VP of Verdis Investment Management Jamie Rhode: Using A Data Driven Approach | Seed To Harvest Ep36

Welcome back everyone to Seed to Harvest, a podcast with founders, creators, and investors about their stories, frameworks, and tactics. Today I'm joined by Jamie Rhode, a vice president at Virtus Investment Management, where she's focused on venture capital, private equity, and hedge fund investment sourcing and due diligence. She joined Virtus from Bloomberg, where she held roles in both equity research and credit analysis, and there she created, managed, and leveraged an extensive extensive library of statutory and financial and market data for buy and sell-side clients that use Bloomberg to make investment decisions. So she's a— I wasn't going to call you out like this, but you're a little bit of a data dork. So I'm really excited to have your specific data-driven approach and dive deeper into that from the LP perspective today. So thanks so much for joining us.

Thanks for having me here. This is so much fun, especially because I feel like I met you a couple years back and then only got to meet you in person earlier this I know. So to be able to do this post-COVID is exciting.

Yeah, this is super fun. So I want to dig into after Bloomberg, you joined Virtus in 2015. As we were discussing before the show, this was a period of distinct change in the investing style of the family office. So you focused primarily for the first year and a half on revamping their public portfolios as they became more data-driven as a firm. So how has your experience from Bloomberg helped you apply data at, as the Virtus Family Office investing has evolved over the past 7 years?

So while I was at Bloomberg, I got exposure to a lot of different departments and got to do a lot of research, but I really wanted to learn how to make investment decisions. And so when I joined the family office, it's really when we started to become a lot more data-driven. And so Having that data analytics and research background, and I will tell you a key theme at the firm is having intellectual curiosity, really allowed me to fit in well. And, you know, spending the first year and a half or so revamping the public markets portfolio kind of flipped my head upside down and realizing what I learned in the CFA and in academia wasn't actually applicable to the way we were investing. It was super exciting. And then I started to see kind of the results pan out and realize, okay, being more data-driven, you know, testing out hypotheses, testing out theories, you know, has benefits. And so then, you know, in 2016, 2017, we shifted over to venture and started to become a lot more data-driven then. And that's really when we started to invest in early-stage venture just because of the unique return profile.

Yeah, I think it's really interesting that you've taken being data-driven in the public markets, which I would say is, from my experience, more common in public markets versus venture. And I think Virtus has a very unique approach because of your data-driven analysis. So I'd love if you could talk a bit more about your data-driven approach to selecting investment opportunities in funds specifically. So for context for our listeners, metrics that Virtus focuses on for funds includes sub-$100 million, a low reserve or follow-on ratio, and investing in 50 companies per fund. So I would love to hear more about why those are some of the constraints in terms of your investing practice, and then what surprised you about your portfolio's performance considering that data-driven approach.

So the reason we focus on those kind of metrics is because early-stage venture is power law driven. So the mean return is significantly greater than the median return, which also turned my head upside down and took me a long time to Understand that, you know, we looked at the Burgess dataset from 1990 to 2015, and if we had invested in all, I think it's something like 885 funds, you would've gotten a 50% IRR where the median return is around a 6% or so. So we took a look at that and said, okay, can we capture the mean return of early-stage venture by sampling 20% of the US seed ecosystem, or if you translate that on a 3-year vintage period, it's about 1,200 companies, and targeting networks and geographies with consistent outlier production. You know, and that type of analysis that we did, we thought that we were going to get somewhere between 6 and 18 unicorns, but translating that into real life since that first seed program was 2017 to 2020. What surprised us most about deploying this kind of strategy is just how correlated the number of portfolio companies is as a predictor of unicorns captured. So the correlation was 75%, which means the number of portfolio companies in a fund explains 75% of the variation in the outliers captured.

Wow.

And from those 20 seed fund managers, We currently have 26 unique unicorns captured at Series A and below. So to see it translate from paper into real life and surpass the expectations and show us that type of high correlation and that number of companies really is a true predictor of outliers captured was definitely the most surprising.

Wow, that's incredible that it surpassed your expectations by like a lot as well. It wasn't like It was a pretty significant surpassing. And I'm curious on, you mentioned like investing in geographies that produce outlier returns. I'm curious when you are looking at investing in a manager, is your decision based more on their network opportunities versus maybe their portfolio structure?

