Delivering 3x Funds is Hard

This data is really interesting when you dive into the implications. This distribution is very consistent with the data put out by Fred Wilson at USV and a16Z. The math would suggest that as an individual if you are a top 5% investor and you make 6 investments in a fund, the probability that you return 3x is only 55%. If you are top 5% fund historically and in your new fund if you make 28 investments, the odds are only 75% that your fund will deliver a 3x return. More on the assumptions below.

What’s also interesting is that the top 5% investors only get it right, i.e. deliver more than 1x on an investment, 51% of the time. Average investors are right 46% of the time. This highlights how difficult venture investing is. You see this in most firms too. The best investor is right maybe 55% of time and the bad investors are right 45% of the time. I think this is true for CEOs. I worked at Salesforce, and I would see Marc try lots of things that clearly weren’t going to work. I would joke that Marc Benioff was right on things 55% of time, whereas everyone else was right 45% of the time. Also, he had the power law mindset and would consider things that others thought, and sometimes rightfully so, were crazy like buying Twitter. But he knew how to make small bets to see what would work, and when something worked he would double and triple down. His winners far outweighed his losers.

This small margin of difference between good and bad actually is not surprising. It shows up everywhere. In baseball, while the best players hit ~0.300, if you hit 0.265 like Javier Baez, you can sign a 6-year $140 million contract. Whereas if you hit below 0.220, you’re likely out of the league.

As Kevin Costner in Bull Durham put it, "You know what the difference between hitting .250 and .300 is? It's 25 hits. 25 hits in 500 at-bats is 50 points, okay? There's six months in a season, that's about 25 weeks. That means if you get just one extra flare a week—just one—a gorp, you get a ground ball, you get a ground ball with eyes, you get a dying quail, just one more dying quail a week... and you're in Yankee Stadium."

Competition is a game of inches. If you make 20 investments over 10 years, if 1 is a 50x-er or you get reasonably lucky on 1 or 2 investments, it’s the difference in a bad a respectable career.

Fun with math

For my calculations, I assumed that 0-1x return = 0.5x, 3x - 10x = 6.5x and +10x = 20x. Yes, I realize this is overly simplistic, and it doesn’t account for 100x returns, which is what separates good from great investors. But a 20x return, assuming $17M in and 10% ownership at IPO is still a $3.4B outcome. Also, assuming 10% of the fund has 10x outcomes, that assumes that for a fund you have more than 2 20x outcomes. So this probably isn’t that far off. But if you want a 5x fund, then you need a deliver 2 +30x exits.