get better over time, not worse.

Cheryl Mack: Yes, I would agree. I think I misrepresented what the point there is that like, Portfolio as your portfolio gets larger, the average quality across all deals goes down because not necessarily that the more deals you get, the more deals you invest in, the subsequent ones are less good. But like, if you look at a portfolio overall of, say, 500 companies, there’s an argument to be made that there are going to be.

The average quality of each company is going to be less than if you had a portfolio of, say, 50 companies. Not that I necessarily agree with that, but, like, there’s an argument to be made that, like, the larger the portfolio, the, the average quality of each company goes down.

Maxine Minter: That’s such an interesting thought.

And maybe it’s an explanation why it’s harder to generate. alpha and generate outsized returns in a like large scaled fund than first, second, third time fund.

Cheryl Mack: Yeah. Cause there is data to suggest that specialized first and second funds tend to outperform, right? So that is a version of concentration.

Maxine Minter: Yeah.

It’s the definition of concentration. It’s like specialist in terms of, you know, like it is. Like that’s the photo that would pop up in the dictionary when you looked up like concentration. Yeah, I think it’s really interesting. I think for folks that are either evaluating it for themselves right now, whether they are fund managers or whether they are angel investors, thinking about like, what is the construction that you need?

To generate alpha, or if you’re not going to generate alpha, like you should just invest in an index fund, like go and invest in a fund of funds that funds every single venture fund in your ecosystem.

Cheryl Mack: Yeah. Well, I think as an angel or just like an early stage investor that wants to invest in the early stage asset class, I think it is a really interesting question to say, like, if let’s say I’ve got a, I’ve got 500, 000 that I want to invest in this asset class.

And you then decide, like, do I want to go for maximum diversification? As possible, which would mean like, go invest in like two to three funds that have the widest diversification. So pick the funds that invest in as many companies as possible. Like that’s probably the maximum you could get in terms of if you want maximum diversification, or do you like go super concentrated and like pick three companies to invest 200 and something odd.

in each and that’s like as concentrated or you just one you can put it into one and then like there’s a spectrum of everything in between right and i think most investors who are investing in this asset class end up falling somewhere in between where like i personally have invested in a few funds i’ve invested by a few syndicates and i’ve invested in a few companies directly so i’ve i’ve diversified but I’m like, I’m probably somewhere in the middle that like, I didn’t go for maximum diversification, but some amount of diversification to create some type of portfolio construction that I feel is diversified enough for my risk tolerance, right?

So like, I feel like most investors end up falling somewhere in the middle. And it’s just, to what degree do you create that diversification for yourself that you feel comfortable with?

Maxine Minter: Totally. I think the only thing to say is that that middle is. It’s huge. Yeah. Right. Truly huge. Like on one side, the like most concentrated is essentially a founder building a company.

True. Yeah. Like they are all in very deep on one investment. They’re spending all of their time there. They’re spending all of their capital. Mostly they’re taking on the enough capital off the table to survive. And then like the other side is large funded funds. invested in a whole bunch of funds and then have some directs, like probably the most diversified.

But that is, there is a huge spectrum. Yeah. Any one degree inwards is basically. Right. Exactly. So I think it’s definitely worthwhile thinking about for everyone as you’re thinking about building your investment strategy and like where you’re comfortable with, what is the right level of risk tolerance, like where also like, The degree to which you want to be involved running a large fund of funds.

You’re so far away from those frontline investments. Like you’re not really involved in the day to day of those companies, but you’re not, it’s not even really like you’re just not.

Cheryl Mack: Yeah. But even investing in a fund, like if you as an angel investor, if you want to be involved in the companies, In any way, shape or form, you’re probably not going to get that investing in a fund.

Whereas if you invest through a syndicate or direct, then you’re going to get some involvement and be able to support, um, or at least be more present to make those decisions individually, right?

Maxine Minter: Totally. Well, hopefully we will see a wider range within that huge spectrum on either side. Well, that diversification continue on.

Cheryl Mack: Thank you so much everyone for joining us today. Hopefully you learned something. Uh, hopefully you had a bit of a laugh, uh, about our children analogy. And I would love to hear your thoughts. If anyone has any, uh, wants to share what their portfolio construction strategy looks like, or wants to talk it through, feel free to reach out.

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