You know, that's a good question. And I think another key philosophy at the office is to hold your opinions loosely. So we try not to be so narrow-minded in our thinking when sourcing managers, especially because when you're investing in early-stage venture, you're looking for outliers essentially in the variance. So I would say that for us, portfolio construction is really important because we need the GP to be taking enough shots on goal that we feel confident that they're going to capture an outlier. But we also recognize if there's certain networks and geographies that we really want to target and get access to, that we may need to adjust that. And I think a really good example is one of the first funds that we invested in was an LA-based seed manager. And we've always liked LA, about, I'd say 6 or so of our GPs are based in the LA ecosystem, but most LA-based funds don't do 50 deals and low reserves. So we realized if we want exposure to that geography or that network, that we need to be adaptable and flexible and just to cover the ecosystem, do more funds. So I'd say a perfect pairing is if I can get both of them. But we recognize that if we're going to target certain networks, like we have, we have to be flexible.

Going a bit deeper on the 50 portfolio companies in terms of the unicorn capture, I'm curious how you think about Ownership as well when you're evaluating a potential emerging manager?

Yeah, so I think for us at the family level, you know, we invest in venture and we think about it in terms of equal weighting those investments to the best of the ability. So we're starting at a higher up level because we're targeting 1,200 companies. So when we invest in GPs, we try our best to equal weight the check sizes.

Mm-hmm.

And then we think about it down to the GP level. So if I have a fund that is doing 200 deals, they're going to have lower ownership than a fund that's doing 40 to 50 deals. But I have higher expectations in terms of how many unicorns a 200-portfolio-company fund will actually get versus a 40 to 50-portfolio-company fund will get because they're going to have, you know, more ownership doing less deals. So I think for us, it's just making sure that you're taking enough shots on goal upfront and ideally grabbing as much ownership as possible because we've seen, you know, real life situations where GPs have gone into the seed round of a company and gotten 85x, and then they decided to take some other capital and follow on into, say, a Series A, and that company then gave them a 15x at the Series A. So for us, we were like, hold on, could you have grabbed more ownership at the seed round and gotten an 85x? 15x is still good. Or should you have taken the follow-on dollars and put it in another seed investment and potentially gotten another 85x? So I think there's a yin and a yang between the two, but for us, you know, making sure you are in an outlier is the number one important thing. Mm.

I feel like that's a very interesting paradox in venture is that ownership versus unicorn capture. Which I think your approach to indexing across 1,200 portfolio companies and like basically like seeing through that level, which I think is quite unique in terms of the LPs that I speak with. A lot of them think more about the specific GPs that they're evaluating. And one of the other aspects of your portfolio construction as it relates to investing in general partners is your focus on generalist approaches. So I'm curious if you can share more about why you prefer generalist approaches and then maybe use some data-driven examples there as well.

Sure. So I think for us, the key piece is having exposure to all the sectors that exist today, but also all the sectors that exist in the future. And so if we look back at, you know, 2012 when You know, it was around the time that Coinbase was getting their seed funding. If you would've said, I'm only going into sector-focused funds, you probably would've missed out on Coinbase because there was no crypto blockchain-focused fund. So for us, I think it can be really challenging to invest in a sector-specific fund just because it makes us feel like we're making a market timing bet on a specific sector. But I think we also realize that sometimes You know, some funds have a sector tilt, and as long as it's broad enough, we need to be comfortable with that. I think a good example is about a year ago we invested in a pre-seed fund that does a third hardware because we recognized in our portfolio, even though it's so vast, it was lacking hardware exposure. So those are holes that we definitely need to plug in and we're aware of. And then the only real caveat to the generalist focus Is we're huge, huge fans of life sciences. We love therapeutics and it's super unique because when you look at general tech, only 2% of startups eventually become an outlier. But on the therapeutic side, it's actually about a 10% outlier production rate.

Whoa.

And so for us, like a third of the portfolio focuses on life sciences just because, you know, you need to be a sector specialist. It is more capital intensive. It has a different outlier capture rate than general tech, so the portfolio construction there is definitely more concentrated. But it's interesting where with life sciences, you're not going to get an Uber-like outcome. You'll probably get what I would call the big winners there, somewhere between $800 million and $2 billion. But since there's more of them, it essentially puts a floor to our overall venture portfolio at the family office just because You're getting more winners, yes, at lower valuations, but they're coming back faster and we've actually seen some DPI there. And I think, you know, there is still the power law optionality where we, you know, recently invested in a fund that's giving us exposure to the CNS space. So if they're able to invest in a company that comes up with the cure for Alzheimer's, for example, there's huge upside to what that can provide.

