Key Takeaways
- Most VC underperformance comes from position sizing, not deal selection.
- Diversifying too widely guarantees average outcomes in a power-law market.
- The best funds make concentrated bets and then support them actively.
The data on venture capital fund performance is not flattering. Most funds, when measured against the public market equivalent over the same period, do not beat it. The ones that do are a small cluster at the top. The question is why, and the answer is almost never what people expect.
The Diversification Mistake
The instinct when deploying capital is to spread risk. Put money into 40 companies instead of 20. Make smaller checks. Hedge the outcome. The logic feels sound in a normal asset class. Venture capital is not a normal asset class.
In a power-law market, a handful of returns drive almost all the value. The top one or two companies in any fund cohort generate more than the rest of the portfolio combined. When you spread capital across 40 companies instead of 20, you dilute your position in the winner. The math of that decision is brutal over time.
Saim Abbasi saw this pattern clearly when analyzing fund performance data before launching Iron Key Capital. The funds with the best ten-year returns were not the ones with the most diversified portfolios. They were the ones that made concentrated bets and then doubled down when the evidence got stronger.
Reserve Ratios and Follow-On Discipline
The second structural mistake is underinvesting in reserves. Most early-stage funds allocate 50 to 60 percent of capital to initial investments and hold the rest for follow-on. The better-performing funds hold more, often 60 to 70 percent in reserve, because the follow-on rounds in your winners are the highest-conviction capital deployments you will ever make.
You know the team. You know the product. You have seen how they handle adversity. Putting more money behind a company that is clearly working at a Series A or B is not additional risk. It is the highest-information bet in your portfolio.
The Discipline That Matters Most
Portfolio construction discipline is harder to maintain than it sounds. When you have 18 months of runway left in a fund and three strong companies that have not yet reached their next milestone, the pressure to write more checks is real. The funds that resist that pressure and wait for conviction tend to outperform the ones that deploy on schedule regardless of quality.
Saim's rule at Iron Key: never write a check because the fund needs to deploy. Write checks because the company deserves capital. The distinction sounds obvious. It is the thing that separates good funds from great ones.
"Venture capital is a power-law game. Optimizing for avoiding losses is the most reliable way to generate them."