The Herd Instinct
One of things that always amazes me about investors is the way we move in herds. Developing markets are in, everyone invests in developing markets. Dubai blows up, everyone moves out of developing markets. Real-time is hot. Everyone invests in real-time.
I can understand the hot money game in highly liquid markets if you can get out before the party ends. But in illiquid markets, this kind of momentum investing hardly ever works.
And VC is among the most illiquid markets out there. I don't believe you can deliver top tier returns playing the "hot money" game in the venture business. Moving in a herd will put you in the middle of the pack at best and could put you in the bottom of the pack.
I think there are two approaches that work in the venture business. One is the contrarian approach. When everyone wants to be a consumer web investor, do software as a service/enterprise. Go where the money isn't.
Or you can just be earlier than everyone and anticipate where the herd is going to be next. That is really hard, maybe too hard to do well over a sustained period of time.
But I do believe that both of those approaches will get you top tier returns if you execute them well.
Following the herd, however, is not a recipe for good investment performance. And yet so many do it. That's why they are called herds.
I think the Herd method is deemed the “safer” method by traditional VCs. And despite all the BS about when they say they are looking for “Disruptive” technologies, what they are saying for the most part is; we are looking for “Proven” technologies. Proven be the same as “safe”. “Disruptive” technologies are usually unproven (because they’re new) and often times shunnned or overlooked by the herd.This is the difference between the HUNTER VC and the GATHERER (Herd) VC. A Hunter seeks out the new, unproven and potentially very disruptive technologies. The Gatherer follows in his footstep.
Great comment!I think the same applies to entrepreneurs. Gatherer entrepreneurs build things similar to what Hunter VCs invest in, aims for cash from the Hunter but usually ends up with a Gatherer VC.We see that a lot here in Europe and Germany specifically where often a successful e-commerce model gets copied and applied to a different product. Monetary success? Probably. Disruptive, growth and high-exit potential? Probably not so much.
You’re spot on- it’s a self perputuating problem. Most VCs are gatherers, so most Entrepreneurs follow where the gatherer VCs go. That’s why you see so many Facebook apps, Twitter apps, Music streaming sites being created. They’re all following the herd. I’m going to vomit the next time I hear a new Entrepreneur telling me he’s going to change the world with his highly disruptive Facebook app (barf).Why aren’t Entrepreneurs building new platforms instead of piggy-backing? The answer: becasue this is what the herd is looking for. The existing platfrom (Facebook, Twitter, etc..,) works and is proven. So where my friends is the disruption?Herd VCs follow the leaders. When they say they have invested in “disruptive” technologies, they really have invested in proven technologies (the disruption is gone by the time they’ve invested in something which is already proven and uber cool).It’s no wonder young Entrepreneurs seek to create ventures which the herd are looking for. It’s a cyclic trap. Innovation suffers because true venture funding requires a different mentality to the herd. I keep a watch on guys like Fred Wilson, Brad Feld, Mark Suster because these guys aren’t the herd.Any disruptive Entrepreneurs out there? Get in touch with me.
Funny that you use Facebook because I’m constantly bombarded with the why don’t you do your game like Facebook games question. We’re developing a AAA massively multiplayer online game and not a Facebook application yet everytime a VC looks at our plan and the $15 – $18M in funding it requires, they ask how can you bootstrap it like a Facebook game. That’s akin to asking someone to write a novel using journalist techniques. It doesn’t work yet I suspect that the Herd Mentality is behind the questions. He’s doing a game. Facebook games have made a tun of money. How do I get him to change his entire game to be like a Facebook game and get in for the least amount of cash? Herd mentality pretty much sums it up. Reminds me of the Web 2.0 craze.I usually answer the question with a couple of sobering facts about Facebook games and iPhone games. The vast majority of them never make money and why would I want to come late to a market with lots of competition when there’s an entirely different market, equal in size and growth potential that has relatively few entrants? That usually answers the question dead on but only the Herd Mentality you speak of can really answer why the questions are asked in the first place.
This was my point exactly. A gaming platform should stand on its own two feet. If it can piggy back onto a mass platform like Facebook then great, that’s a bonus. But to rely on a third party platform is stupidity in my view. That in itself is RISKY business.
what about relying on multiple third party platforms, so as to diversify platform risk across an array of platforms
That makes a lot more sense, as you reduce risk and increase exposure. Only problem is, this is such a crowded market. Every geek in Vladivostok, Warsaw, London, Mumbai or Palo Alto is working on the next killer app too. It’s costing them next to nothing to produce and potentially they can access millions of users. If only there weren’t millions of competitors doing exactly the same thing!
The big value of building games on FB is cheap user acquisition. If you can find that elsewhere, you are totally right
Indeed. I’ve heard many times that Facebook has cheaper customer acquisition but those costs are always a function of potential revenue per paying customer. For any online app, that’s measured using a figure called ARPPC (Average Revenue Per Paying Customer). Facebook didn’t invent the power of an application going viral, it simply created another outlet for that to happen. You still need to advertise your game and advertising happens in the same places as other games so the costs are a function of spending enough to be heard above the other games. That represents somewhat of a fixed cost in advertising because ad space on Gamespy or IGN.com costs the same no matter the game.Consider the iPhone. The average game sells for $2.99. Games over $4.99 get bad comments about being expensive. Sure, you have built in access to 18M+ iPhones sold but you’re not going to make more than $2.99 per customer so your acquisition costs have to be less than that times the ratio of ARPPC/ARPUC. (Paying versus Unique) Now consider that Electronic Arts and other major publishers are fighting you for the same user dollars. Their brands allows their games to sell for $6.99 to $9.99. They have 2x to 3x the revenue potential and can spend accordingly on customer acquisition which raises the bar on how much you HAVE to spend just to be heard and seen. Facebook games now fall under the same mechanics now that the initial gold rush has worn off. The pattern holds true for Xbox Live games and just about any gaming portal site.The biggest minus Facebook has going for it today is that there’s been a large media spree over how Zygna and other big name Facebook application companies used scam techniques for customer acquisition / revenue generation. That has to be factored in to the cheaper cost equation as well because it is not a factor for iPhone games, Xbox Live games or Massively Multiplayer PC games. So yes, Facebook might offer cheaper acquisition costs but it’s not always that cut and dry.
David -I’m fairly certain that facebook is a disruptive platform, but the add-ons/apps are the disruptive engines. Facebook doesn’t need to be disrupted in my opinion. Ultimately, the disruption is taking place at the consumer level (i.e. retailers have less power).
it’s frustrating, because iterative design is part of the learning process. As someone young-ish, I do think seeing a lot of the same thing tried out in a variety of different ways, and experimenting with them is a way to get closer to the right form of the medium (internemt medium)Disruptive is equally figuring out the way of refining it down. Or looking at the problem via the newest, most derived, angle. Most people can’t see the derivative of the problem. if you read books on design, it took forever to realize exit doors should always swing out.High potential might be the way we see the model.
Ooh. Hunter and gatherer analogy is a good one
Whilst obviously I admire the Hunters much more than the Gatherers, I do recognise Gatherers can make money too doing what they do. Hell, there are a lot of very rich Gatherers as we well know!
There’s no question. Anticipate. Think about the future and what people will be doing. Very few people actually try to do this, which is what makes the real innovators stand out and make fortunes.There’s a lot of talk about ‘having a vision’, but talk is cheap – get thinking and create your own vision, it’s not that hard.If you don’t know how, ask.
Fred,I guess that raises the question about where you see USV fitting in. It seems to me that you guys are leading the herd, in the same place but out in front because you got there early and are focused/running a bit faster. In venture that should = better deal flow and allow you and others in the same position to play profitably where others returns may falter.Thoughts?
Were trying to do this. Its not easy and I wonder how long you can do it well
I guess I don’t understand the venture business. Doesn’t every deal stand on it’s own? What does following a pack mean in VC, throwing capital at any startup that is loosely categorized in a certain market?
Fred, great post. What I always wonder about is how reflective you think VCs are on this. Everytime they pass on something that turns out to be a great business do they say “How did I miss this? How will I not miss it next time?”. VCs want entrepreneurs (like me) to learn from their mistakes but are VCs doing the same? Or is it more of the “well, we didn’t have all the information kind of BS…”. The post-success revisionist thinking seems to me to be rampant.I had a top-tier VC recently tell me they were going to pass on thredUP and then in the same conversation say “but if so and so is interested we’ll be interested again”. Give me a break. Thanks for calling folks out.
