Venture Business Blows Bubbles

I just came to a realization that I should have come to long ago: The venture business is a bubble business. Performance and reputation of the top venture funds are almost entirely driven by their ability to find and profit from bubbles, whether large or small: dot-com, networking, PC hardware, drives, Web 2.0, etc.

Take away those bubbles and turn venture into a steady-state, non-cyclical business and it would be transformed from top to bottom. There would arguably be no DFJ (Internet bubble), no KP (Internet and PC bubble), no NEA (PC bubble), no Sequoia (PC and Internet bubble), no Oak (PC and Internet bubble), etc.

The upshot: Rather than apologize for or avoid bubbles, funds should embrace them. Because the best venture funds are reliably those that enter and exit bubbles early.

But it’s nearly impossible to identify a venture-ready bubble early, much less easy than it always appears in retrospect. Put differently, the best venture funds are those with a serious mad-dog component — they’ll make many small bets on early, nutty and dangerous stuff — and many of the predictably worst funds are those that try to corporatize and systematize the business.

Related posts:

  1. Market Bubbles, Then and Now
  2. How Greasemonkey Blows Up Business Models
  3. A New Venture Bubble
  4. A New Venture Fund Bubble?
  5. Flight to (Perceived) Quality & First-Time Venture Funds

Comments

  1. John K says:

    I think this is a valuable insight even though it seems obvious once you articulate it. If this is true, though, isn’t your normal use of “bubble” overly-perjorative. Was the PC-era really a bubble?
    I guess I’d like to hear a more specific Kedrosky definition of a bubble.
    Secondly, the feedback-loop from the venture industry helped define/expand some of these bubbles, right?

  2. Brent Buckner says:

    Reliably enter early: shotgun approach, so whatever area blows a bubble, you’re in. Your early investment wins as a penny-stock option, and you get the knock-on advantage for later investments of reputation and some depth of contacts in the space.
    That actually does strike me as a method that one can corporatize and systematize. In doing so a VC firm may restructure the compensation of associates, because it would be so much harder for everyone to politely ignore the luck component of the winner-take-all game of making partner. It would also be harder for end-clients to politely ignore how much of the value of placing the initial investments gets hoovered up by the VC firm because the VC firm gets to raise a much larger fund on the next go-round.
    Exiting the bubble is more tricky. The mandate of VC funds to exit at least forces early investments to be cashed out (or distributed to end-investors as equity, sticking them with the responsibility of timing the sale). The discipline required for a VC firm to not raise a huge fund when end-investors are trying to throw money is extraordinary.

  3. Good point, John. I’ll define bubble in a less explicitly pejorative way. How about this:

    A technology bubble is any period when the enthusiasm for a particuluar technology platform drives a significantly higher investor capital allocation than is justified by the probable returns.

    In other words, people drop disproportionate amounts of money on a sector or idea, to the point, often, that some call it a bubble.

  4. Quantman says:

    Interesting way to look at it, to be sure, but part of me has to believe that VC’s are more interested in funding promising technologies than they are in predicting the next bubble, or playing roulette with their money. Take VOIP, for example. Many very good VC bets were made in this space after the Internet bubble burst, but so soon after the carnage that the VC’s were probably looking for anything but a bubble. I think they very deliberately pursued an opportunity whose time had (finally) come. Indeed, one wonders whether they might even loathe the bubble given the distortion it causes. Massive increases in investment capital mean that there is much more competition for even the good ideas.

  5. Michael Robinson says:

    Paul K: “and many of the predictably worst funds are those that try to corporatize and systematize the business.”
    You mean like this:
    http://feeds.feedburner.com/InfectiousGreed?m=2808