Reserves Are A Scam

How venture capital’s most sacred rule quietly destroys returns.

If you spend enough time around venture capitalists, you’ll notice how often they say the same things. ‘We invest over a three-to four-year period.’ ‘We hold back a third of the fund for follow-ons.’ ‘We back our winners.’

It all sounds rational, responsible even. The kind of financial discipline one would expect from people trusted with hundreds of millions of dollars to invest into risky startups. But once you start to peel it back, the logic becomes less clear.

Reserves, the portion of a fund held back for follow-on investments, are less a strategy and more a story. A narrative that helps VCs feel in control in an industry built entirely on uncertainty. And like most good stories, it hides a more uncomfortable truth.

A Manager Doesn’t Invest In All of Their Assets On Day One

In venture, a manager doesn’t invest in all of their assets on day one. A portfolio is built gradually, typically over three to four years, or as opportunities emerge. It sounds sensible: time lets one stay selective, choose the best opportunities, and respond to new trends. But the unavoidable consequence is that companies are never on the same trajectory at the same time.

The first investment might already be scaling revenue when the last is still sketching its product roadmap. One is hiring its first VP of Sales while another hasn’t even launched. The entire portfolio moves on different timelines. It makes it almost impossible to know which company will become the breakout without the benefit of hindsight. A manager never sees the full group on day one and so judgement is passed across time, not in parallel.

So when managers talk about ‘reserving for the best performers,’ it assumes they’ll somehow know who those are before the full picture has even formed. This is objectively impossible.

Startups Grow at Different Speeds

Then there’s the great myth of venture capital: the idea that you can identify your winners early and double down. Startups grow at different speeds. Company #5 is looking like a rocket ship after six months, whilst company #12 may take two years to get there, quietly building something less glamorous but more durable long term.

Funds reserve for the rockets, but the rockets are just the early risers. The true outlier might still be under construction or yet to be sourced. One does not know who the winners are until it’s too late to buy more of them. By the time is is known, someone bigger is already writing the next check.

Good Luck Getting the Money In

Even if one does identify the breakout, good luck getting the money in. The moment a company becomes hot, the megafunds descend. A16z, Sequoia, GC, Coatue come with $100 million round offers with one rule: they take it all. The carefully modelled ‘pro rata rights’ don’t mean much when a founder’s term sheet and round structure is dominated by a blue-chip logo. Reserves give the illusion of control but in a market driven by power and speed, they mostly sit idle.

Every dollar sitting in reserves is a dollar that’s not compounding. Venture outcomes follow a power law: one or two companies drive the fund. The earlier one owns more of the right one, the more the math bends in one’s favour. If an outlier is identified, all that matters is how much one owns before the rest of the world notices.

So when a fund says, ‘we hold back 30% for follow-ons,’ what they’re really saying is, ‘we’re willing to own 30% less of the things that actually matter.’ The opportunity cost is staggering and rarely acknowledged.

Ownership Is the Only Hedge That Matters

Let’s make it simple.

Fund A invests $1 million in company #10 and holds $1 million for company #10 in reserve.

Fund B invests the full $2 million upfront in company #10.

If the company fails, both lose the same. If it wins, Fund B crushes Fund A because ownership compounds faster than optionality. Those seeking to manage risk via reserves are actually merely diluting their conviction. In venture, the best hedge isn’t caution but upfront ownership.

Reserves make people feel safe. They fit neatly into LP memos and portfolio dashboards. They look thoughtful yet behind the curtain, follow-ons rarely come from deep conviction. They come from social proof: the company raised, the press noticed, the partner got FOMO. What was once thought of as disciplined strategy looks more and more like reactive social behaviour.

Although Benchmark have been doing a no reserve strategy for a long time, it is rare. Some emerging managers I’ve met are quietly breaking the reserve rule. They buy more upfront. They price uncertainty. They design portfolios that don’t depend on getting allocation later, because they know they probably won’t. They’re not waiting for clarity from others that a company is their outlier, they’re betting on conviction from the beginning. Because in venture, you don’t get paid for knowing, you get paid for believing before everyone else does.

LPs often applaud reserve discipline as prudence, when it’s really a form of procrastination. It feels safer to back managers who model tidy follow-ons than those who admit they don’t know which company will break out. But the truth is, conviction beats caution every time. The funds that outperform aren’t the ones holding back for later, they’re the ones already all in.