That's super interesting. It's crazy to hear the difference in the outlier across different sectors. I'm curious if, for the context of our listeners who might not know what therapeutics are, can you explain what that means? And then if you don't mind sharing kind of like why that became a focus of yours, was it specifically because of the data or was there a mission-driven component earlier on that you dug into with the data? I'd love to hear more about that.

Yeah, I think it kind of goes back to, you know, what I had said before regarding, you know, we want exposure to all the sectors that exist today and all the sectors that exist in the future from now. And so I think, you know, to get exposure to all the sectors, therapeutics or life sciences in general really meant targeting specialists because it is more capital intensive. We talked about earlier how I was targeting $100 million or less for seed funds, but when it comes to life sciences, I'm actually probably targeting $250 million or less, and I'm seeing on average 15 portfolio companies just because the cost of startups there or the time intensity in regards to getting FDA approvals is super unique and much more differentiated than general tech where In general tech, you could be creating a piece of software or you could be creating a consumer product, but in therapeutics, that's a branch of medicine that's concerned with the treatment of diseases. And, you know, it's a treatment or a therapy or a drug. And so, you know, in regards to curing cancer, for example, or rare diseases, it takes a lot of science and knowledge to essentially be able to identify drugs that can cure You know, not just the side effects of a, of a cancer or a disease, but actually prevent it from occurring in the future. So a good example of that would be, you know, with the pandemic, you had COVID and, you know, the RNA vaccines that are out there or the J&J vaccine that's out there. That's an example of something that potentially you, you know, could have invested in in venture, given that I believe Moderna was an originally VC-backed company.

Whoa, that's super cool. It's definitely further outside of my area of expertise, so I always love hearing more about ways that venture is conducted in different industries.

That's why we go sector specialist there, because if you're investing in software-focused startups for consumer or even infrastructure and Web3, you probably don't have the background, the PhD, the MD to go invest in some rare disease.

Yeah. Yeah.

And then I'm, I'm curious, given that you invest in both generalists and then life science specialists, what common Yeah, I think that, you know, this is always a really interesting question and I feel like I'm going to answer this when, you know, you, you had said this to me before and I might get a little flack based off the market environment, but deploying capital faster. It sounds super weird. And when I say faster, I don't necessarily mean like a year. I mean like 2.5 to 3 years versus 5 years, for example. And when you think about it in terms of a 10-year fund life structure, if you write your last check into a new company in year 3, in theory, you have 7 years worth of compounding to get to a terminal value of X. But if you make your last investment in, say, year 5, you only have 5 years To get to a terminal value of X. So you need to find an investment that's compounding at a higher rate than the investment you would've made if it was your last one at year 3, just to get to the same terminal value. So I would say when you really look at our top-performing GPs, they were not afraid to deploy faster.

Mm-hmm.

But the caveat I would say is, please tell your LPs if you're going to deploy at a 2.5, 3-year pace versus saying 5 years and then at 2-year mark, hi guys, I'm back in The LPs definitely need to know and plan properly, but I really think, you know, that's an important factor when, you know, building a firm that you wanna withhold for a long period of time in the ecosystem, just because, you know, you're looking to perform and you're gonna come back and, you know, have to raise more and more funds. So I think thinking about the math part of venture Yeah. Actually really important.

Well, that is kind of a spicy take coming from the LP perspective, so I definitely appreciate it.

Only the first year. A little vintage year diversification does you good, but—

No, I, I so appreciate it. And in addition, your caveat that it should definitely be communicated with LPs if you're having any shifts in strategy, especially if it's a deployment perspective, which, you know, it is important for LPs to know that because their capital call schedule might look different. And so segueing into Kind of manager communication. What is the best way you like your managers to communicate with you after investing in them?