I wonder too and think it is as / more important (in terms of staying sharp and/or improving) than thinking too much about your wins: http://www.parkparadigm.com…
Great comment, I’ve wondered the same thing. Being reflective isn’t something that comes easy to folks. We see it in relationships, business and in society as a whole. There is a great book that talks about this phenomenon called “Mistakes Were Made: But Not By Me” The argument is our mistakes can appear to be inconsistent with our perception of self, therefore to accept a mistake was made would suggest we are not who we think we are. ex: If a VC were to fail with an investment, it would challenge his/her perception of self that they are a good VC. To avoid this personal conflict they blame others and outside forces. It wasn’t there fault. Going with the heard provides an easy fall guy for this. I received the same response as you when raising money. “You’re seeing so and so? come back after you talk with them and let us know what they say” Straight up heard mentality Great observation James
Failure is an orphan. Victory has many parents.Next time you go to raise some $$$ research every interlocking deal structure funded by the same VC and pitch them all at the same time. Outthink them.Remember that money game is a GAME. Game it.
Your a thinker JLM. I like thinkers.//keenan
Any particular kind of game?
You have stumbled on one of the simple truisms of business —America does business with its friends.An essential part of business and a personal skill which one must develop is the ability to relate to folks in such a manner that people want to do business with YOU. Good manners, an earnest interest and the investment of time are all a good basis for success.The first locus of investment is always, always, always the people.
Unfortuneately, this lends to the herd mentality. The networks that most VCs use to bring a flow of deals thru their door usually guarantee they only get to see people who look smell and taste like the VCs themselves in terms of education, social status,etc (i am not talking about race here). this is like inbreeding and doesn’t lend itself to a diversity of ideas.ex: A neanderathal VC is approach by two groups of entrepreneurs. Group 1 comes gets to the VC by networking thru others that the VC already knows They are going to revolutionize transporation with a new device, a square wheel.Team two is a bunch of country bumkins who show up uninvite, pick their nose, have buck teeth, etc. They are going to revolutionize transportaion with a new device, a round wheel!Who do you think gets funded? The square wheel, of course. And please don’t give me the response that the square wheel “A” team is so bright that they will quickly change thing to a round wheel. If the entire sum of human history up to that date hasn’t invented the round wheel (except for our intrepid buck toothed inventor) what make’s you think the square wheel guys will make the connection?Their a million historical examples of this. The airplane? Anyone who knows the wright bros story knows that the US military spent tons of $$ backing several people who were plugged into the military network-all failures. The bicycle shop country bumkins tried to get some money too, but were laughed out of town.
Kind of an extreme example, don’t you think? Your conclusion is based upon a tenuous assumption that the second group can’t see the obvious.There is a huge difference between getting one’s foot in the door and making the sale. I have raised over a $1BN in my life and I am continually surprised. Though I fancy myself a guy who knows the secret of finance — the money guys only have money and they get fired if they don’t spread it around — I have been continually surprised.Deals I thought were a two hand dunk shot got blocked and deals that felt like a Hail Mary were funded. Who knows?I just never stop pitching the deal until they shovel dirt on my face or call the cops.My advice would have been just as good for the bumpkins as for the other, no? There is no downside to good manners, no?As to the Wright Brothers, the final word is that they got their deal done. That is the important thing.
I give an extreme example cause it cuts fast to the core of my in very few words.I dfon’t assume, I look at historical evidence.This discussion is not about “the second group might see the obvious” although I could easily ague this (look at the all the competitors devloping the tV, only a 16 year old farm boy saw the obvious). Rather, this discussion is about the fact that the VC old boy network and tendancies of investment prevents the guy with the wheel from getting in, or getting funded.If you want to talk about bad manners, check out thefunded.I used an extreme example of manners to once again quickly drive home a point. It was my hope that the reader could extend this thought to other quirks of life such as mumbling, poor posture, poor clothing, etc.What many confuse with bad manner actually is simply different cultures. I guarantee if you grew up in rural appalacia, where perhaps it is not so bad to burp,chews tobacco, eat with your mouth open, etc, you would be doing the same-that doesn’t mean you don’t have the genius of innovation-genuis is spead evenly through all economic classes.Regarding the Wright Bros, exactly!! They were ignored by the powers that be but still won. But, if the project cost 2X the the meager fund they had to invest themselves, they would have had to stop (the airplane excerted huge financial pressure on them)You comments on presistence are of course true.If you have rasied a billion, you should invest a few mill into my company and I will make you another bill
I’ve passed on hundreds, maybe thousands of good businesses. Its an occupational hazardYou just have to pass with as much respect and admiration for the entrepreneur as you can musterBut I’ve never looked back and I never look to others for confirmation. That’s for losers
So if I may ask a question based on the herding VC: Where is the herd taking media right now? Is Rupert’s view about payments where we are going or a head fake? I think it is a big head fake. Is it more like an evolution toward a Targetspot model? Is it possible a version of AOL going to make a comeback? Something newer? Making Google the bad guy is like saying we really expected political parties to not matter after President Obama got into office.
I would not look for rupert to point us to the future.My college aged daughter would be better than him
I’m sure this will sound very naive, but what happened to basic business analysis. I see herd investing and it just seems like the investors are just being lazy.
Its hard to analyze the future. I don’t think its laziness. I juist don’t think its very easy
Although I agree with your view, I suspect there is also another dynamic at play. If a sector is hot (maybe just trendy in the beginning), entrepreneurs will also tend to gravitate around that sector and therefore that market will benefit for fiercer competition and more innovation, which in turn attracts other investors, entrepreneurs and eventually consumers.So, at least in small part, the herd mentality has his reasons. And the strategy can sometimes work, especially if you think internationally rather than just US.
Very good point about international. But it works both ways. Zynga’s business model was inspired by korea and china
The thing is that VCs invest other people’s money. And while on surface that should make them more open to risk-taking, theys are humans and want to avoid the batter they would get from their investors if they go a riskier route and fail.However, since VCs by definition should be investing in risky propositions, and most of them have no idea how to predict the market, the majority plays it safe and lower their personal risk by following the herd, which gives the good old traditional excuse of “everyone did that!”
lol, i like your explanation, probably true
Great comment, same thing happens in money management. Why pay a manager when they are going to do everything they can to generate market returns, eliminating the possibility of getting fired should they severely under-perform the market.
This is true in good brand planning too. The rearview and sideview mirror planners who look to the past for marketing inspiration are in the majority, while those looking beyond their “dashboards” are the seers and big winners. Knowing where the herd is going before it gets there is the key to brand planning and, as you say, venture returns. It’s very Gretsky-esque.
Interesting.I think you are saying that looking back as a guide never gives you an original future. I agree although context is of course valuable.Investments are chosen, brands are built and evolve and if lucky and done right the crowd itself, helps define the value of the brand.I’m not sure these are completely analogous although a good stimulus for thought.
If your head is on a swivel simultaneously looking backward to remember what worked in the past and how that came about and then looking forward asking yourself — what is the analagous situation today? — you are likely to be able to apply the past to the future opportunity.I love the rear view mirror v dashboard analogy and think it captures the essence just perfect.For instrument airplane pilots, they will note that you are constantly scanning a set of instruments which tell you the past, present and predict the future. The fundamental skill is the “scan”. When your skills become rusty, you have a tendency to fixate on one or two instruments. When your skills are sharp, you are constantly scanning and flying under perfect control. You train to bridge the gap between rusty and current.
We are not disagreeing.Brands are more fluid in development, especially on the social web. Investments seem more finite and absolute.Love your para on instruments and pilots. Obviously you’ve been there. I’m always in the middle of the plane somewhere.
I agree. I did not mean to imply I was not agreeing with you.In some ways, it is easy to become confused as to whether the brand is the business today.Truth be known, I punch the destination into the GPS, take off, climb to cruising altitude, hit the autopilot (George) and let George fly the plane to the destination and then I land. I am just the instrument monitor, radio operator and, of course, the fueler.
With or without GPS, we have to DR/AH (dead reckon / alter heading) until we get there.Love the “scan” metaphor. I’ve felt the flow and the rust in the cockpit, on a basketball court, on a manufacturing floor, behind a mixing board, at a negotiating table, and leading a startup.
How true. A significant amount of interent start ups today where being done by tech entrepreneurs in the 80s (via floppy discs, bulletin boards, proprietary sites like Prodigy). Geneology? yep. Recipes? yeps. Digital magazines? yep. Book retailers? Yep? Educational curriculum? yep. Online programs linking students, teachers, and parents? yep.I could go on. To verify this, all one needs to do go look thru the PC magazines of the 80s, including the classifieds.
It’s almost like they need a “Gretzky” measure for VCs and money managers. Something that somehow shows the managers that have done well by doing what is outside the norm (how to determine what that is exactly is the big question). That way, entrepreneurs that truly have a disruptive idea can go straight to the source, sidestepping any “herd” investors along the way that claim to fund aggressive ideas.
