How to not lose your shirt in this bubble
AI is a platform shift. But it's a bubble too. What's a smart VC to do?
Expectations are a funny thing. Sometimes they constrain reality. And sometimes they become reality.
Right now, expectations around AI are sky-high. Everyone wants exposure. Everyone wants to be in the next OpenAI (and in the current OpenAI, too). To make matters worse, AI is a literal oasis in the otherwise arid capital raising landscape of the last three years. The one bright spot in an otherwise middling economy. All the growth-seeking capital is chasing it.
When everyone chases the same thing, the consequences are predictable. Rounds move fast. FOMO replaces diligence. Metrics (real and made up) get stretched. The pressure to get in, to get in fast, to get in at all costs, is applied up and down the venture capital food chain. From the LPs who have to report to their investment committee, to the GPs who report to the LPs, to the VC partners, principals and associates who report to the GPs, to the founders who report to their own VCs and teams.
We have all seen this movie before. We know how it ends. How quickly we forget the lessons.
Remember NFT Pitches?
The last time I saw this dynamic up close was during the Web3 frenzy. It’s been less than three years since that particular bubble popped… and yet, here we are again.
I saw hundreds of Web3 pitches the first year I launched my fund, and I honestly didn’t get it. They felt more like art projects than businesses - no customers, no value proposition, literally the same GTM in every single pitch (something about growing discord channels and grind to earn?), and made-up currencies that defied logic.
And yet, many of the smartest VCs I knew were all in. As a new investor, I assumed they must know something I didn’t. I felt the most intense FOMO and forced myself to figure it out - get a wallet, buy some .eth, mint some NFTs, join some discords, talk the talk and walk the walk. I spent many days and a few thousand dollars of my own money, and I still didn’t get the value prop.
Looking back I think the thing that saved me was my middle-child stubbornness, which manifested itself in a moderate allergic reaction to FOMO. I don’t like being told what to do 😅. And I REALLY don’t like doing things for reasons I don’t understand.
At some point that year I decided that fund 1 was for learning, and if I didn’t fully understand where my LPs’ money would be going, then I wouldn’t invest it. And I started saying no to any round that gave me a “commit by Friday” deadline.
That discipline probably saved my fund. I could have deployed the entire thing into fast-moving Web3 rounds. Many emerging managers did - and many paid for it.
Today’s Bubble Feels Different
We’re absolutely in a bubble today, but it’s a very different beast.
First, we’re not in a zero-interest-rate world anymore. Capital has a cost again, and that introduces some discipline across markets. The froth in AI is partially offset by caution elsewhere.
Second, some of the hype is real. AI is somewhere between a platform shift (like the internet, mobile and cloud), and a full-fledged societal shift (the printing press, the industrial revolution). New behemoths will absolutely be built on top of AI. Some are already obvious. Others are emerging. Many haven’t been founded yet.
Smart investors can’t sit this one out.
One of my favorite quotes (you’ve heard this one from me before) is from F. Scott Fitzgerald: “The test of a first-rate intelligence is the ability to hold two opposed ideas in mind at the same time and still retain the ability to function”.
Here’s my two opposing truths for this moment in venture:
Truth #1: We are in a VC bubble. It will pop. When it does, value will be destroyed and many players will be caught overexposed.
Truth #2: Extraordinary companies will also emerge from this moment.
And therein lies the dilemma. How do you catch the platform shift but avoid the bubble all in a single fund?
Two Strategies for a Bubble Market
In this kind of environment, I see two viable approaches:
Consensus Capital: Entry price doesn’t matter if you have the AUM and LP alignment to play at the top. At that level, capital itself becomes a moat. The game is about access, not discovery. The return multiples on those funds won’t look like venture capital, but right now, looks like the LPs are fine with it.
OG Venture Capital: Maintain price discipline. Back non-obvious founders and opportunities. Focus on fundamentals, not hype. Invest in companies with real and sticky ARR. Be patient and determined. Seek alpha. The return multiples here will be much higher, even though absolute dollars invested will be by definition smaller.
Both strategies can win, just in different ways. Consensus capital moves bigger dollars. Venture capital moves bigger multiples.
The folks who are really in trouble are funds that don’t pick a lane. Those without the AUM to compete in consensus rounds, and without the discipline to play the long game in venture. They’ll be the ones left exposed when the tide goes out.
What’s on my browser this week
You know when you meet a founder and you think they’re amazing, but they’re just too green? We’d love to welcome them at Graham & Walker Founder Day. We’ve hosted this program for ~8 years, and helped >1k first time founders raise their pre-seed. We’re headed to SF (Nov 5th) and LA (Nov 14th). Please share!
TFW you don’t find out that you’ve won the Nobel prize because you’re off the grid hiking with your partner for 3 weeks. This is what we call “winning at life”.
Can we all please chill about the political statements and just appreciate how much fun it is to listen to Bad Bunny preferably while shaking your booty? Seriously, try it. There’s endorphins to be had here.