Don’t Put All Your Eggs in One Basket - Vintage Years and Angel Investor Diversification

Don Quixote is the face of restaurants, multiple statues, and one of the most powerful investment lessons:

“It is the part of a wise man to keep himself to-day for to-morrow, and not to venture all his eggs in one basket.”

Although Miguel de Cervantes released Don Quixote over 400 years ago, the message is still relevant, and very real. Diversification is a very common message from financial advisors, or anyone that’s taken a finance class. Hell, even I was well versed in how to build a diversified portfolio as a 19-year intern at John Hancock. But, diversification is not necessarily straightforward with angel investing (or venture investing). 

The oversimplified message is to invest in at least 10, ideally 20 individual companies - or invest in a fund (that should have 10+ portfolio companies). This often repeated advice is one of the first things a new angel investor will hear, and it’s technically not wrong. However, there is a lot of nuance missing.

Most funds focus on a specific stage(s) or industry, with portfolios ranging from ~10 to potentially 100+ portfolio companies. Later-stage funds typically have more concentrated portfolios, and earlier stage funds usually have more portfolio companies. There are lots of reasons for this difference, but I’ll leave fund portfolio construction for a future newsletter. 

Newer angels will often invest in 1 fund, or 5-10 individual deals in a year or two, and assume they’re diversified. While the fund may be a generalist fund, and the individual deals might run the gamut from B2B to B2C and medtech - they’ll all be bound by similar vintage years. Vintage year diversification is rarely talked about in angel investing circles, but should be a core topic. For example, most deals or funds from 2019-2021 are going to really struggle. But, deals or funds from the early/mid 2010s are more likely to have great returns. 

Every vintage is going to bound most deals and funds - since the investments were made in the same environment, and the companies will likely exit around the same times as well. If the venture market is heavily tilted against investors (2020-2021), solid returns are generally much harder. If the venture market is attractive to investors (aka lower valuations), and the M&A market is strong years later (when those companies are selling), returns should generally be much higher. In grossly simplified terms, the entry and exit conditions of the venture/M&A markets will dictate the bounding of a vintage (along with the macroeconomic environment in between entry and exit). 

Now, some of you may be asking, how do I diversify across vintages, and try to build a balanced portfolio?

I’m clearly biased, but I still think most angel investors should just pick a few fund managers that they believe in, and invest in 2-3 funds with them. Most funds will give them exposure to the asset class and vintage – doing multiple funds gives them exposure to multiple vintage periods. And when it comes to early-stage (pre-seed, seed, and possibly A too), an investor needs a big bucket of portfolio companies for proper diversification. There is no exact threshold, but I still think having 50+ deals is optimal, across at least a 6-8 year period (SVB suggests 8 years). 

While angel investors can make their own decisions, I still see far too many doing one-off deals, or doing one fund and then disappearing. If an angel writes 5-10 checks for individual deals, they’re not remotely diversified. If an angel invests in one fund, or even several funds in the same vintages, they’re not very diversified. However, if an angel consistently allocates money to funds or deals over a longer period of time, they should have a more diversified portfolio (and their eggs in different baskets).