Bean ball for VCs and entrepreneurs sounds intriguing. What critical situations can we observe and measure?
Maybe one scenario would be to understand where capital was flowing at the time of investment… Almost like a heat map of sorts. So in the instance of say, Twitter, one would take a look at where the majority of the investment capital was flowing at the time the first investment was made in Twitter. If there was very little fund flow in social networking at the time, but that investment turned out to be a homerun, one could say that they took outsized risks by not following the herd but earned even more outsized reward based on foresight. Is this too far fetched?
Billy Beane came up with counterintuitive metrics that changed baseball (*Beane Ball). His system looked beyond averages and evaluated players in the context of high leverage situations (e.g. late inning pressure situations) and in the context of raw ability (e.g. defense independent pitching stats). The lack of transparency in the VC world would make comparable stats difficult.Perhaps your idea of capital heat maps overlaid with LP cycles can provide the situation context for metrics regarding deal flow, money deployed, teams backed, and exits. Wrap this in Monte Carlo simulations powered by DISTs (distribution strings) and some really cool tools develop.NOTE: props to Dr. Sam Savage and his book “The Flaw of Averages: Why We Underestimate Risk in the Face of Uncertainty” http://www.amazon.com/Flaw-…
There are very few gretzkys
I’m glad I grew up in New York, otherwise I would have no idea what you are talking about.
HI FredNice set up for a good day’s thought! I like this subject a lot, it goes to the heart not just of being a VC but also of being an entrepreneur – or, more generally, to being an investor in anything.I wrote up some thoughts on this a while ago, arguing for the importance of passion in the creation of great value (that’s non-uniformly distributed). The gist of the argument is that if something is clearly of value, many people (entrepreneurs & VCs) will see it and bet on it. That’s the herd. They may be successful, but the gains realized by those successes will be spread widely. I argue that if you want to create value that is not spread widely, then you (as entrepreneur and as VC) have to be betting on things that are non-obvious. And because value like that is always non-obvious, the only way to create it is via passion – because it takes passion to long-term & dedicatedly pursue and build something whose value is non-obvious. That’s the meat of the argument. You can read it here: Passion and the creation of highly non-uniform value http://bit.ly/7ntSZ BTW, I was thinking explicitly of USV and Bug Labs as a good exception when I wrote “And so a question to VCs from entrepreneurs and limited partners alike: if you claim to be aiming to make massive returns, where are your necessary correspondingly massively risky investments? Chances are you wont find any.”
Bug is out there on the risk curve and also not finding it easy going right now
I was just thinking about them…and now I have forgotten why. Damn, it was a good idea.
herds make bad entry points but good exits.a good investment needs a story that the consensus can decide is a good one.a great investment is one that keeps outperforming the consensus for a long time so you don’t need to exit. (but then you’re no longer an early-stage investor)
My favorite saying for this is “average thinking yields average results”
I think a lot of it comes from the fact that investing is not just a science but an art as well and most investors do not understand the “art” side of it. Hence, the best bet, according to them would be to go where everyone is making money hoping to get a slice of the pie. This is very common in Financial Instruments – A particular Investment Bank would create a new financial product and make nice margins for some time and the rest take a while, see that and follow suite and the margins go down until another IB comes up with another product and so the cycle goes.In the VC arena, it is quite similar; when someone sees that Ron Conway has backed XYZ, people try to flock to that and so it goes…..Herd mentality has been there for long [and not just in investing – it is the same on the other side of the table i.e. entrepreneurs – you hear a buzz word and everyone rushes to get into it]… I am not saying that its the best way, but if you time it right, it is not bad.But I completely agree with you that the best way of investing is the value investing mode where u know what u r good at, stick with it and make $$$$….my $0.02
Exactly the same mentality that existed/exists in major label A&R. Look where that led.
OH SO TRUE! Can’t wait for Mariah Carey to release Greatest Hits Volume 74
There are a lot of parallels with VC and the entertainment biz
An interesting corollary to this, or implication perhaps, is the relationship between the non-herd or hunter VC like Fred who communicates his firm’s focus and interests and the entrepreneurs who are building businesses. Fred, as you communicate your thoughts on investment areas, can you in fact drive entrepreneurial focus towards leading edge and/or contrarian sectors and ideas? These are obviously autonomous individuals with their own views, inclinations and skill sets, but there is something interesting about the idea of influencing action with this specific discourse. Or is it more that entrepreneurs drive a VC to consider new areas which a VC may then decide are leading edge and/or contrary?Best, Chris
I don’t know if I’m that influential. I read hacker news not avc to get inspired
great post. Not to use my typical film/tv analogy but I think this is common in our field too. A large network/studio hires a bunch of numbers crunchers to study what is safe to bet on for content. Problem is humans are human and they cycle for “new” and growth in life and spirit…so by the time you invest/develop in what has been proven most content is jumping the shark. Massive investment math seems as slow as massive development math in show creation. The new are too off the radar… unless they are lean and independent. ; ) Post is one to live by in many fields. Agree with earlier posts about other fields… scale of investment source (and having risk standards they have to live up to because of that scale) is a big factor here.
Or you can have a complete, robust and well developed investment thesis focused on a particular sector or theme or both. The risk of this of course is that there is then nowhere (easy) to hide when you screw up. No vague excuse that will seem plausible. You made a deliverate and reasoned decision that turned out to be wrong. Personally I hate being wrong (who doesn’t) but I still think it’s an order of magnitude better than being delusional.The advantages – aside from hopefully bringing a real depth of insight and domain expertise to your decision process – is that it can act as a tremendous noise filter and make the opportunity set much more tractable. Sure you will certainly miss big hits outside your investment universe but any VC – any investor – already misses lots of great investment opportunities – no VC kicks themselves for not buying copper futures, that would be absurd. As for your point on momentum trading illiquid assets, whether it’s start-up equity or mezz tranches of CDOs you are exactly right: insanity…doomed to failure.
We tell out investors that we will be totally and completely wrong 1/3 of the time, sort of wrong 1/3 of the time, and right 1/3 of the timeSet the expectations right and you can fail without ruining your relationship with your investors
Thanks Fred, good advice. We’ve been saying more or less the same thing to our prospective investors, but in a much more convoluted way (probably vestiges of my too many years as a banker!) – I like the idea of stripping away the artifice and nuance and just ‘getting to the point’. Hope you don’t mind if we take your a third/a third/a third algorithm and use it in our slide deck.Thinking about it now, it seem obvious that it is the right way to start the conversation – and to get them (potential investors) asking questions about what that actually means, letting them lead the conversation to the details they are concerned with (if any), rather than us “explaining” how & why this is the likely outcome (& why it is the best (only?) way to generate good returns in early stage investing.)
“Whenever you find yourself on the side of the majority, it is time to pause and reflect.” –Mark Twain
A bad idea held by a majority is still a bad idea.
A bad idea managed by an “A team” will alway fail. A great idea managed by a “B team” always has a chance for success. The idea is the differentiator.
I never get the joke right but I always remember it —What do you get when you have a mediocre product and great management?Microsoft or Apple?
Words to live by. Love it!!!!!
I believe this is true to an extent. At the end of the day, the outliers will be the ones who buck the trends and, while they tend to have higher risk exposure, also get first dibs the undervalued products being developed.However, I also think this is sort of a sexy, romantic approach to investing; everybody wants to be a rock star. There are times when playing it safe works. If you are an investor sinking pockets of capital into several similar products, you are investing in the vertical (i.e., “social networks”, or “micro-blogging”, or “iPhone credit card applications”). This approach mitigates the idiosyncratic, firm-specific risk and moves the bet to the overall vertical.It’s true that investors move in herds; but it’s also true that consumers move in herds. Sometimes the vertical is more important than the product. When the investment community pools resources around a vertical, big things tend to happen. The consumer adoption chasm becomes easier to cross, and all firms benefit as a result.
so come on – which patch of the serrengetti that you were grazing did the herd show up on? I get the sense you might be seeing some of your areas of focus getting crowded?