So I think this can also vary by LP base, but to date we haven't done any co-investing, so I don't necessarily need, you know, weekly or monthly updates. Quarterly updates are great because I recognize that it takes you time to write monthly intensely updates or even quarterly intensely updates, and that means You're not focusing on investing or you're not focusing on raising a fund. And so I prefer quarterly updates. I do like an annual meeting with a virtual option because sometimes it can really be challenging to always, you know, go ahead and go in person. We're invested in 38 different funds, so that would be a lot of annual meetings. But I would say one of my favorite things from one of our GPs is they actually use Airtable. And so they'll send out quarterly updates, but on the Airtable, if they make a new investment, I'd say it gets updated about once a month or so. And it's just high-level overview information, the fund investment name, a description, if that fund investment did receive a follow-on. And I would assume if it's public, sometimes they'll put some private information in there. There's confidentiality at the bottom. I'll get some details on who the follow-on investors are and who the co-investors are, because that's really important to us. A key part of our strategy is to front run those big brand names that capture a large share of the outliers at the later stages. So I think it's super beneficial just to get, keep it high level, precise, to the point. And if you have some interesting value-add tidbits or news articles that are related to some of your fund investments, you can definitely add that into the quarterly letter. But I think because we don't do co-investments, We're not here to micromanage you guys. We just rely on you for, for telling us what's happening in the marketplace and for GP introductions.

Yeah. Yeah. I, I, I really appreciate your perspective on that. And I think that the Airtable is really useful because like you said, it gives you a lot of perspective into the sectors and front running those big brand names. And I'm, I'm curious, what do you, oh, actually I wanted to touch on one point that you talked about before the show, which was That every LP is different, and so they might prefer a different style of being updated. And I wanted to call out, like, go back to what you said that I think is super important for anyone listening that is thinking about writing LP updates is that because Virtus doesn't do co-investment opportunities, I think in part because you index across those 1,200 companies, that is something that might be preferred by a fund that does more co-investing. So they might want more information on co-investing opportunities and more rapid updates because they're working like alongside you to invest, whereas for you all, you're indexing the market. And so for you, it's important to know what the market dynamics are at play, but maybe not necessarily like a very rapid cadence of co-investing updates. Is that, is that right? Yeah.

And I would say, you know, when we invest in a GP, we've definitely gotten like an online form that said, are you interested in co-investment? If you are, at what stage, at what check would you write? Is there specific sectors? And I think that's a great way for GPs to funnel out in the beginning if a certain LP is interested in co-investments. And if they are, you know, is it a specific sector or is it a specific stage that they're interested in?

I love that. We do that broadly across folks that we co-invest with, and then we'll tag if they're LPs or not. And I, I think that it's been really helpful because sometimes someone might not be top of mind, but then you chat with the founder and you're like, oh, this would be like the perfect opportunity for this person and our co-investor. We call it a co-investor concierge. Um, so I'm curious, what, what else do you wish that GPs knew coming from the LP perspective?

So I think there's 2 key distinctions there, and I believe they're more related to family office world, especially 'cause I think that that's a pretty opaque world. So I'm happy to kind of open the kimono a little and say, When you meet one family office, you meet one family office, but there's 2 different types of family offices. One family office could be still involved in an operating business and receiving cash flow from that operating business. So they're receiving, you know, money monthly or quarterly that they need to actively deploy. So they could always have every quarter, for example, $25 million of cash coming in that has to be deployed. Then there's another type of family office that's far removed from an operating business and just has a pool of capital that gets invested. We are the latter. So for us, because we've been around since 2004, to fund capital calls, I essentially need distributions. And so you really have to think about kind of the cash flow planning piece of that. And I think it's important for GPs to understand that and really talk to their prospective LPs or current LP base about how that works. Because, you know, especially early stage venture is a very long game. So commitments that I've even made 4 or 5 years ago may not be able to help fund commitments that I'm making in 2023. I also think related to family offices, especially because we pay taxes, that I think GPs need to understand and talk to the LPs about is how important is tax reporting to you and reporting schedules and the operational know-how that, that comes with that responsibility of taking on LPs that pay taxes, just because we invest in you guys, you know, for great returns. And some of us are for co-investing and some of us are to get access to getting on the cap table. But, you know, making sure the reporting schedules are on a timely manner is super, super important. And not all LPs care about that because they don't pay taxes, but family offices and high net worth individuals do. And so I think the importance of reporting is, is very important. Yeah.

Yeah. I, I think that that's really interesting that you brought it up in the context of you all as a family office pay taxes. I'm curious if you could explain maybe to folks who aren't as familiar, they might've been like, who doesn't pay taxes? I'm like, who doesn't pay taxes in the LP world?

