Mailbag: Structuring Your Alternative Investments, the Most Indispensable Founder Quality

Q: What percentage of an overall portfolio should people invest into startups, crypto and cannabis stocks?

A: It ultimately depends on your risk tolerance, time horizon (when you plan to retire) and views on the market. But I’ll give some general guidelines based on common sense. They won’t apply to everyone.

Cryptocurrency: This should be 1% to 3% of your portfolio. Cryptocurrency is a very high-risk, high-reward investment. And prices are volatile. If you keep your exposure this low, you won’t get burned badly if a bear market happens (like the current one). We recommend a buying strategy that uses dollar-cost averaging (buy the same amount every week or month) to smooth out prices paid.

Startups: This should be about 10% to 15% of your portfolio. Start slow and take advantage of the low minimum investments on equity crowdfunding sites. You can often invest in a startup with as little as $50 to $100. Before equity crowdfunding, minimum investments in startups were usually $10,000-plus, and millions for an advanced startup. And that’s if you could get access to the deal.

Invest in 10 to 20 startups over a year or so, and reassess at the end of it. You’ll have learned a lot at the end of that first year. And if you track the company’s progress, you’ll start figuring out how to spot winners.

Cannabis: Personally, I treat cannabis like any other aggressive growth investment. I base my investment level on how excited I am about the opportunity and outlook. I believe the outlook for cannabis is bright, so I’ve invested around 10% of my portfolio across a dozen or so companies (mostly public). I think 10% is a good upper limit for most people in cannabis. There is still a fair amount of risk, and not every company’s going to be a winner in the long run.

But the opportunity is tremendous. You could actually make the case for a higher allocation. The illicit cannabis market is roughly $200 billion annually. And it’s just starting to go legit. And we’re at the very beginning of a medical cannabis boom. So as long as you have a system that works for finding good pot stocks, I think investing 10% or so is reasonable (as long as you’re buying and holding quality investments).

Cannabis is especially attractive considering the alternatives right now. We appear to be heading into a global slowdown, and cannabis is one of the few industries that I know will grow every year for the next 20 years.

+ Early Investing Co-Founder Adam Sharp

Q: You’ve dealt with a lot of founders. Which quality do you think is the most indispensable?

A: This would be so much easier if you asked which three are the most important. Easier still if you wanted my pick of five key characteristics. Alas, you’re making me think extra hard on this one. But if I had to choose just one…

I’d pick an unerring business sense.

I can’t imagine a founder being successful without knowing how to run and grow a business. Nor can I imagine anybody developing such a keen sense of business just from books or pursuing an MBA. The most important teacher isn’t a professor from Wharton or Yale. It’s experience. And I’d argue for every 20-something person who grows a small company into a global one, there is an incredible mentor and/or board of directors backstopping their efforts (hello, Mark Zuckerberg!).

How do I identify a top-notch businessman from the dozens I interview?

First off, I look for a record of entrepreneurial success. A track record is not hypothetical. It’s tangible. The good ones shine without explanation. The bad ones can’t be explained away, and founders who try just dig a deeper hole for themselves.

The next best thing is what a founder has done so far with their startup. Why did they make the decisions they did? What went wrong and why? I feel honesty, humility and an admission that not every choice has been successful go a long way.

A founder’s growth model must also make business sense. Founders should clearly state what it’s going to take to make their startup a success. I like straight talk here, not a 30-minute dissertation on the four categories of acquisition loops and their subtypes.

Let me quote Mark Lynn, the co-founder of Digital Brands Group (DBG), one of my favorite companies (and the only one recommended three times to our First Stage Investor members): “To become truly sustainable, we’ll have to increase our customer lifetime value to $200. We were at $100. Now we’re doing $180. At $200, we’ll have the margins to generate increasing profits as we expand.”

This is a businessman talking brass tacks. Mark’s unerring business radar is one of the reasons we’re so bullish on DBG’s prospects. Its last-reported customer lifetime value was $369. And, just like Mark predicted, it has ignited company growth.

That’s why business sense is the No. 1 quality to look for in a founder.

+ Early Investing Co-Founder Andy Gordon