Yes I do. I’m looking for greener pastures
Good thought provoking stuff as always.What you are describing is a problem in every market where capital flows freely.When you go out to raise your next fund – you will be asked for your returns – and then you will be asked for the composition of your returns. And you will be measured against your peers. When youtube was sold for $1.65B and the online video business became validated by google – everyone had to have an investment in that business for two reasons:1. if the sector truly blew up and everyone became a winner you would look like an idiot if you didn’t have an investment, and 2. if the sector blew up and everybody lost all of their money, you could hardly be criticized for losing money in the same way as all of your peers did.Dubai is an interesting case because the people lending $ to those project should have known (it was clearly spelled out) that they did not have the backing of the government implicitly – but the fear of not being there, the fear of not standing with the herd was too great – so people invested anyway. And with the hed comes the stampede – and with it a lowering of the risk/reward relationship that is so important for producing superior (or any) returns.In addition, you fundamentally break down the investment process that got you to where you are – and inevitably end up disappointing the very investors to whom you owe your liklihood. Techcrunch had a very interesting interview with Roelf Botha (sorry about the spelling) and the founders of Eventbrite. Most VC’s know this already, but it is pretty clear that Sequoia is a home run shop. They only invest if the market opportunity is enormous and the founders are going for world domination. Their investors expect this of them, and they have been massively successful, because they stick with this mantra. As investors on a deal by deal basis – they are horrific, with a ton of strikeouts, but their slugging percentage is so enormously high with the Google’s and Youtubes of the world, that they produce superior returns.Investors in herds get away from their circle of competence – or comfortability and that is why it almost always ends in tears.Timing markets is very very hard – even more so in illiquid markets so sticking to your knitting is even more important.I’ve always been impressed by USVP – not because I really understand all the reasons you invest in the stuff you do – but because I am convinced that you understand why you are doing it – and it’s not because 6 other guys in your field are investing there.In order to be successful as an investor you need to have the ability to risk being alone (out of the herd) and wrong (contrarian),
Good commentary but I disagree with one thing. To me, contrarian and “market timing” are MUCH easier in illiquid markets, because the element of an emotional exit is necessarily removed.It’s easier to make money betting on the Jets (can’t exit, either win or lose) than it was shorting Enron.
It should be easier for sure, for, as you say, you are either right ultimately or wrong – there’s not too much grey when you have no liquidity. However, I do think that the pressure from LP’s and social pressure within an asset class is enormous. Everyone moved from online video, to social, and now to mobile (Ad Mob’s price tag probably had something to do with this) and so while it is easier to be contrarian (or simply sticking to your knitting) funds almost never do this. Look at Freds portfolio. He and his partners probably started looking at Twitter and Foursquare etc… long before they were hot (thus getting in early) so it looked contrarian at the time. Fast forward a year or so and he is part of the herd (likely just running along with everyone else who will sooner or later peel away). Given a snapshot in time you can be either.
True. At the end of the day, herd, contrarian, or lucky….you gotta beright.
Ooh. Not sure I want to be part of the herd!
Are you a photographer by any chance? the idea of capturing movement is really intriguing here. I’m reminded of Muybridge or Marey photo, both which capture movement.It sounds like an implication is how do you capture the herd. How do you know that elements of the movement are beautiful and important, and other parts are useless. And you won’t know until you set the camera to capture movement to discover what the movement is. That is the elements of social capital. What is movement?I really need to think about this one. I don’t have answers, because if what you are saying, then much like a camera, perspective will matter a great deal…
I’ve never made money on the Jets. They are the GM of football. Oh maybe that’s the Lions
We cal ourselves USV because there is another VC firm called USVPWe decided to avoid web video once google bought youtube. That function in the internet OS had been secured
Ahhh Fred, I love this post. Unfortunately, it applies to almost all business and markets.The reason is most people and businesses (including VC’s) are “prove it” types. They want data and a story that supports they aren’t screwing up. That their decision was sound. The only way to do this is with data. The more “hot” a market the more data that shows a good decision is being made.It’s the no one ever got fired for hiring IBM game. Most people, businesses, etc are playing; “not to lose”, not to “win”For most not running with the heard appear risky and if failure occurs is difficult to defend.I don’t think we are very tolerant of failure. To protect themselves people/businesses look to the heard because failing with the herd is a lot better than failing alone.
This is all true, but at the end of the day, the U.S. is the most tolerant to failure vs. any other country in the world. In fact, we almost embrace failure because it means you were willing to take risks (hopefully educated ones). If someone notices that you failed but believes the risk was appropriate, they may still partner/invest with you. Gotta love that.
NO doubt. I agree we are very tolerant of failure at the macro level. I say we are very intolerant at the micro level. We are very tolerant when we aren’t affected by the failure. We’ll hire on a money manager who has failed once as long as it wasn’t our money. Companies, investors, employers, people are very intolerant of failure when it affects them. Not too many companies promote the person with the great idea, that bombed.Society as a whole is tolerant. At the micro-level. Not at all.
seems reasonable. you’re right about the corporation’s fear of sponsoring individuals who unique ideas, even if they fail a few times. To me, this is the major problem with corporate america…and also why i hate to see all the big companies hoarding cash, which leaves less capital for the little guys!!
Assessing what is learned from failure is an interesting exercise.Do you want to invest with a guy who is 2-0 (two winners and zero losers) or a guy who 5-3? Or a guy who is 8-5?The other aspect of failure is the actual nature of the failure. Timing? Undercapialization? Bad idea? Integrity issue?Does a touch of failure make an entrepreneur stronger in the long run?Real world example — how does the Cheetah Woods — ooops meant to say Tiger Woods — mea culpa play out? Wreck the brand? Make it more relevant to the real world? Make Elin the first half billionaire golf trophy wife in history?Is he a failure personally and continues as a world beater on the golf course?
hahhaaha cheetah woods, i like that 🙂
Ahh, the Cheetah Woods saga. I hope that Elin Nordegren Woods tells Cheetah to push a peanut along the length of the Strip with his nose, sans clothes and with his arms tied behind his back. And only then will she consider taking the horn toad back.I love that she wrecked the car with a GOLF CLUB showing the gods have a real sense of humor, no?Ms Elin better get herself a quick STD test, a round of shots and a damn good lawyer.The Cheetah was keeping company with some fairly well used and indiscreet dirty legs which may turn out to be a very, very expensive endeavor. He better update his own shot records.How much is it on a per unit basis or how much is 20 divided into $500,000,000?The peanut routine is sounding a bit better.This will likely become the test case for brand strength? LOLWhen does he come out of hiding?
I’d like to back someone who is 10 and 3 personally
An Entrepreneur with a 10-3 score is unlikely to be under the age of 40! If they’ve got 10-3 they’re also unlikely to be in need of VC funding me thinks.
I agree. This may be our greatest asset in an increasingly competitive world
Failing successfully is diffult. So is learning from your mistakes.Two questionsA) best practices (we should make that public)B) One of the reasons groups like the New York Tech meetup works is that it makes startups, which can seem isolated to outsiders, unisolated. How do we make sure that when someone fails, they don’t fail alone (not in the herd sense, but in the support system sense). It may resolve some of those issues (although perpetrate new ones.
Once you’ve failed, its easier to fail again. The first one is the hardest
I’m a survivor of failure, not a victim of it. I’m either thriving or surviving!
. . . slight retraction.For some the first is too traumatizing. They pain is overwhelming. From that they intern avoid failure and risk at all costs.I think it’s a personality thing.
Ok how to you train people to get over the trauma?
I don’t think you can.
That’s an important message to hear. Thanks.
I’ve always viewed VC as the anti safe bet. It is supposed to be risky, and it is supposed to be a big win/big loss proposition (maybe this is a skewed perception). Are LP’s forcing this behavior on funds by pressuring for more predictable and steady returns?
No. The LPs are not to blame. Its the VCs
The big win/ loss or 20% win/80% lose or break even is not self ordained. There are people who have had the talent to bat close to a thousand here-they are just hard to find.I would posit that the greatest VC in history (one who looks for new big profitable ideas, identifies them, and creates businesses to go after them)is also the greatest entrepreneur in History-thomas edison- now he batted farther than any vc and he batted farther than any entreprenuer. He is out there now somewhere, waiting for someone to find him!!
far harder to innovate than imitate
In the investment business, there is a huge difference between being on the leading edge and being on the bleeding edge.Lots of money gets made by being the second guy to do anything. The first guy does it and the second guy does it right.The pioneers got the land and the second guys got the mineral rights.
I have only met Fred once when I was in NY early in November, on Veterans Day last month, and we chatted delightfully for an hour (he bought the coffee) but I would have to say that Fred is a pretty damn shrewd cookie. A good learner and a good teacher.He has successfully leveraged this blog into an enormous advantage as it relates to his deal flow and positioning — creating a unique selling advantage for his VC business. So, as a blogger — bleeding edge.As an investor, I think he is a classic very, very, very, very quick study and adaptor. So, I suspect he is a leading edge guy. But I would have to reiterate that he is very nimble.Where a lot of VCs seem to get a bit full of themselves, Fred strikes me as a guy who appreciates that his down to earth attitude is a great business generator and I sense he genuinely likes people, smart people preferably.I think there are damn few mineral rights which have slipped through Fred’s fingers.
