Generally speaking, a fund-of-funds is any group that invests in other funds. In venture capital specifically, funds-of-funds function as limited partners (with very few exceptions). Those limited partners receive reports and due diligence documentation whenever the fund is making a new investment as well as periodic reports on the performance of the portfolio as a whole.
Investing in venture capital funds either directly as a limited partner or through a single fund-of-funds can be a great way to diversify your overall portfolio. The high level of risk associated with direct startup investments can make it difficult to start a venture capital arm of your own. Investing in or as a fund-of-funds mitigates that risk tremendously as you are investing in the venture capital fund’s entire portfolio, which could represent dozens of startups. You still have the ability to capitalize on the oversized returns that come from successful venture investing without having to take on the same degree of risk.
The most straightforward funds-of-funds only invest in venture capital funds, but many groups are using a hybrid strategy where part of their portfolio is made up of venture capital funds and part of it is direct investments in startups.
If directly investing in startups is something that interests you, but you don’t have the team in place or knowledge base to properly source and analyze that type of investment, co-investing can be a great option. Essentially, a fund you are involved with may find an interesting company and decide to make an investment. However, it is extremely uncommon for one venture fund to be the only investor in a round of startup funding.
That’s where a hybrid fund-of-funds can come in and make an additional direct contribution to the round. It is a simple way to invest in a startup that has already been vetted and fully analyzed by a trusted venture group.
When you become a limited partner in a venture capital fund, it opens you up to a whole new world of tech startup knowledge. Doing so can be the ideal first step on the path in getting venture capital exposure.
If you are interested in learning more about how to invest in or set up a fund-of-funds, feel free to contact us at email@example.com.
Originally published in the September 2018 LVAM Newsletter.