A) A portfolio where 60% of the trades are winners? Or...
B) A portfolio where only 30% of the trades are winners?
The answer might surprise you…
A good friend of ours invited us for drinks recently at the Mark Hotel on Manhattan’s Upper East Side.
The Mark is very posh, with cowhide stools and dim lighting. Even the waitresses are wearing diamond earrings.
But our friend is a successful early-stage investor. He wasn’t bothered by the $17 price tag on the Martinis.
While he sipped his drink and held court, he reminded us of one of the fundamental rules of investing success:
It’s not the number of winners in your portfolio that counts...
It’s the size of your wins compared to the size of your losses.
This is especially true when it comes to early-stage investing.
Let me explain...
Earn 27% Per Year
Our Martini-drinking friend has made millions investing in early-stage, privately held companies.
His annual returns can be measured in the “hundreds of percent” range.
That’s above average, to be sure. But even the average annual return for a successful early-stage investor is 27% per year.
That may not sound like much at first blush...
But it’s nearly 4 times higher than the stock market average of 8%...
And it even beats Warren Buffett’s average of 22% per year.
But no one racks up 27% annual returns by picking winner after winner.
In fact, it’s quite the opposite.
Winning By Losing
Let’s say you invested $10,000 evenly into ten companies.
Seven of them turned out to be bad investments. They all went to zero.
But three of them were big winners:
Each of them returned ten times your initial investment.
In total, you’d be left with $30,000.
So despite the fact that 70% of your investments went to zero, you tripled the value of your overall portfolio.
Now let’s imagine another scenario – a scenario where you doubled your “win rate.”
So now, instead of just three of your investments being profitable, six of them were profitable.
But in this scenario, they were only moderately profitable:
They each provided a return of just 10%, and the rest went to zero.
In the end, you’d be left with just $6,600.
So even though you had a portfolio where 60% of your investments were profitable, your overall portfolio still suffered a loss.
Change Your Perception, Change Your Returns
So here’s the big lesson:
Don’t go into early-stage investing with the expectation that you’ll hit it big on each company you invest in.
Understand that some will fail.
Have the patience and fortitude to stay the path while you wait for the winners to come along.
That’s the secret to early-stage investing success.