I love probability and statistics, yes I am weird. The whole notion of me starting to invest in Startups and Entrepreneurs started when I was mindlessly searching the Internet for Power Law examples and bumped into Fred Wilson’s blog post about Power Laws and returns in VC investing. I wrote a paper a while back on how every Aggregate Economic Variable more or less follows a Power Law like distribution and I took the case of the Icelandic Krona. There is no revelation there for
those of us who have been looking at this but for the mainstream this is news. Nassim Taleb wrote a book on this and it did quite well. Now Paul Graham has written about “Black Swan Farming” and at the same time Nassim Taleb is advising anyone wanting to go into the Investment Management business to stay away! This is all very interesting given our Icelandic context. I meet investment manager and VC investors all the time and I am just dumb founded when I hear them talk about how they can pick winners and they are doing a great job at capital allocation… what a bunch of crap! No-one knows, this is a crap shoot and I am happy that Paul Graham came out and said it. So what does one do? I wish I had enough capital to take bets on all the startups and entrepreneurs being formed in Iceland because there is no magic bullet to pick a winner, as Paul says in post:
The probability that a startup will make it big is not simply a constant fraction of the probability that they will succeed at all.
The fact that the best ideas seem like bad ideas makes it even harder to recognize the big winners. It means the probability of a startup making it really big is not merely not a constant fraction of the probability that it will succeed, but that the startups with a high probability of the former will seem to have a disproportionately low probability of the latter.
Wait, it gets worse. You not only have to solve this hard problem, but you have to do it with no indication of whether you’re succeeding. When you pick a big winner, you won’t know it for two years.
Meanwhile, the one thing you can measure is dangerously misleading. The one thing we can track precisely is how well the startups in each batch do at fundraising after Demo Day. But we know that’s the wrong metric. There’s no correlation between the percentage of startups that raise money and the metric that does matter financially, whether that batch of startups contains a big winner or not.
There is only one way to build a startup ecosystem, winners from the previous generation in the community need to invest back into the community. I wish more of Icelandic successful entrepreneurs would invest back into the new generation. Maybe the problem is that there has not been a big enough exit for that to happen or maybe it has, but I see a huge potential for Venture Backed investments in Iceland because every Entrepreneur I meet could be a winner, I wish I could pick a winner. I know I cannot, I am at peace with that… I pity those who think they know better.
- NASSIM TALEB WARNS: Stay Out Of The Investment Industry (businessinsider.com)
- Reid Hoffman: Y Combinator Is “Definitely Seeing Some Stress Signs From Size” (techcrunch.com)
- Why It is No Longer a Good Idea to Be in The Investment Industry (dailycapitalist.com)
- Nassim Taleb: In the Investment Biz, Luck Trumps Skill, So Take Your Talent Elsewhere (business.time.com)
- Has Overconfident Forecasting Led Dave McClure to Undervalue His Portfolio? (forbes.com)
- The Back Swan – October 23rd (policyforward.wordpress.com)