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For reliable excess returns, VC funds need 500 investments

institutionalinvestor.com

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Re: For reliable excess returns, VC funds need 500 investments

#61

Post by mmmbn »

georgeecollins wrote: post #34
lpolovets wrote: post #7

(I'm a VC.) I'm skeptical of simulations like this one because they typically assume that every startup has the same statistical distribution of returns, and whether you pick 15 or 500 startups, each startup will have the same expected value and variance. But in practice it doesn't work like that. A full time VC might see 2000 pitch decks per year, meet with a few hundred of those companies, and end up investing in 5…

>> I'm skeptical of simulations Yeah, no kidding. Once you see a monte carlo simulation your eyes should roll. This is like all financial predictions that have a bell curve outcome hidden in them. Dice are easy to predict when you roll them many times. Finance is just like dice, just ask the Nobel Prize winners at Long Term Capital Management.

LTCM didn’t end quite so well.

Re: For reliable excess returns, VC funds need 500 investments

#62

Post by ry454 »

andreareina wrote: post #8
ry454 wrote: post #3

My takeaways from the article: (1) VC is a casino for the rich and just like gamblers in casinos they have no idea what they are doing; (2) VCs have discovered that standard deviation shrinks like the square root of the sample size, however their understanding of stats seems to be just enough to run a monte-carlo simulation. Edit: the 3rd takeaway is advice to those who're considering to join a "startup" - if VC need…

> if VC needs 500 investments to make a 15% return on average, you need 5000 years to get the sames returns as a line worker This doesn't necessarily follow. A "line worker"'s downside risk is the opportunity cost they pay for working at a startup, which has a different distribution than the investor's downside risk (the whole investment). At the extreme end I'd argue that e.g. WeWork's investors came out of it worse…

Investors lose only a small portion of their assets and most importantly they don't have to lose time. Whether 2% of my liquid assets is more valuable than 4 years of someone's life is debatable, but I can certainly say the loss of those 2% won't make any impact on my life, while that worker won't ever recover his 4 years.

Re: For reliable excess returns, VC funds need 500 investments

#63

Post by dannyw »

xorfish wrote: post #31
darawk wrote: post #26

> How big is diversified enough? Classical portfolio theory says that in public equities, reasonable diversification effects can be expected when one combines 20 to 30 stocks, while more detailed recent studies set this number at 40 to 70. Lol, what. No. Diversification is about correlation, not stock count. If you buy 40 different tech companies, you are not diversified. If you buy 3 etfs, you may be extremely well…

Is venture capital or private equity really uncorrelated to the general stock market? It is also difficult to evaluate the volatility of an asset if the price is evaluated infrequently. Imagine how good the stock market would look, if you only get the price every 5 years.

I find that VC investors tend to have more of a "we invest in bull and bear markets" mentality, especially because all investments are long term investments.

I think this creates a smoothing effect. For example, during the COVID flash crash, an investor sold their stake in a VC fund, to another investor at the NAV price.

Re: For reliable excess returns, VC funds need 500 investments

#64

Post by dannyw »

spekcular wrote: post #43
arthurcolle wrote: post #28

Earlier quoted context omitted.

you should read Taleb's new book "Statistical Consequences of Fat Tails"

I realize this is a bit off topic, but no, the parent poster should not. It's a mish-mash of poorly explained introductory probability material. There are numerous other textbooks on statistical aspects of heavy-tailed random variables that would be far more insightful.

Taleb is a great writer, but not a great teacher.

Re: For reliable excess returns, VC funds need 500 investments

#65

Post by throwaway2245 »

thomasahle wrote: post #59
throwaway2245 wrote: post #48

Earlier quoted context omitted.

A national lottery with a positive EV would still make almost all players losers.

If you play at enough such lotteries with small enough bets, that sounds great. If the EV had been negative, not so much.

If you have high enough wealth and the reliable ability to replicate your bet a sufficient number of times, then you might be able to reduce the variance enough to see the benefit: right.

If you're not in that position, then you're gambling just the same, whether you have -EV or +EV.

Re: For reliable excess returns, VC funds need 500 investments

#66

Post by arthurcolle »

spekcular wrote: post #43
arthurcolle wrote: post #28

Earlier quoted context omitted.

you should read Taleb's new book "Statistical Consequences of Fat Tails"

I realize this is a bit off topic, but no, the parent poster should not. It's a mish-mash of poorly explained introductory probability material. There are numerous other textbooks on statistical aspects of heavy-tailed random variables that would be far more insightful.

I enjoyed it, but I can see why someone might get that impression. Care to share other reads?

Re: For reliable excess returns, VC funds need 500 investments

#67

Post by spekcular »

arthurcolle wrote: post #66
spekcular wrote: post #43

Earlier quoted context omitted.

I realize this is a bit off topic, but no, the parent poster should not. It's a mish-mash of poorly explained introductory probability material. There are numerous other textbooks on statistical aspects of heavy-tailed random variables that would be far more insightful.

I enjoyed it, but I can see why someone might get that impression. Care to share other reads?

Didier Sornette, Critical Phenomena in Natural Sciences: Chaos, Fractals, Selforganization and Disorder. Springer, 2nd edition.

This covers the mathematics of heavy-tailed distributions and a lot of fun applications, and also touches on some other interesting, Taleb-esque topics (fractals, renormalization group).

For financial stuff in this vein (heavy tails), Bouchaud has some books with various coauthors (e.g. Theory of Financial Risk and Derivative Pricing: From Statistical Physics to Risk Management). Admittedly I have only browsed them, but what little I've read has been good.

Also, on a tangent which may interest you, Charles Martin and Mike Mahoney (of UC Berkeley) have some recent work which uncovers heavy-tailed laws in neural networks. You can get started here and follow the citations: https://arxiv.org/abs/1901.08278.

Re: For reliable excess returns, VC funds need 500 investments

#68

Post by silexia »

ry454 wrote: post #3

My takeaways from the article: (1) VC is a casino for the rich and just like gamblers in casinos they have no idea what they are doing; (2) VCs have discovered that standard deviation shrinks like the square root of the sample size, however their understanding of stats seems to be just enough to run a monte-carlo simulation. Edit: the 3rd takeaway is advice to those who're considering to join a "startup" - if VC need…

VC's are predators. Avoid them like the plague. Get your funds from friends, family, and fools unless you are building a nuclear power plant.

Even successful businesses will be destroyed by VC's demanding leverage and higher returns and quick exits.

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