How many venture funds does an LP need to be diversified?

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There is no single right number. The answer depends on how much you plan to commit each year, how many years you will keep committing, and what you are trying to diversify. A program that commits to a few funds a year over five or more vintages is usually more diversified than one that commits to many funds in a single year, because venture outcomes vary so much by vintage. Count vintages and underlying companies, not just funds.

Four kinds of diversification

  • Across vintages. Funds raised in the same year deploy into the same market conditions. Committing steadily over several years is the most reliable way to avoid concentrating your program's results in one cycle.
  • Across companies. Each fund already holds many companies. Ten seed funds with twenty-five companies each give you exposure to roughly 250 companies, minus any overlap. Check for overlap, because managers in the same networks often hold the same companies.
  • Across stages and strategies. Seed, early stage and growth funds behave differently in pacing, loss rates and time to liquidity.
  • Across managers. Different people make different decisions. Manager diversification matters most where judgment varies most, which in venture is nearly everywhere.

Why concentration in venture cuts both ways

Venture returns are heavily concentrated in a small number of companies. That means a small program can miss the outliers entirely, which argues for breadth. It also means a program spread too thinly across too many managers can end up holding an expensive index of average outcomes, which argues for selection. Most allocators resolve this by being deliberate about both: a manageable number of managers they know well, committed to across enough vintages to smooth timing. See Does venture follow a power law? for the research behind the concentration claim.

Sizing to what you can sustain

Start from the annual commitment you can keep making for five to seven years, including in a weak market. Divide by a commitment size that is meaningful to the managers you want and that your team can monitor properly. The result is the number of new relationships per year your program can actually support. A program that commits heavily for two years and then stops is less diversified than its fund count suggests.

Questions to settle before committing

  • How much can you commit each year, and for how many years?
  • Which stages and strategies belong in the program, and why?
  • How many manager relationships can your team monitor well?
  • How will you track overlap in underlying companies?
  • What share of the program is reserved for re-ups with existing managers?

Related questions

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Sources

This page describes portfolio construction principles. It is not investment advice for any particular investor.