We know it isn't easy to start and scale a fund, so we went out to our network and built a list of 100 mistakes and insights [Editor's note: the 100 is a work in progress/aspiration for now] from emerging managers who started stockpicking funds in recent years. We have found that every fund and person is different and it is not possible to give universal advice. However, we encourage you to read through these bits of advice, and if something you read here allows to you avoid one or two mistakes, we will consider that "mission accomplished."
Joe Frankenfield, Saga Partners
1/ Don’t waste time, effort, or resources mkting. If starting w/out an official track record, only ppl that will invest are close family & friends. As you build a track record of at least 3 yr period, showing the strategy has signs that it works, more investors will eventually come
Put all effort & resources in the product (the portfolio) & explaining what you’re doing along the way. Show results & eventually capital will gravitate towards high returning opportunities.
2/ Give yourself a long runway to prove yourself. All investors must align and be suitable w/ strategy/philosophy.
Lake Cornelia Research Management
3/ Make sure you have enough capital without clients so you don’t need anyone as you develop track record. (2) everyone painful at the beginning is worse as time goes on (3) define your view of success and only take people who agree
Chuck Murphy, Liberty Park Capital
4/ No one seeks emerging managers as their "safe bet," so don't structure your fund/firm/pitch as such.
5/ Pick the right partners. I made the mistake of thinking "beggars can't be choosers." The wrong partner set us back 4 years and an extreme amount of misery.
6/ Part of picking the right partner is you asking them lots of questions about their preferences, fears, and goals. Alignment of expectations is paramount.
7/ Have a path to more than one strategy and set of LPs. Diversity of outcomes is critical to your long-term sanity. [Editor’s note: I think this specific is sincere advice, BUT I know a lot of smart people who would argue the opposite]
8/ You will never be safe from periods of bad performance and redemptions, so don't kid yourself. If you can't learn to enjoy the journey, you will burn out- period, end of story.
9/ People hire you because you are an expert at something. Don't let them turn around and try to dictate how you operate.
10/ Limit the scope of your activities. It’s very easy to think you’ll do everything and better than everyone else because you’re a) smarter, b) more invested in the results and c) have a better way. In reality your time is so valuable and you can’t do it all. Limit what you’ll do. For the rest: delegate, defer or don’t do it.
11/ [the advice from others not to market the fund in the early years] is challenging advice that must be properly contextualized. If you are a research first organization you must spend time writing and thinking about their portfolio and investing and do so publically via the written word. The passive marketing of content creation is essential
12/ The more well known you are as a commodity after 3 years the easier fundraising is going to be…publish often. The written word and well articulated thoughts are the fund managers best fundraising friend. Marketing need not take time from investing if properly structured.
@lutyenslafanga on Twitter
13/ Important to build relationships with potential LPs early on, even if you aren't the right size or scale for them. The best LPs will typically invest after tracking a firm for some time, so making the effort to establish contact with a set of "dream LPs" ½
early on and keep those conversations going is the surest way to ensure that the strong performance, which hopefully comes, actually leads to strong business development outcomes. A lot of the "don't market" advice is flawed- market strategically and with a long-term plan. 2/2
Theron De Ris, Eschler Asset Management
/14/15/16 When I first set up my firm over a decade ago my former employer seeded my fund and then pulled the plug 18 months later. There are three things I wish I'd done differently the first time around. 1) They seeded my fund with capital from one of their funds. The structure was soon tested as LPs / consultants started to ask questions about why the fund was invested in another private fund. All it took was some volatility in October 2011 for my former shop to use that as an excuse to pull the plug. With hindsight, I wish I'd only accepted capital from an "asset owner" as opposed to from the fund. 2) My former shop's remit was quite broad and they ran the funds with a decent amount of gross leverage. I initially copied their portfolio construction and risk management blueprint but it wasn't right for me. It took the experience of running real money on that basis to understand how I should have been running money (less leverage, more concentration, more long-term etc). This experience is not so much a regret as much as me just paying my dues. 3) I agreed to provide my seed investor back then with weekly performance updates. Even today I have a couple clients who receive such updates. I wish I hadn't agreed to provide short-term updates period. Here's the problem: I think I may be able to handle the tough times a bit better than my clients. They are the best clients in the world and have proven their long-term partnership during the toughest of times. Still, there is no benefit for anyone in becoming too focused on short-term marks when the stockmarket is in a swoon.