One other quick observation — Fred runs a pretty lean shop. The coffee may not be ready when you get to work in a lean shop but it keeps you nimble and means you do not have to feed the overhead beast. More bad decisions have been made due to the necessity of funding the overhead than perhaps any other consideration.I am a huge fan of lean businesses. The most impressive thing about Berkshire Hathaway and Warren Buffett is how lean their operation truly is.
I learned that one the hard way. Investment businesses don’t scale well
The management of overhead is very important. I used to see a lot of financial statements from law firms when underwriting their leases. I was always amazed at how much more a partner made at some law firms.One in particular had very nice offices but when you peeked beneath the covers they used to refinish their desks about every 5 years, entertained clients on site, had a pretty tough capital decision making process, had a damn good budget, were very traditional in their tastes, carried no debt and a partner there made TWICE what a partner made at their perceived competitor.Lean also has an operational impact which is healthy for the bottom line.
This is going to sound like a shocker, but there are complaints that they don’t make enough compared to the kind of work they do for the banks, etc, because they are LLC structured. Their Law counterparts in financial firms have shares that trade, and make much more, and people are afraid that beyond the classes they kill off the top people will bleed to the finance industry (since a document is a document, does it really matter if you are in house or in a firm?)
LOL. Probably true. Pays to hang around here as a result.
That’s quite a compliment coming from you JLM
The pioneers got the land and the second guys got the mineral rights.I don’t know if you get bored with the accolades, JLM (I know I wouldn’t) but chalk another one up.
Hell, I’m just happy my brain is still working and I can fashion a coherent statement from time to time. Here’s another one after listening to President Obama’s West Point speech last night.No war was ever won by a guy in a suit or a teleprompter.
A master of language, like Churchill, would never have said that!How can a chap fit in a teleprompter 🙂
Haven’t you been following the TOTUS story line?The Teleprompter of the United States which has its own brain and personality and which is actually ruling the US these days. LOL
lol TOTUS…..as always, humor in truth
The early bird may get the worm, but the second mouse gets the cheese.
Amen. That’s how google did it. There were search engines before Google…
But not page rank which leveraged real people’s use of the web and linking to determine what was importantWas google a fast follower or a pioneer?I’d argue they were a pioneer
They were rigorous with their idea of what a search engine should be and what it should look like, how it should make money and how it should perform with users.But if I thought about ads with search engines, or just search engines in general, none of these are particularly new ideas. What they did was refine the idea down to the core and made them rigorous. That’s revolutionary But it also shows that they were exposed to search engines
Sometimes a business is both a pioneer and the fast follower. Remember when Dell originally got into the laptop business, their product was lacking, they recalled and bulldozed the entire lot of them, went back to the drawing board and have become a gold standard perhaps?While I make the distinction between pioneering and being a quick follower, sometimes the difference is revolutionary and sometimes it is evolutionary.
Almost all first movers lose the game. This is true for planes, trains, automobiles, search, and everything else.
We’ve not seen the second mover phenomenon in our portfolio that much. It certainly happened with mint and wesabe. But the fast followers didn’t catch indeed, delicious, tacoda, feedburner, twitter, tumblr, zynga, etc, etc. Foursquare and Gowalla will be interesting to watch
Herd mentality? http://neatorama.cachefly.n…
“Distress” investing is a subset of contrarian investing which is very, very, very lucrative. Its applications to the venture capital business will be for others to divine but I am sure they also exist.When markets are in turmoil there are always assets which dip out of favor, which are available at costs which are less than their physical replacement cost and which provide an opportunity to deploy a valuable skill which an entrepreneur possesses (the wholesale v retail cost dynamic).In the last great financial debacle (the S & L crisis), institutional real estate fell out of favor. Big time. Because of low occupancy rates, low cash flows, inattentive management and too high a cost basis funded in great measure by debt rather than equity.In the best cities in the US, you could purchase real estate at 15-25% of its original construction cost. So what?My investment thesis was very simple:Real estate was way, way, way out of favor and I was a contrarian.Real estate was going to recover……………eventually.It had to recover to physical replacement cost before new supply was going to be created.The period of time for recovery would also be a period of incubation to increase fundamental demand.I was a civil engineer with an MBA in finance and knew how to develop, build, renovate, lease, manage, buy-sell, finance real estate. My skills were available for free — well, for the price of the equity actually. I was buyng wholesale.I packaged up my idea, trooped around and kissed a whole lot of frogs, a couple of toads, and found a prince in London and in GE Capital. I got the equity in London and the debt (and finally the equity) from GE Capital. It did not hurt that GE Capital had a bunch of their own troubled real estate that I fixed along the way.My entire company consisted of pictures of buildings I had developed before, my investment thesis and a chart showing occupancy v rental pricing (which indicated an 18 month lag between increasing occupancy and increasing rent — the window in time).It took me a whole year to raise the first $$$ and about 13 years of work to become an “overnight” success. I met with all the usual suspects begging for funding. I was told “NO” in every language spoken on this and a couple of other continents. But I was damn sure of my idea.I built a company with extensive office, apartment, warehouse, office showroom, shopping center and land holdings and 400 employees.When the recovery took place, I sold it back to the same institutional class of investors from whom I had originally purchased it.I am in the midst of doing the same thing in a similar industry. I think there is a huge opportunity right now to find a bit of chaos, make order of it, deploy wholesale priced skills for retail values and to make a buck.
> It took me a whole year to raise the first $$$ and about 13 years of work to become> an “overnight” success. I met with all the usual suspects begging for funding. I was> told “NO” in every language spoken on this and a couple of other continents. But I> was damn sure of my idea.Love it. I’m with David: You’re worth the price of admission alone 🙂
That’s a cool story. Most people think of “entrepreneurs” as someone who created or invented something like Google or Facebook. However, spotting an opportunity or value mismatch and exploiting it is just as entrepreneurial and probably has much higher odds of success. You spotted a need – institutional property owners who wanted to/had to dump their buildings and filled it by buying them up at a value that allowed you to make a profit. Classic. I’m trying to do the same thing in renewable energy (commercial scale solar, fuel cells) right now.
I would love to learn more as I think solar is very interesting particulary where the local utility has the obligation to purchase excess electricity — electric meter running backwards stuff.If you feel like sharing [email protected].
Feeding the electric grid with power from solar?Recently US DoE estimated that the cost at the feed into the grid will be about 39 cents per kWh. In contrast, the US 2007 cost at the plant for power from coal was under 3 cents and nuclear, 2 cents. In August the wholesale price was 0.4 cents, and that price has been comfortably under 0.8 cents since 2000.Spain and Germany are cutting back on their subsidies for solar. In Spain, solar was costing them seven times as much as otherwise.As in the 2008 Governor’s conference, the bottom line confession by Doerr, Immelt, and Friedman was that “None of the alternatives can work without a carbon tax”.
I am not suggesting anything like a commercial application and believe me I am favor of the lowest cost alternative all the time.I think the cleverest thing we could do would be to build about 100 nuclear power plants — good jobs in construction and good jobs in operations while redirecting the hemorrhage of cash to the Middle East and making a first step toward energy independence.I am however intrigued by the micro application of watching the meter running backwards at a residential or small commercial almost for the novelty of it. I recognize that all such projects are not justified by finances by rather politics.
At least you admit it. Not everyone does. It makes it hard to have a good productive discussion.
Major Dude, you mix up your carbon taxes.What you should be thinking is the need to add a corbon tax to coal, an industry that has never included in its rate the cost on society. It is no secret that most of the lakes over 2000 feet elevation in N.E. no longer support fish due to acid rain cause my midwest coal plants.You add these type of costs to coal and its rate is much more than consumers are curretnlt paying
You seem to want a sulfur tax, not a carbon tax.
I remember seeing a similar opportunity when mobile phones first came out in Italy. They were priced for business, but the real money was with consumers. Trust me, Italians like to talk. Result: 15 bagger in 5 years.
I think the cell phone business is one of the most interesting metaphors for business and life. I remember meeting Craig McCaw when his vehicle was Cellular One and cell phones were — hold onto your hat — as much as $3000/unit. Remember the old Motorola brick with which you could drive a nail?His local manager, John Smith, told me that ultimately cell phones would be free, portable and that they would REPLACE hard wired phones. I tried not to laugh.While looking for the lobotome scars, I tucked those assertions into my brain and let them begin to germinate.What a visionary. He was right on all counts.Of course, he did end up getting divorced and paid his wife — a real Stanford brainy beauty — a smooth $450MM back when that was real money (are you listening Elin Woods?). He traded her in for a 10-year newer model, oh well.
I just saw those in a movie…I can’t believe you guys used those. I mean I can but those things were so funny.
