We’ll get there, but let’s start here: I don’t believe in “angel portfolio theory,” which applies Wall Street’s favorite myth to the early stage world. According to this approach, the “smart” way to do angel investing is massive diversification, with scores of early stage bets.
There are several reasons that this common wisdom is more the former than the latter, but let’s start with an indisputable fact. Even assuming portfolio theory works for public markets (it doesn’t), the idea rests on the premise of an efficient market: liquid, broad and transparent, with distributed information, educated investors, structural consistencies, and reliable reporting. Does that sound like the startup world to you?
Moreover, while “diversification” can be attractive in the abstract, angel investing takes a lot more work than its public securities counterpart, if only because of the massive diligence it demands. So unless you have quite a staff at your disposal, investing bazooka-style is likely to be hazardous to your sanity as well as your wealth: just try chasing down those scores of non-responsive entrepreneurs to see what’s happening with your money.
So, how does one intelligently invest in a limited number of startups, when we all know how unpredictable their outcomes may be? My personal answer is: force the results to be less random by only investing where you can take a semi-active role. This certainly doesn’t mean that you must join the board or participate in every decision. But it does mean you should be in a position to help make strategic connections; provide feedback on tech, or marketing, or something; maintain some basic relationship with management; and have a sense of your own about how the company is progressing over time. That last point is really critical, because here it is: the make or break issue in angel investing is not the first check; it’s whether, and for how long, to make the inevitable follow-on investments. And you simply can’t make intelligent decisions about that without knowing the evolving story of the company quite well.
For me, the sweet spot is about 8 active deals at a time. I stick with them, keep working, participate in follow-on rounds, help identify what’s working, understand that pivots are part of the deal, and look for exits. To this particular angel investor, that approach is a lot more promising, and ultimately satisfying, than “spray and pray.”
All opinions expressed are those of the author, and do not necessarily represent those of Gust.