The power law in VC - why portfolio construction matters in venture

Why portfolio construction matters in venture

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The power law in venture - why VC behaves differently, and why portfolio construction often matters more than trying to pick “the one winner.”

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Venture capital has historically exhibited high outcome dispersion. That dispersion is becoming more visible in Australia as capital returns selectively rather than broadly.

Funding has recovered in aggregate terms, but capital is concentrated in fewer rounds and larger cheques. This is observable in 2025 data and reflected in market reporting.

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A practical framing:

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In venture, realised outcomes are often shaped less by the frequency of correct selections and more by exposure to a small number of disproportionately large winners.

Portfolio construction is the mechanism through which that exposure is managed.

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This is general information only, not financial advice or a recommendation.

The structural feature: power-law outcomes

Cambridge Associates has reported that nearly 90% of venture value creation has historically been driven by the top 10% of companies within the asset class. That concentration is not unusual in venture; it is structural.

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The implication is not predictive — it does not identify future winners.

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It does highlight observable characteristics:

• A majority of companies do not drive meaningful fund-level returns.
• Even established managers experience write-offs and modest exits within portfolios.
• Fund-level outcomes are often influenced by a limited number of outliers.

This distribution is one reason venture behaves differently from more normally distributed asset classes.

(Source: Cambridge Associates, Venture Capital Index commentary.)

Selection versus structure

Manager skill matters. However, early-stage investing operates under structural constraints:

• Information asymmetry at entry.
• High attrition between seed and later rounds.
• Dependence on follow-on capital availability.
• Vintage-year effects linked to macro and liquidity cycles.

Industry data on seed-to-Series A progression rates underscores the attrition dynamic in early-stage ecosystems. Outcomes are probabilistic rather than deterministic.

From an allocator’s perspective, this shifts focus from identifying a single winner to structuring exposure across multiple independent sources of return.

Australia: concentration in recovery

The State of Australian Startup Funding 2025 reported approximately $5.1B raised across 390 deals in 2025 (up year-on-year), with a growing share of capital concentrated in larger rounds.

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Forbes Australia reported:

• ~$2B raised in Q4 2025 alone,
• AI-related companies accounting for over $1B of funding,
• The 20 largest deals representing ~58% of total capital raised.

These figures illustrate concentration not only in outcomes, but in capital deployment patterns.

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When capital concentrates:

• Vintage dispersion can widen.
• Exposure gaps can become more material.
• Access dynamics become more relevant.

(Sources: State of Australian Startup Funding 2025; Forbes Australia coverage.)

Institutionalisation of Australian venture

The Financial Times reported that US institutions, including MetLife and Harvard Management Company, participated in Airtree’s recent fundraise. Airtree has disclosed Fund V at $650M, with more than half of capital from global institutional investors.

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The significance is structural rather than thematic: deeper capital pools increase competition for allocation in oversubscribed rounds.

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As markets institutionalise, access, manager networks and allocation discipline become increasingly relevant variables.

(Source: Financial Times reporting on Airtree Fund V.)

Portfolio construction as risk architecture

Diversification in venture addresses three concentrations:

1. Outcome concentration (power-law distribution).
2. Access concentration (who participates in high-demand rounds).
3. Timing concentration (vintage effects and exit cycles).

Portfolio construction typically operates across:

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1) Manager construction (within fund)
Portfolio size, ownership targets, reserve ratios and pacing materially affect return profiles.

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2) Manager selection (across funds)
Academic and industry research shows significant dispersion in venture fund performance, particularly in early-stage strategies.

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3) Vintage construction (across time)
Venture returns are sensitive to entry and exit cycles. Institutional allocators often treat venture as a multi-vintage program rather than a single-year allocation.

Fund of Funds: structural function

A venture Fund of Funds aggregates exposure across multiple managers and vintages. Structurally, the purpose is to reduce reliance on any single fund’s portfolio or a single deployment year.

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The Australian Government’s Australian Venture Capital Fund of Funds (AFOF) program was explicitly designed to invest across portfolios of registered venture capital partnerships (VCLPs/ESVCLPs), reflecting diversification as a policy objective.

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Trade-offs remain observable:

• Additional fee layers.
• Governance can add complexity.
• Potential portfolio overlap across managers where there is insufficient diversification.
• Liquidity issues, whilst persistent can be mitigated.

These are structural attributes of the model.

(Source: Australian Government AFOF program documentation.)

Larger private rounds and institutional participation

In January 2026, Gilmour Space Technologies announced a $217M Series E round, jointly led by the National Reconstruction Fund Corporation and Hostplus, with participation from Future Fund and HESTA.

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This illustrates that:

• Later-stage Australian private companies can attract significant institutional capital.
• Sovereign and strategic capital is active in selected sectors.
• Companies are remaining private for longer with larger capital bases.

Other growth rounds (e.g., Splose’s Series A in February 2026) demonstrate that capital remains available, but selectively.

(Sources: Company announcements and Australian financial media reporting, January–February 2026.)

Liquidity dynamics and secondaries

ASIC has publicly noted the structural shift between public and private markets, including lower IPO volumes relative to prior cycles and growth in private market participation. It has also initiated a two-year trial aimed at streamlining aspects of the IPO process.

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Where IPO pathways are extended, secondary transactions become a more prominent portfolio management tool.

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Evercore reported global secondary transaction volumes exceeding US$200B in 2025, indicating scale in that segment. EY has noted growing interest in Australian secondaries, while describing the local market as less mature than the US and Europe.

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Liquidity infrastructure is evolving. Illiquidity remains inherent.

(Sources: ASIC public statements; Evercore secondary market report 2025; EY Australia private markets commentary.)

Structural capital in Australia

APRA reported total superannuation assets of approximately $4.5T as at September 2025.

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Large superannuation pools typically allocate through diversified, multi-year programs:

• Budgeting exposure by asset class.
• Pacing commitments across vintages.
• Diversifying manager risk.
• Managing liquidity profiles at portfolio level.

In that context, venture exposure is often considered within a broader portfolio construction framework rather than as a single-point selection exercise.

(Source: APRA quarterly superannuation statistics, September 2025.)

Key observations

• Venture returns exhibit power-law concentration (Cambridge Associates).
• Australian funding in 2025 recovered in aggregate but concentrated in larger rounds (State of Funding; Forbes Australia).
• Global institutional capital is increasingly active in Australian venture (Financial Times; Airtree disclosures).
• Liquidity conditions remain cyclical and policy-influenced (ASIC).
• Secondary markets are scaling globally (Evercore) and developing locally (EY).
• Portfolio construction, across managers and vintages, is a structural response to dispersion and concentration within the asset class.

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