Not to bore everyone too much with the details, but there is a similar herd mentality in renewable energy – including solar – as well. Companies pile into the highest subsidy jurisdictions, or highest tariffs or look for heaviest users and competition is such that nobody makes much money. However, there are niches and if you match the right technology and finance structure you can get good returns. That’s what we are trying to build our business on.
Solar and wind too. T Boone could not get over the transmission grid problem in wind and pulled the plug. Government makes the financial reality of solar’s price disadvantage go away with sheer, brute stupidity or political will.The City of Austin, Tx just committed to a $1BN futures contract on a huge solar array at a cost of 2-4 x its current average cost per kwh while passing on an expansion to the S TX Nuclear plant, the low cost supplier of electricity in central TX. Go figure.
Definitely a lot of politics involved in that deal as well. Solar may be 2-4X current average cost, but it’s probably a foregone conclusion that a carbon burden on all coal generated electricity is going to raise current rates in most jurisdictions. That’s where solar really “shines” over the long term. Nukes definitely have pluses and minuses, probably easier for politicians to punt and trade money for more environmental friendliness.That Austin deal IS pricey though. According to public info, the developer is building a 30MW solar park. Assuming it will generate about 42,000 Mwhrs per year, and getting paid $10M a year for the power, that works out to about $0.24 per kwh, which is probably about 2X the residential rate in Austin. Assuming the developer can take a 30% ITC on the park (figure almost $50M check from the government on a $150M installed cost) and the developer is getting about 10% a year (unlevered) before operating costs (which are pretty low) – $10M yr/$100M invested capital. Lever that up a bit with debt and it’s a nice deal for the developer.
About 4 times the base rate @ 500 kwh and about 3 times above that.
Wow you have cheap power in Austin. I am sure that is mostly coal supplied and the utility is making a bet that coal fired electricity is going to go up a lot in price.California average residential rates are north of $0.12 and heavier users get above $0.25 on their top usage tiers.Again, niches are everything in alternative energy, IMO.
Take a look at the rate card for Austin Energy (muni owned utility). I sent you the residential rates. Commercial is much higher. It is my sense that Austin Energy is a bit expensive, maybe just in Texas.The Tx v Cali utility cost is a big driver of business relocations to Tx. Well, the TexMex and BBQ have to be considered also.
You’ve reminded me of another reason why I love being an entrepreneur, and find the endeavour in general so interesting. If you’re not working on something that people think is obviously worth doing (i.e., valuable) and if you buy what I wrote above about the link between non-obviousness and the creation of highly non-uniformly distributed value, you’re into psychologically disturbing and interesting territory.By all that, I mean that I think it’s perhaps necessary but not sufficient to be in the position you were in, of having everyone under the sun tell you you’re wrong, refuse to invest (and sometimes even to listen), etc. If you’re *not* in that position at some point, for some significant amount of time, you’re probably not doing anything that’s non-obvious enough to make a highly concentrated fortune (how many times can I say the same thing?).Unfortunately it’s necessary but not sufficient. You have to be considered crazy by many people…. but what if they’re right? The needle swings wildly from madman to genius, and who can say where it will end up pointing? I find that tension exhilirating, though it took me a while to learn to accept it, to see it as a good sign, and to draw strength from it. The best part of the whole dynamic is that the outcome is partly in your own hands. You just have to make like an entrepreneur and: do stuff, build stuff, keep your head down, don’t write infinite comments on blogs, etc.I wrote more (if you can believe it) on this at http://blogs.fluidinfo.com/terry/2008/11/09/exp…Thanks for such a nice summary, I enjoyed it.
We are obviously kindred spirits as you have identified what I think is the greatest insight into entrepreneurship. And one that can only be made by someone who has traveled that rarefied ground.Entrepreneurship exists in the tiny space between madness and genius; and, its journey requires a few cross border violations across both madness and genius to get to the final destination.Being an entrepreneur is a curse. It is a disease exactly like being an alcoholic — one deal is too many and a thousand deals is not enough.It is not usually about the money but rather the thrill of the challenge. The inner strength that is fashioned by knowing that you saw something, captured the opportunity and in the face of long odds beat it into a shape that met your own personal objectives is the real payoff.I retired when I was 45 thinking I had the world by the ass and I did. I was engaged in a deep course of self discovery and went to therapy/counseling twice weekly for 3 years trying to discover who I was and what made me happy and what I should do with the rest of my life. I thought I would stumble upon some hugely noble undertaking which would change the course of civilization.When asked what I did my children used to reply — he’s unemployed and in therapy. I used to get a lot of sympathetic gazes from the Moms at school gatherings.I also was shooting scratch golf, sailing, driving the car pools, shooting skeet and sporting clays, flying, hunting, skiing and generally enjoying myself but I had an insatiable feeling of ennui.My therapist had an expertise in selecting Fortune 100 boardmembers for compatability and she subjected me to a long, long battery of tests and worked out a couple of knots in my psyche.Long story short — my ideal existence was to be floating in the ocean, solving thorny problems and bossing people around. Not exactly the calling of Mother Theresa.So I went back to work. And I am constantly on vacation and constantly working and I am trying to enjoy the curse of being an entrepreneur.
We may be kindred spirits, but you’re much funnier than I am. Here’s a wonderful extract i posted that captures something of the crazy dance. Click on the Orwell/Eliot link too, it’s worth a read.http://blogs.fluidinfo.com/…
This is fantastic:Entrepreneurship exists in the tiny space between madness and genius; and, its journey requires a few cross border violations across both madness and genius to get to the final destination.Too bad its longer than 140 chars or I’d tweet itI am gonna reblog it on tumblr when I get to a computer
i just reblogged that line on fredwilson.vc and then tweeted it out. it’s the line of the day JLM
Brilliant! I missed this gem …till you pointed it out.
JLM – That was fantastic, and it resonated strongly with me. The line that Fred grabbed hit so close to home I had to point Fred to my Twitter background (http://twitter.com/uniquevisitor), which is testament to how I feel most days – the blessing and the curse of vacillating somewhere between Carl Spackler and Albert Einstein without warning or rhythm :)I also used the line in my Posterous header (wasn’t sure exactly how to give attribution) at http://uniquevisitor.net. The beauty of the whole exercise is that the latest post was “Muppets Perform Bohemian Rhapsody at 1080p”. Somehow seemed just about perfect. Thx!
Not exactly the calling of Mother Theresa.A successful entrepreneur can also do good. I suspect Indian entrepreneurs such as Gautam Adani have pulled more of their countrymen out of poverty than Mother Teresa did. It’s noble to comfort the poor and the afflicted, but a successful entrepreneur can have a bigger impact in raising living standards. And if he’s a philanthropist — as many are — he can also fund Mother Teresa-like operations as well.
Yes and its even possible to drive this point further and say capitalism has risen more out of suffering than charity. Nonetheless, this effect is a byproduct of capitalism and not a direct goal of capitalism. A nyway, the job is half done; and charititable orgs that specifically target problems in society are still desperately needed. Their job is thankless and endless, every year having to raise money again to keep things going.It is great today that the engine of capitalism is being used more to address societal ills. Most of these endeavors are in troubled areas where an actual product can address the problem (medicine, environment, energy,etc)Our company cultural identity stands on its own as a business proposition-but , as a natural by-product of our business we help many first generation american immigrants and also are able to be one more straw on the camles back fighting cultural intolerance, hated, racism, etc.
That is so true. It is how do you balance it so it doesn’t drive you nuts.
For successful entrrenuers/innovators, I think the oppositeA successful entrepreneur is generally the most rational; it is the critics and naysayers who are ultimately proven irrational.
Great comment, Terry.You captured the essence of the innovator’s state of mind. The key question, I believe, is what separates the winners from the losers; the penny artists from the Picassos? It can’t be just talent, because I’ve seen some amazing (penniless) street artists.I don’t know the answer. But I hope it’s more than just luck.Oh, and I agree – writing endless blog comments is an unlikely path to success 🙂
Hi DavidI don’t know either. I tend to think it’s unknowable. If there was an answer, the entrepreneurial and investor worlds would (probably) look very different. You can only think you know. But, just for example, how could we factor out the distorting impact that receiving an investment has on the successful outcome probability distribution? As I said in one of my infinite posts, I think entrepreneurs are much more up front about the influence of chance. Unlike (some) VCs, they’re not in the business of convincing people they have a long term knack of being able to distinguish madness from genius. Perhaps that gets us back to the herd theme, not that I would claim that it’s any easier to accurately finger value amongst the larger pool of entrepreneurs who are doing things significantly less likely to be wildly misguided.
