E318: The Biggest Mistake Investors Make When Building a Venture Portfolio

0:00David Weisburd:You've spent nearly two decades at Cambridge Associates really building portfolios for some of the top institutional investors and family offices in the world. How has that experience shaped how you look at asset management today?

0:12Michael P. Larsen:I think that longevity in the role is really the superpower. That longevity gives you the patience. It gives you the perspective that are required for success. And when I think about the decisions that I've made on behalf of clients in terms of recommendations or investment action over the last three years, I have no idea yet how those decisions will age. But I have a lot more clarity on how those decisions I made back in 2010, 11, 12 have behaved. And I think it's important that you remain in place to see the fruits of those decisions. I think that culturally too, we're a very open source firm.

0:54Michael P. Larsen:Every GP meeting we have at Cambridge Associates is an open meeting. And so in 19 years and change, I've sat in on about 5 ,000 manager meetings. So a year at CA in this seat is a dog year at a typical endowment office or family office. And so the amount of game film of understanding what works and what doesn't is very formative to how we look at things. Ultimately, you have to have longevity. And I think it's perilous to move on quickly and not see through the decisions you're making to their eventual outcomes. Venture capital is idiosyncratic in how you create a portfolio versus other asset classes.

1:36David Weisburd:Because most asset classes, they're not subject to the power loss. A good investment is a good investment is a good investment. In venture capital, a lot of it is about putting the right parts that together make a great portfolio. Talk to me about how you put together a venture portfolio versus, say, a private equity portfolio. What are the key differences?

1:52Michael P. Larsen:One is what you're looking for. Private equity and venture capital, there's a lot of light space between them. Private equity is often about process, underwriting the value impact that you can have on every investment. Venture capital is a completely different animal. It behaves differently. to your point on power law, the results are dramatically different. And so I think key things we're looking for are right to win, network centrality, brand, both institutional and personal. These are the things that I think will play a bigger role in success. In terms of portfolio construction, manager selection is not to be underestimated.

2:30Michael P. Larsen:It's a vital part of the puzzle, but it's not, in my mind, the most important piece of the puzzle. When you look at how the best performing family offices over the past several decades, what they do differently. One of the things that they do differently is they are larger in their footprint in venture capital and private growth asset classes than their peers. So the size is just as determinant of success as the selection behind it. And it's somewhat non-obvious, but if you have a 40 % allocation to private growth, inclusive of things like venture growth equity buyout, odds are you will outperform one with exceptional manager selection that's only allocated to 30%.

3:14Michael P. Larsen:The other thing that I think the best performing pools institutional or family office have in common is probably the least sexy thing, but it is governance. It is the ability to make a plan and stick with it. And that might sound simple, but simple is not easy because we're all human beings because the world around us is changing a lot and there's there's always going to be challenges if you have to re-legislate your asset class strategy when you're trying to make a manager recommendation a re-up decision then that is a big point of friction to having a durable footprint in venture capital it can break continuity it can sever your credibility your relationships and so it's really important i think to have the governance very very thoughtfully put together that affords you a chance to build.

4:05Michael P. Larsen:It's like building Central Park. You're building Central Park. What you're doing is you're trying to build a future you can't see yet. And that's the daily job of implementing venture capital. You're laying the groundwork knowing that it's going to be years before you have real good visibility into how well it's going or how, you know, if you've achieved your objective. And so it's the ability to withstand all of those outside pressures, pressures on it being too illiquid, too expensive, coming at the expense of other parts of the portfolio that may be doing very well. It's the commitment to something bigger than yourself and bigger than the task at hand and seeing a future that you can't really quite visualized yet.

4:52And so we have no idea what 2035 to 2040 will look like.

5:02Michael P. Larsen:We're trying to make decisions today that will age well over that type of timeframe.

5:07David Weisburd:A family office comes to you. There's a liquidity event. They're looking to build out a venture capital book. What are the first principles? How should a family office in 2026 build out their venture capital book? One of the hardest things of investing is seeing what's shifting before everyone else does. For decades, only the largest hedge funds could afford extensive channel research programs to spot inflection points before earnings and to stay ahead of consensus. Meanwhile, smaller funds have been forced to cobble together ad hoc channel intelligence or rely on stale reports from sell side shops.

