FOMO – A dangerous game for VCs

“No VC has ever failed because of NOT having invested into a company.”

This quote is from Alexander Ruppert’s The first year in Venture Capital — Lessons (to be) learned. I wouldn’t be at all surprised to learn that a couple of Associates have been fired for passing on Uber or A.N.Other hot deal of the moment, so I’m not sure it’s 100% true, but the message here is spot on. Fear of missing out is a highly dangerous for VCs.

Ruppert’s number one lesson after his first year in venture is to avoid group thinking, and that’s the context in which he offers the quote above. I agree, succumbing to the hype and seeking to beat the herd into hot deals creates perverse dynamics for VCs.

  1. Speed wins, so there’s less time to conduct thorough analysis.
  2. The time pressures can lead to difficult questions not being asked, or glib answers to difficult questions being accepted.
  3. Over-paying is a real risk. Hot companies run quasi auction processes, and the winner’s curse is at play.

So much better to rise above the fear of missing out and have the courage to chart your own path.

But the benefits of not being dominated by the fear of missing a winner aren’t limited to the quality of decision making, they extend to the efficient management of time – both for individual VCs and for firms overall.

Investors who know what they are looking for and spend their time researching and meeting companies that fit their target profile and that builds up knowledge and connections that improve their filters and decision making. They can very quickly pass on deals that don’t meet their strategy.

Investors who are afraid of missing out spend more time chasing entrepreneurs and have to spread their expertise over more areas. Their filters and decision making are much slower to improve, and processing the long tail of deals takes much longer.

Not all VCs think this way, and at a simple level it would seem that fighting hard to get into the seed or Series A of any of the today’s unicorns would have been a smart thing to do. However, survivorship bias is at work here, and the problem investors face is that it’s not clear which of the thousands of companies raising seed or Series A will go on to have outsized success. Sometimes it is the highly hyped company, but more often it isn’t.