I would say less so. definitely the guys who start an investment industry are very entrepreneurial. I had some guys from wall street come speak in a class of mine, and they spent about 10 minutes lamenting how Banks have changed from being very entrepreneurial to very corporate, and that they understand why, but that they don’t like it.And there I am, sitting in this class, I even end up having this pointed discussion in front of my class with one of the guys over the future of mobile web and net neutrality, and realizing that I’m not sure why my entire class wants to be them, but doesn’t want to argue with them. Where is the fun in that- no wonder the spirit is gone, no one is hashing out any issues, no is sitting there and thinking and then building something.it was kind of lonely…
Can I be you? Just for the day. That’s an inspirational message about the value of hard work.
Sure, just be careful which day you pick because I have had some real bad ones along the way. Oh, and BTW, my wife is re-decorating just now so be careful. LOLI would trade everything I have, half of what I would make for the rest of my life to be your age and know what I know now.The only real equality in the world is age and time. We all get just 24 hours in any day. It’s how we use them that makes all the difference.
I was raised differently. I value your wisdom. I can’t gain that without lots of life expereince and hard work. I’m too young to have what you have, and I will always be catching up. And as odd as this may seem, I rather be in the position of being wise, than be in the position of full of energy and having all the choices in the world. I feel like it would make the act of choosing easier the future easier.(Though if your wife likes Dwell,the magazine, we’ll get along just fine about the decorating. Really. I’m definitely girly in life)
Remember, youth has value tha experience does not. Most of history’s great scientist , pilosophers, statesmen, were very young, often under 20 and the majority no later than 30 (same can be said for music).
First off, we tend to publicize you, and not value the work (and often creative work) of someone older. often there is a lot of it if you look through the numbers.Secondly, it’s a totally different field of perspective. I wish I could just borrow it for a moment. I’ll never be able to. but still.
When looking at physical replacement cost how do you value the land? At zero?
In my approach, the land is just part of the cash generating engine and therefore is plugged into the model as part of the fully developed cost. No special treatment otherwise.When I was in the business, suburban office buildings were costing approximately $130/SF NRA to build all in — every cost accounted for including design, construction, marketing, void funding (the cost of interest until reaching breakeven), financing (assuming 55% AOLB until breakeven), development overhead/fee and contingency.I was buying $130/SF NRA (net rentable area as defined by BOMA — Builders Owners and Managers Association) for $20-30/SF often with the seller providing financing at below market rates. That was the market and believe me, folks still had a hard time swallowing the numbers.CBD office buildings $150/SF @ $30-40/SFSuburban office buildings $125-130 @ $20-30/SFApartments $60,000/unit @ $15-18,000/unitOffice showroom $60-80/SF @ $12-16/SFWarehouses $30-50/SF @ $10-12/SFShopping centers $80-90/SF @ $15-25/SFI miss the RTC. The simple truth of the matter is that if I had paid the asking price for each and every deal that came over the transom, it would all have turned out OK.
I wish I had the money to do this. and understood how. Just to have that sense of savings/income stream. Just saying.
A former client of mine is working on starting a distressed real estate fund today. He’s still in the kissing frogs stages though. Like you, he got his feet wet during the last real estate bust, but I think he was more on the hard money lending side. He’s teamed up with a former REIT guy for his current project. I should check in on him and see how the frog kissing is going.
I know a really excellent REITs lawyer if he needs one. Really really excellent.
Yes, I did this too in New England, although I was not able to raise money for a big play, i did end up owning 6 2 families in New england that i bought from Treasury Dept, Freddi Mac, and other Govt agencies between 1993-1998 using just a modest salary and 20k down in deposits. The closing terms on winning bidders were not consumer friendly and weeded out many bidders; often the properties were occuppied and tenats could legally prevent biddrs from going inside (a $100 bill got me in more than once when other bidders didn’t get inside. Auctions were announce 10-15 days before the auction; I go good at learning a market in 2 days. Almost always, I was able to win with a bid about 60% of the current market price. Occasionally, I had to clean dirty titles (the fdic didn’t close on many properties cause the titles were dirty. If you were smart, you would fix them yourself. On every property I bought, rent more than covered my mortgage)I made a few hundred thousand, but the game was over by 1998. Its back today, although its a different play (back then the banks owned the mortage and if they went bankrupt the FDIC ended up with the property-today investors own the mortgages). In fact if you are interested, I live in Allston MA where Harvard has bet it future on-but the fiscal mismanage has has caused o sudden stop-There is huge oppertunity here now and certaily this is one of the intellectual capitals of the world and one can safely bet on its future.Incidently, most competing bidder were immigrants (pooling there meager savings together) And I guarantee that if any of them raised 5 million, they coyld have turned it into 30-40 million. Ultimately, real estate is one of the best and easiest and low risk ways to create wealth.
In short:Be where the herd is not.
Good post and bang on re: the iliquidity and fact that you should not, as long term investors, be swayed by what’s happening in the public markets. Still, we are all governed by swings in the public markets.NASDAQ dropping should theoretically have no impact on new investment pace if you assume it will go back up before your exit timeframe. Yet, we do see (and certainly did see last September) a big drop in new deals when the market value of acquirers like Cisco, GOOG, etc takes a hit.We see the same thing even in markets like oil. Crude prices go up and immediately we get hit at the pump even though that gas was processed months ago at different costs.To your point, the best investors can and do ignore the near term noise around them and focus on the fundamentals and long term view.One last point is that herding can be beneficial. Ron Conway probably pumped up the real time sector interest significantly just by announcing he was focusing on it
You have identified what is perhaps the most important aspect of the herd — the herd has a leader, a bell cow, somebody who creates inflection points in the herd’s direction.When somebody like Warren Buffet starts buying PLANES (Net Jets, hugely bad investment) or trains (Burlington Northern, who knows yet?), the herd follows suit without any more due diligence than — “Hey, did you hear what Berkshire Hathaway and Warren Buffet just bought?”Influencers are an interesting phenomenon.
The same is true of employment. My college buddy went into accountancy because he heard there was a shortage of accountants, but by the time he’d qualified there was glut. About four years’ ago he jumped on the sub-prime bandwagon (and we all know what happened there).If he tells me he’s going to become an entrepreneur, I’m outta here!
David, I know you were speaking in jest, but it still made me think that IMO there can never be a “herd” of entrepreneurs (other than maybe in SV in 1999!) because (a) it’s too hard for the vast majority of people and (b) you have to pay your own way!
Well, only half in jest. Never say never.What if the government were, for example, to give first-time entrepreneurs a 10 year no-holds-barred tax break so as to stimulate the economy and get the unemployment rate down?Bubbles always have a root cause of irrationality, somewhere….
Many things are cyclical over a long period of time and they continue to follow the same cycle even such obvious things as the big cap, mid cap, small cap, foreign investment cycles.I always used to say about real estate: “When the dentists get in, get out.”Next time you go get your teeth worked on ask the dentist where they are putting their money — short it.
ha ha …..that is just priceless JLMI’ve been looking for a mentor, for a business I have just started, I wish I could find someone like you to meet up with once a month, buy them a good dinner or lunch and chat through stuff, however actually thinking about it, you have become my online mentor with your posts here!…so thanks !
Are you at least going to send me a pizza? LOLOn a serious note look into TAB, The Alternative Board. It may be useful.
not sure if Domino’s deliver from the UK to Austin ! but next time I’m in Dallas visiting my brother in law, I’ll drive down and buy you lunch.Thanks for link, it’s what I’m looking for but I need to find a credible UK alternative.
Governments already spend a fortune on churning out dependents. Look at Britain, where we spend on average £200,000 ($350k) per university student training them to qualify in something or other so they can go and work for a nice employer for the rest of their life.Talk about creating a culture of dependency. There’s no “security” in salaried employment. Better to create your own security yourself by becoming a successful Entrepreneur.
Important notes on a herd.the fastest member of the herd runs no faster than the slowest member of the heard.If the leader of a herd goes over a cliff, the rest of the herd will go over two casue they can’t see whats going on.The herd has huge value in many ways. Stenght in numbers, etc. But I would rather be the scavanger following hte herd, picking off the weak, watching, waiting, analyzing.You are more vulnerable than members of the herd, but if you are smart you can make it work
That was good for those who were in it already and bad for everyone who is now following him
This is why so many Fortune 500 companies were started in the worst economic times.
There’s a very important timing issue that you gloss over here. Does herd behavior result from an avalanche of people, or a synchronized shift in behavior?New research suggests that much of this herd behavior in fact derives from shared characteristics of the herd rather than a contagious spread of information.http://brokensymmetry.typep…One of the most surprising consequences of cheaper information is the increase in volatility in market prices. In many markets, noise no longer dominates over signal. In effect, these herds are making or adjusting rational bets in synchrony. One consequence, as you point out, is that one must be asynchronous or longer term in time horizons to find margins of safety.Another is that Gaussian statistics are no longer a reliable a model of market volatility — even to the extent that they were considered reliable by savvy users of VaR (i.e., as a minimum measure of risk). In a world in which everybody is interconnected, market prices start to look more like airport traffic patterns and less like brownian motion.