5:37David Weisburd:But channel checks are no longer a luxury. They're becoming table stakes for the industry. The challenges have always been scale, speed and consistency. That's where AlphaSense comes in. AlphaSense is redefining channel research instead of static point-in-time reports. AlphaSense channel checks delivers a continuously refreshed view of demand, pricing, and competitive dynamics powered by interviews with real operators, suppliers, distributors, and channel partners across the value chain. Thousands of consistent channel conversations every month deliver clean, comparable signals, helping investors spot inflection points weeks before they show up in earnings or consensus estimates.

6:13David Weisburd:The best part, These proprietary channel checks integrate directly into AlphaSense's research platform, trusted by 75 % of the world's top hedge funds, with access to over 500 million premium sources. From company filings and brokerage research to news, trade journals, and more than 240 ,000 expert call transcripts. That context turns raw signal into conviction. The first to see wins, the rest follow. Check it out for yourself at alpha-sense.com slash how I invest.

6:42Michael P. Larsen:step one is figuring out what you want to achieve and the tools you have to achieve it and one is establishing like what is the footprint of tolerable illiquidity you can have and that's a function of everything it's a function of size spending the you know generational setup of a family but ultimately we want to use our first interactions to determine the rules of the road and what flexibility we have to tolerate illiquidity. And generally speaking, the more illiquidity you can tolerate, the longer out your horizon can be. And the more you can have access to asset classes like venture capital.

7:24Michael P. Larsen:So that is step one. Step two is establishing the cadence by which you're going to commit. In the early days of a portfolio, life is fairly simple. You have a pipeline of potential opportunities. Oftentimes these opportunities represent a mix of establishment firms that have, we've been underwriting for a long, long time, maybe some new establishment or more emergent groups. You have establishment and emergent, you have generalists and specialists. And so if something is an establishment and it's generalist or like a core role player, that is a larger commitment opportunity. whereas if something is like hyper-focused as in a specialized gp that's doing one thing specifically maybe it could be biotechnology for instance then that special is specialization you know maybe it's like even combined with if it's an emergent idea is going to conspire to make that a smaller initial commitment but life starts out fairly simple what happens over time though is the complexity if you're not actively you know compressing complexity down it will outstrip the growth of a portfolio.

8:32Michael P. Larsen:And when we onboard a new client that's been at this for a long time, that's one of the first things you typically notice is the complexity.

8:39David Weisburd:One of the things that I think separates the elite LPs from maybe the good LPs in venture specifically is that the elite LPs are willing to have spiky portfolios in terms of some managers might be up 7X, some might be flat or even slightly down rare cases. To what extent is that true versus say private equity?

8:59Michael P. Larsen:When we're implementing a venture capital portfolio for a family, you know, over time you have power law outcomes that generate spiky, spiky, you know, company level returns, spiky fund level returns. And so it's, it is going to be lumpy. The impairment ratios are higher. The lemons will ripen earlier. One of the things that I think really successful LPs do is they construct portfolios that resemble a generational succession the same way that you would build if you're constructing an investment firm itself. You have the establishment senior partners. You have a middle band of new establishment in the making.

9:40Michael P. Larsen:And then you have this future generation where you don't know what percentage of those may wash out or fail to, to materialize as durable brands, but having those options, I think is really a, an essential ingredient. There's this Andrew Carnegie quote, you know, first man gets the oyster, second man gets the shell. I think if you are a family office and you're waiting for obviousness to emerge on who the strongest GPs are, chances are you will not at the allocation that you desire.

10:15David Weisburd:When you look at deployment, typically funds are deploying over two years. Sometimes it used to be three years. How diversified do you have to be as an LP when you're investing into vintage funds? How important is that? It's important, but the number of funds

10:27Michael P. Larsen:can vary materially. I think we demonstrated some time ago that as few as six manager relationships effectively reduces your risk of capital loss to near zero. So you don't have to have a lot of roster. You don't have to have a very broad roster to successfully diversify in venture capital. That said, I think it is handy to have smaller checks and a commitment to effectively a next generation basket of names that positions you well for future access. One of the challenges I think a lot of families face right now is this wavelength between funds. A relationship may have started five, 10 years ago in another era when funds are coming back to market every three years, sometimes every four.