Yes. So then when you think about it from like an endowment or foundation perspective, they don't have to pay taxes, but Especially for emerging managers, you could be raising from angel investors, high net worth individuals, or family offices. And to even peel the layer back even more, some of the trusts that we manage are foundations of themselves. And so they're not necessarily paying taxes because they're focused on charity. But, you know, as an individual, even, you know, as myself, I'm lucky enough to have the opportunity to co-invest alongside the family. And so I have to pay taxes. And so I think it's really important to getting the reporting piece back because, you know, venture is a long game and I think it becomes really challenging too when you are a seed stage manager and you have some companies that make it to the later stage and you can't just necessarily rely on the last round of funding for valuation.

Yeah, yeah, yeah. We've definitely seen that across our Portfolio. We have in Fund 1, we have 120 LPs, most of whom are high net worth individuals or funds that also have to produce what are called K-1s to their investors. So we were like, all right, we gotta get 'em out by like March 25th on the dot. Thank you.

I love that.

But, but yeah, I'm curious, like on your, on your time schedule, like what is, well, yeah, when do you want those reports or like when is best for you? Obviously earlier is better, but In the, in the scheme of like tax a fiscal year.

Yeah. And I, for us, that I should say is on us to make sure that your LPA provides the K-1s in a timely manner. So, you know, that's part of the initial due diligence that we do and we'll look into the LPA and it says X amount of days after quarter end or, or, you know, after year end. And, you know, that's on us to say, okay, we're comfortable with that timeline. But I think a key piece of, of what's happened more recently is that, you know, especially early stage managers or emerging managers hire outsourced service providers and, you know, you can't fully rely on them to get the audits and valuation pieces done. So we've seen, you know, not just in our portfolio, but we've chatted with other LPs that the LPA says a certain amount of days after, you know, year end, and then the GP's reporting Way past that date. And so I think that's, that's the key piece of it.

Got it. All right. And last question as we're wrapping up here, what key benchmarks and advice should emerging managers keep in mind for 2022 and 2023 to set them up, set themselves up for success in raising?

I would say, you know, it's really important to not get swayed by the hot takes. that are out there. We ran a regression model comparing early-stage venture returns back to the 1980s against the public markets and US GDP, and there's little to no correlation there.

Whoa.

So if you are worried about a market pullback or valuations, like, no, keep your head down, stay focused, do what you do best, which is investing. And I think it's really important to, again, look at the math and look at the data, and that should give you the validation that you shouldn't take a pause necessarily in your investing just because you're worried about market conditions. Like, that's data that goes back to the '80s.

Whoa, that's crazy. I feel like intuitively I've felt that way, but it's insane to hear the data supports that there's like little to no correlation between those returns in the public versus It's wild.

And I think for, you know, comparing it to the US public markets, you know, that makes sense to me because when you're investing at seed, it takes, you know, 8 to 10 years for an outlier to emerge and exit. So it does make sense that today's market environment shouldn't impact the exit environment. The GDP one I found, you know, a little more interesting, but it just also gives us comfort that investing in venture as a whole provides diversification benefits to the overall asset allocation. You know, for the family office, and so you know it's always nice to you know see your intuition play out with the data. And speaking of intuition, I would say that my last piece of advice is just because you can't get your ideal check size doesn't mean that you should pass on an investment opportunity. It's better to own 0.5% of a stripe than 0% of a stripe, and we've seen. You know, similar situations in our own portfolio where we've had a fund manager make a $75K investment into a startup that ended up turning into a $30.5 million position, which was larger than his whole fund. And so just because it's tiny doesn't mean it can't have an impact on your fund. And, you know, as you're fundraising and maybe you haven't done your final closes, If you're not sure about the ideal check size that you want to write, it's okay to downsize it and take a smaller investment in a startup that you think is great, even though it may not match the ideal target for a total raise.

Awesome. Well, Jamie, thank you so much for joining Seed to Harvest today. And for anyone listening, if this was interesting for you, it sure was interesting for me. If you would like to connect with Jamie, please visit her LinkedIn page. I'll drop it in the show notes below, but I so appreciate you. Sharing your perspective, I learned a lot of new things today. I think the little to no correlation one was quite mind-blowing, honestly, to hear. So I so appreciate you sharing your perspective and your time. And yeah, thank you for coming on.

Thank you for allowing me to be a data junkie on your show.

Of course. Thanks so much for tuning in today to Seed to Harvest. If you enjoyed this episode, be sure to subscribe wherever you're. favorite podcast listening platform is. I'll be releasing new episodes weekly, and if you have any questions or comments, feel free to let me know on Twitter. That's Paige Finn, Paige and then Finn with 3 N's. Thanks, and see you again next week. Bye.