Good point re: Gaussian stats, I think Taleb would agree. So what is the new model for investing if traditional statistical methods are defunct?? I would suggest it has something to do more with insight and forward thinking rather than models based on historical patterns. This is even more true in this new technological age which seems to be revolutionary, making old models exponentially more DEFUNCT. Disruption happens faster!
This is an interesting discussion you all are having. I gotta stew on this stuff
Wow. Lots to think about with this comment. Good stuff!!
When you refer to the lower cost of information, is that the same thing as everybody getting the same information at the same time (a la a more perfect market)?I beleive these two concept are interlinked, but not equivalent
“Sheep have only two speeds: graze and stampede.” -LTC (RET) Dave Grossman
hahahaha, pretty damn…………………………………..funny
I think there are two approaches that work in the venture business. One is the contrarian approach. When everyone wants to be a consumer web investor, do software as a service/enterprise. Go where the money isn’t.Contrarian can work in the public markets, where lack of attention generally translates into lower multiples, and can hence create value opportunities. In early stage tech, defining your investments *solely* on the basis that nobody else is interested seems a bit irrational.Or you can just be earlier than everyone and anticipate where the herd is going to be next. That is really hard, maybe too hard to do well over a sustained period of time.This second one is really a refinement of the contrarian approach. Not only are you on your own, you’re also there first. Personally, I think this is where the great investments come from.
Herds, or streams? I do believe there is a herd layer, don’t get me wrong. But I also see a similar dynamic which balances individual action and community interest (rather than landslides and arbitrary shifts, or whimsical sways). It is subtle but not for long.Being able to track the various streams of intention allows for a spectrum of colors to result. The clarity itself is a basis for confidence (without any “external” insight or influence). This is objectivity, but I don’t see people doing this, besides a few researchers, and some feared neurologists.Right now there is an induced lower standard keeping people away from being individual, so herds are our history. Removing this hard to maintain intent impediment make herds impossible. It is an evolutionary shift of changing food sources (in consciousness).It is like the difference between threaded and individual email, or irc vs. twitter… not like fish to bread. We are almost to a point where the standards people hold for their content will condition the environment to be well organized. Herds will die out, and digital natives hunting them will be forced to adapt to an individual confidence base.Mad Love //de 9 Keme
*The herd mentality* is present in the investing community but I believe those that invest with momentum (or the herd) are not truly investors but rather traders. Today’s stock market is a prime example. Stocks today are incredibly volatile because so many people are rushing in and out of stocks. To me it is ridiculous for a billion dollar company to lose 10% of its value only to regain it in the next week. This is all due to that herd mentality of being pressured into and out of investments.*Real-time* is the phrase/words that I think defines the future (I am sure many will agree with me here). Its no surprise that people are following and changing their investments based off of real-time knowledge, information, and TRENDS. Twitter has given us a taste of how much people love to follow and contribute to trends that are happening right now.-Tony M.USD Sophomore and Internet Entrepreneur
Ah, COME on, guys: This ‘can’t know’ stuff is sickening down to the point of upchuck. So is the got to be nuts claim.Yup, the ‘herd’ believes this stuff.Of COURSE can ‘know’ in advance. Overwhelming evidence is sitting right in front of you and has been for decades.With US national security, you are all enjoying some of the more important benefits.Yes, maybe can overcome being nuts, but it’s not necessary and doesn’t help.Example 1: Szilard drove out to Long Island. Six years later, what he claimed worked as he predicted.Example 2: Teller and Ulam had an idea, and soon the energy of something over 10 million tons of TNT confirmed their prediction.Example 3: Ever use a GPS? Some of the first work was done at the JHU/APL for the Polaris missiles. No one in the halls there had any question the ideas would work.Example 4: In the last Gulf War, an Iraqi tank was parked tightly between two buildings, but a US missile was a direct hit. An Iraqi officer said, “American military technology is beyond belief”. Is if don’t understand it, but the people who designed that technology understood in advance.Example 5: F-117 in first Gulf War.Example 6: Getting an H1N1 shot this winter? So, you believe in the biomedical means of predicting in advance.Can such apply to ‘information technology’? Can more powerful ‘information’ be valuable? Uh, what is ‘information’? Hint 1: Get a good definition and, then, get a lead on some means for generating it. Hint 2: It’s NOT computer science, artificial intelligence, or heuristics.Or:”It is still an unending source of surprise for me how a few scribbles on a blackboard or on a piece of paper can change the course of human affairs.”So, what “scribbles” did he have in mind?Speak for yourselves, guys: Uh, I did some “scribbles” and wrote some corresponding software, understand in fine detail, and am NOT nuts.
You confuse the mission of goverment investment and R&D science with the challenges of for profit businesses. All the examples you refer to were theories at first until and later proven by R&D. Not Einstien, not Teller, not the Hungarian dude who brought the formulas to eitstein in the first place, had any kind of certainty that it would work. They all had too many failed theories in the past to be so arrorant. Further, every example you site could never have been developed by the private sector-the costs and risk are so mamouth only a goverment could afford it.Samrt bombs were 50 years onthe drawing board before the became deployable. GPS was concieved in the 1950s (Trivia- The sceince fiction author Ray Bradbury created this theory and also the theory of the geodesic sattelite-no scientist came up with it!)VC is not R&D!
There is something about my points you very much resent, and with your anger you are not paying good attention to what I wrote. E.g., I never claimed that VC is R&D.My main point, in response to several comments on this thread, is that it is possible to see in advance and don’t have to be nuts.The military examples are good because of how clearly people, who were not nuts, did see about such big projects so far in advance. So, seeing in advance is possible. My claim is proven.There are also many examples of military projects that were quite small, plenty small enough for private companies, where some “scribbles” were sufficient to see clearly in advance. Some of these I did while working myself through grad school.Your claim that no one could be sure Szilard knew what he was talking about is silly: There were some questions about how to get to a plutonium bomb, but the uranium bomb went ahead, without testing, just as Szilard envisioned. He was right six years in advance and for the right reasons. Teller and Ulam were also right. And the Skunk Works team that did the F-117. For such projects, people saw clearly in advance. Similarly for GPS as done by the JHU/APL.For knowing in advance, the big difference between (A) the US DoD and (B) current commercial information technology is not big projects instead of small ones but that (A) can evaluate the core technical work and (B) mostly cannot. Biomedical venture capital may be about as good at seeing in advance as the US DoD, NIH, or NSF.One of the very best ways to meet “the challenges of for profit businesses” is to have some new, unique, defensible, very powerful technology that yields some very valuable results. At times, the power can be clear well in advance from some “scribbles”. But, as your post illustrates, the commercial information technology herd doesn’t have any respect for “scribbles”. Thankfully for US national security, the US DoD ‘got it’ on this point decades ago.As you have illustrated, the commercial herd will have to be dragged kicking and screaming before they ‘get it’. The flip side here is an opportunity.
Trust me my friend, I don’t resent you and have no anger either. In fact I am highly humored and entertained by these intriguing posts by Fred; particulary the diversity of thought by the commentors. Intellectually engaging.I know you did no claim R&D is not VC;but your examples were all R&D used to comment on the entreprenerurial world. That led to my comment.I am an inventor and have a buncvh of patents. I think them thru in my head, and put them on paper. But I always have to go to protyping to proove the concept.as you say, all of the examples you give were proove correct-that does not negate my statements that many theories put forward by equally great people did not work. You don’t see all the other great military project that failed upon prototyping. All the the different medecines that ultimately are rejected by the FDA- and by the way failure does not mean you are nuts- you gave it your best shot and move onto the next project.Regading Einstein, Teller et al., I said they didn’t have any kind of certainty-more clearly they did not have 100% certainty- of course they were highly confident it wold work- all three at one time or another had high confidence in other theories that didn’t work outThis same thing happends in the busienss world. VOnce again, I value your comments but be prepared for retort as I am as well. Validity is alway needed.
That’s for sure.
Yesterday, I read a savvy, numerate investor remark that gold investors were acting like a herd now. So I piggybacked on his idea to buy a handful of Jan 10 GLD puts. They’re up 80% today. Going against the herd FTW.
Thanks. That got me my 15 seconds of Twitter notoriety in a tweet by @howardlindzon: welcome to the stream and great $gld put trade from @davidpinsen (now get a proper bio and avatar on desktop) http://stk.ly/71HfmN
The first approach you mention reminds me of Oscar Wilde’s quote, “Everything popular is wrong!”I believe Warren Buffett has a similar investment motto. Thank you for sharing this.