11:15Michael P. Larsen:When that wavelength condenses down to two years, a year and a half, one year, then it becomes a whole different challenge. Because one, the commitment you made to the last fund may have presumed some cadence. And when that cadence is a lot faster, than was initially forecasted, that means the size of that relationship is now growing. Its role in the portfolio is expanding, perhaps beyond the intention.

11:46David Weisburd:What action could an LP take to prevent issues with deployment?

11:51Michael P. Larsen:A really simple way to approach this is not to make any investment decision without the understanding and the expectation that you're going to be committing to several funds. Whether those several funds come in the next five years or the next eight or nine years is really in the hands of the GP and their kind of established hull speed for putting capital to work. And so I think about it oftentimes as decisions around firms, not funds. Funds will happen. Sometimes funds will be raised faster.

12:26David Weisburd:Support for today's episode comes from Square, the all-in-one way for business owners to take payments, book appointments, man and staff, and keep everything running in one place. Whether you're selling lattes, cutting hair, running a boutique, or managing a service business, Square helps you run your business without running yourself into the ground. I was actually thinking about this the other day when I stopped by a local cafe here. They use Square and everything just works. Checkout is fast, receipts are instant, and sometimes I even get loyalty rewards automatically. There's something about businesses that use Square, they just feel more put together.

12:57David Weisburd:The experience is smoother for them and it's smoother for me as a customer. Square makes it easy to sell wherever your customers are. in store, online, on your phone, or even at pop-ups, and everything stays synced in real time. You can track sales, manage inventory, book appointments, and see reports instantly, whether you're in your shop or on the go. And when you make a sale, you don't have to wait to get paid. Square gives you fast access to your earnings through Square checking. They also have built-in tools like loyalty and marketing, so your best customers keep coming back. And right now, you can get up to$200 off Square hardware when you sign up at square.com slash go slash how I invest.

13:34David Weisburd:That's S-Q-U-A-R-E dot com slash go slash how I invest. With Square, you get all the tools to run your business with none of the contracts or complexity. Run your business smarter with Square. Get started today. Support for today's episode comes from Square, the all-in-one way for business owners to take payments, book appointments, manage staff, and keep everything running in one place. Whether you're selling lattes, cutting hair, running a boutique, or managing a service business, Square helps you run your business without running yourself into the ground. I was actually thinking about this the other day when I stopped by a local cafe here.

14:06David Weisburd:They use Square and everything just works. Checkout is fast, receipts are instant, and sometimes I even get loyalty rewards automatically. There's something about businesses that use Square, they just feel more put together. The experience is smoother for them and it's smoother for me as a customer. Square makes it easy to sell wherever your customers are, in store, online, on your phone, or even at pop-ups, and everything stays synced in real time. You can track sales, manage inventory, book appointments, and see reports instantly, whether you're in your shop or on the go. And when you make a sale, you don't have to wait to get paid.

14:39David Weisburd:Square gives you fast access to your earnings through Square checking. They also have built-in tools like loyalty and marketing, so your best customers keep coming back. And right now, you can get up to$200 off Square hardware when you sign up at square.com slash go slash how I invest. That's S-Q-U-A-R-E dot com slash go slash how I invest. With Square, you get all the tools to run your business, with none of the contracts or complexity. Run your business smarter with Square. Get started today. When you want more, you start your business with Northwest Registered Agent. They give you access to thousands of free guides, tools, and legal forms to help you launch and protect your business all in one place.

15:17David Weisburd:With Northwest, you're not just forming an LLC, you're building your complete business identity from what customers see to what they don't see, like operating agreements, meeting minutes, and compliance paperwork. You get more privacy, more guidance, and more free resources to grow the right way. Northwest has been helping founders and entrepreneurs for nearly 30 years. They're the largest registered agent LLC service in the US with over 1500 corporate guides, real people who know your local laws and help you every step of the way. What I love is how fast you can build your business identity with their free resources.