Adding another non-investing "mistake" to my long list:
17/ Starting off with friends and family money, I faced some trade-offs that I did not anticipate. Specifically, I didn't want the existence of the fund to affect my relationship with anyone. I didn't want people to like me more if things went well. And, obviously didn't want people I cared about to dislike me if results were poor. I didn't want anyone to feel pressured to invest because of our friendship.
I basically tried to achieve this by not talking about my fund or investing ever, unless someone brought it up. All of my LPs were great, no one ever gave me a hard time. I thought I could rely solely on letters to keep everyone informed and on the same page.
However, I was mistaken. First, I'm not the best writer. Second, I was never sure if anyone even read the letters. And, if they did read the letters, I could tell from brief chats that I was often not on the same page as they were. That caused stress for me, knowing that my LP did not share my thought process. Again, no one ever complained.
In retrospect, it is still hard to figure out how to address this. I probably should have tried to sit down with each LP individual once a year to have an explicit chat and answer questions. I could have been proactive about doing this, but I didn't.
It seems that if I were managing outside money, I would not have run into this situation. In a professional relationship I'd be delighted to debate investing with the LP all day, and if they decided to leave or didn't like me it would not affect any personal friendship.
18/ When I launched I planned to only update LPs with values and a letter once a year. That felt consistent with reinforcing a long-term mindset. However, because I accepted non-qualified investors I was forced to register as an RIA. And, because I was registered I was forced to report results every quarter. Then, I felt like I would need to explain why the portfolio went up or down 10%-20%. So, I felt pressured to write quarterly letters. This was a massive mistake on my part.
First, it is super hard to write something original and worthwhile every quarter. And, I dislike writing more than average. So, I got caught in a trap where every quarter I felt compelled to write something. That process used up a ton of bandwidth that I could have spent investing. And, I found it very draining.
I should have stuck to my guns and only written once a year. It would have been uncomfortable reporting a 20% drop without comment, but it would have been a better path.
Drew Volpe, First Star Ventures
[Editor’s note: this is a venture fund, not a stockpicking fund, but I thought it might be applicable]
19/ For our first institutional fund, we picked a top tier accounting firm as our auditor, thinking we’re just starting out and it would give LPs more confidence in us. That was a mistake. They were overkill for our small fund. They were expense and took up a lot of our time every year to get them up to speed on early stage startups. We’ve switched to a smaller auditor who’s focused on funds like ours which had been a much better fit. I would strongly recommend the same for anyone starting out.
A couple mistakes that I hope others might learn from are below.
20/ I committed to starting a fund in July/August 2009. At the time, I could find some ridiculously good stock investments that were easy to understand small/micro-caps. I was confident that I could invest friends and families in those investments, sleep well at night, and get great returns.
So, I spent time launching a fund. I had a super tight budget, and had to figure things out from scratch - so it took until Feb 2010 until launch. I had tried to communicate my approach and opportunities that I saw to my founding LPs.
By the time the fund launched, most of the opportunities I had found in July/August 2009 had gone up 100%+. I was right that they were no-brainers. The easy stuff that I imagined (and had tried to communicate to LPs) had disappeared quite a bit even by the time my fund launched! Finding ideas was harder than anticipated, but still manageable. But 2-3 years later, it had become way harder to find what I envisioned at launch. It was simply a different investing environment.
A consequence that I didn't anticipate is that by explaining the opportunity set that existed when I started, I ended up boxing myself in and making it hard to learn and adapt. I felt like I needed to be consistent with what I told LPs I looking for, so spent my time doing just that. I did a lot of sifting through micro-caps, looking for easy stuff. While I tried to leave myself flexibility, I felt an obligation to stick with what I communicated to LPs when they trusted me with their money.