15:48David Weisburd:You can access thousands of forms, step-by-step guides, and even lawyer drafted operating agreements and bylaws without even creating an account. Northwest makes life easy for business owners. They don't just help you from your company. They give you the tools you need after you form it. And with Northwest, privacy is automatic. They never sell your data because privacy by default is their pledge. Don't pay hundreds or thousands of dollars for what you could get from Northwest for free. Visit northwestregisteredagent.com slash invest free and start using free resources to build something amazing.

16:20David Weisburd:Get more with Northwest Registered Agent at northwestregisteredagent.com slash invest free. Sometimes it'll be deployed faster.

16:28Michael P. Larsen:One way a family should think about this is the firms, the partners you want to have, and then calibrating as need be so that if it's a firm you can kind of count on coming back very quickly, you want to have the horizon in front of you to think, we can commit to these three funds, this next series of funds that they raise, and reassess some years down the road. I mean, obviously we're going to re-underwrite, but when you raise a new fund two years on the heels of its predecessor, there's not a ton of information to re-underwrite. All you can do is look to the organization. Is there cohesion? Is there continuity there?

17:10Michael P. Larsen:Is the strategy being generally adhered to? Is the right to win on display? Things of that nature. You can kind of re-underwrite a process, but you can't re-underwrite the outcomes because those outcomes are so early in their lives.

17:21David Weisburd:What are some mistakes that family offices make when they first invest in venture?

17:26Michael P. Larsen:One of the most important things to nail is setting expectations. And so when we sit down with a family office for the first time and we lay out an asset allocation that has, you know, venture as, you know, maybe one third of the private investment, you know, allocation, maybe it's a quarter. And it's complemented by growth and private equity and maybe opportunistic investing. I think a really important conversation is setting expectations on in five years time, what will this look like? What will the average commitment size be? What will the range of commitment amounts be? How many managers in each of these categories should they expect?

18:03Michael P. Larsen:And importantly, when it comes time to make a re-up decision, what will the basis of that, what will be the basis of that re-up decision? Because we know that there won't be distributions, there won't be realizations there may not be a ton of new information oftentimes the information gleaned is actually from a prior body of work you know a company from a fund that like long predated this relationship has generated liquidity and that liquidity is great and it's kind of creating more clarity on their on their pattern recognition as a team or their their abilities as a brand but i think setting expectations is really important another important factor is how do you benchmark?

18:43Michael P. Larsen:How do you know if you're actually doing any good? And this is a really interesting time in benchmarking territory because often if you look at like since inception returns over like long periods of time, venture capital is going to handle the outperform its public market equivalent. If you look at a one or a three-year basis right now, that is upside down. Owing to, you know, the max seven, owing to other, you know, forces of, of correction that's happened since, since 2021. This is a really interesting time to look at performance on a relative basis. I would say it's one of the more optically challenging times to be an LP in venture land where you have to justify its role in the portfolio.

19:23Michael P. Larsen:And I think this is where data is incredibly powerful in offering a defense of its role in the portfolio. If you look at all of these periods in history, post-GFC, post-TechRec, when you see this inversion happen where publics are handily outperforming their venture capital or their private equity brethren in the rolling three-year average following those correcting periods, it reverts right back, oftentimes with even greater premia than before. And so it's really important to, I think, you know, have a benchmark and to have historical data as perspective. You know, when we think about benchmarking, I try not to overcomplicate it.

20:01Michael P. Larsen:We, we want to answer two questions. One, are you getting rewarded for liquidity? And that's where you measure things against an MPME. The second is, are you good at choosing managers? And that's where our colleagues who run the CA Venture Capital and Private Equity Benchmarks have an immense amount of data that we can measure against. And so you can take all of these decisions that have been made, in some cases, like dozens and dozens of decisions over the past several years, and you can basically use that as the scale for whether you're adding value in your manager selection because you can measure everything back to a median.