In retrospect, that proved to be a mistake. I didn't feel like looking at higher-quality, larger companies was consistent with what I initially communicated, so I didn't spend time doing that. That made it harder for me to learn and develop. Since closing the fund, I've evolved far faster in my approach to investing. I could not have done so as a manager.
I imagine that other fund managers are at risk of facing a similar dilemma. When a manager communicates an opportunity or strategy to LPs that might be appropriate at the time, they risk limiting themselves as investing opportunities change over time.
More generally, I found it hard to learn and evolve as a fund manager. I share Munger's philosophy of trying to destroy my most cherished ideas. However, as a manager, I found it difficult to balance (a) being consistent with an approach articulated to LPs, and (b) adapting/learning/changing over time and destroying my ideas, ie being inconsistent with what I previously told LPs.
I'm not sure that I have a great solution for addressing this difficult dilemma between communicating a semi-concrete philosophy and giving room to change that philosophy over time.
21/ Another mistake that I made was implicitly assuming that interest rates of ~5% would be typical over the long-term. That 5% range was typical from the late 1990s until 2008, when I began investing. Even though interest rates went to 0% in 2008, I thought that was temporary and would revert.
This was important because it played into the compensation structure that I used for the fund, namely Buffett's 6% hurdle. I anticipated having the option of sitting on cash earning about 5% when I couldn't find investments and not falling too far behind the hurdle. I didn't think that I was making a macro call, but I was. That took away a safety net that I anticipated when I started.
Also, that 5% interest rate that I anticipated dramatically effected my perceived trade-off between owning a stock and holding cash.
22/ One mistake: Spending time to interact with institutions/allocators. It is a poor idea when you don't have much capital beause allocators are just doing their job and they are not going to risk their jobs. But it is really a crazy idea when you have enough capital. At that point, there is no upside for taking institutions, but there are plenty of downsides.
23/ Another mistake was to put performance figures publicly. People coming after looking at performance figures are coming with expectations of same performance in future. They don't care about process even if they pretend to care about it. Investors joining after understanding and feeling comfortable with the process are the best investors. You can then really focus on decades and invest all money as your family money for the long-term and enjoy the journey. You want investors who are joining you for your process and not past outcomes even though easiest way to attract cpital is to share past outcomes.
24/ Bypassing Compliances was a big mistake we committed, hoping that we could run our business but it hampered our growth prospects as we realized that in the long term being compliant is the only way to building a responsible organization and hence we eventually decided to apply for the appropriate Regulatory Licenses and believe me since then we have made tremendous inroads into the fund management industry.
Anish Teli, QED Capital
25/ A mistake I made early on was being over cautious and taking less risk because it was friends and family money. But I was transitioning from private to public equity investing and downside protection was my priority. So I don’t have too many regrets. Gradually found my sweet spot.
Dan Abrahams, Alfreton Capital
26/ I tried really hard to solve for a very resilient business that was sustainable, and low cost. Our office is about 750 meters from my home. My kids are at school within a one-mile radius. And I think that having that balance so that if you need to work the long hours, then its an entirely sustainable way of doing it. And of course it means I have a cost structure that’s just far lower. It’s a fraction of what it would be if I was in central London.
27/ I wanted to keep costs low not just in the business but in my personal life. I went through every item of household expenditure over the previous 12 months to see what I could cut.
28/ I think a mistaken heuristic amongst allocators is that it is tremendously important for the manager to have all of their net worth, or a large part of their net worth, invested in the fund. But for me, at the outset, that would have been an incredibly reckless decision. In fact, most of my assets at launch were invested in index linked UK government certificates. And that’s because I never wanted to have to give up any kind of long-term aspiration because of short-term liquidity or solvency issues.
29/ We eventually got to some sustainable scale. But we were choosy about our investors even when we were subscale. We turned down a seed deal even when we were tiny. We didn’t want to give up long-term economics and misalign ourselves with our other investors.
30/ alignment of incentives across everything is paramount – among your partners, your service providers, your limited partners.
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